Class Action Waivers: California State Law on Class Action Waivers Is NOT Preempted by FAA (Web)

Discover Bank v. Christopher Boehr (Cal. 2005). Plaintiff Christopher Boehr held and used a credit card from Discover Bank, the defendant.  In this credit card contract, there was a choice of law clause, choosing Delaware substantive law.  After years of use, Discover Bank added an arbitration clause that read:
 
NOTICE OF AMENDMENT…WE ARE ADDING A NEW ARBITRATION SECTION WHICH PROVIDES THAT IN THE EVEN YOU OR WE ELECT TO RESOLVE ANY CLAIM OR DISPUTE BETWEEN US BY ARBITRATION, NEITHER YOU NOR WE SHALL HAVE THE RIGHT TO LITIGATE THAT CLAIM IN COURT OR TO HAVE A JURY TRIAL ON THAT CLAIM.  THIS ARBITRATION SECTION WILL NOT APPLY TO LAWSUITS FILED BEFORE THE EFFECTIVE DATE.  NEITHER YOU NOR WE SHALL BE ENTITLED TO JOIN OR CONSOLIDATE CLAIMS IN ARBITRATION BY OR AGAINST OTHER CARDMEMBERS WITH RESPECT TO OTHER ACCOUNTS, OR ARBITRATE ANY CLAIM AS A REPRESENTATIVE OR MEMBER OF A CLASS OR IN A PRIVATE ATTORNEY GENERAL CAPACITY. (Emphasis supplied.)
 
This agreement also stipulated that the FAA would govern the provision.  This was a unilateral amendment and Discover Bank stipulated that continued use of the card constituted acceptance of its terms. 
 
On August 14, 2001, Boehr filed a class action suit in California State Court against Discover Bank claiming breach of contract and “violation of the Delaware Consumer Fraud Act (Del. Code Ann., tit. 6, §§ 2511-2527).” 
 
Discover Bank moved to compel individual arbitration pursuant to the arbitration agreement governed by the FAA, requiring “enforcement of the express provisions of an arbitration clause, including class action waivers.”  Boehr opposed the motion, stating the class action waiver in the arbitration agreement was unconscionable and unenforceable according to California law. 
 
Appling Delaware law, the trial court granted Discover’s motion to compel arbitration.  Shortly after that decision, Szetela v. Discover Bank, 97 Cal.App.4th 1094 (2002.) was decided by the Fourth District Court of Appeals.  This case held that an identical provision was unconscionable.  Boehr moved for reconsideration and the trial court found that Szetela was controlling, and therefore, the class action waiver in this arbitration provision was unconscionable and unenforceable under California law.  The trial court then “concluded that enforcing the class action waiver under Delaware law would violate a fundamental public policy under California law as articulated in Szetela.”  This ruling allowed Boehr to pursue class arbitration. 
 
The Court of Appeals agreed that a waiver of class arbitral rights, in some circumstances under California law, is unenforceable.  The Court of Appeals also agreed that California law could override Delaware law in these circumstances.  However, the Court of Appeals went on to state that section 2 of the FAA would preempt California law “stating Szetela had failed to adequately analyze the federal preemption issue” and validated Discover Bank’s class action waiver.  The Supreme Court of California granted review. 
 
In its review, the Supreme Court held that under California law, class action waivers found in consumer contracts of adhesion are unconscionable when the waiver is found to intentionally deter consumers from pursuing redress over relatively small amounts of money arising from disputes from the contract. 
 
The Supreme Court disagreed with the Court of Appeal’s conclusion that the FAA preempts California law prohibiting arbitral class action waivers, basing its decision on United States Supreme Court precedent.  In Perry v Thomas, 482 U.S. 483 (1987), the  U.S. Supreme Court held that the FAA preempts state law when arbitration is singled out.  However, if the issue concerns the “validity, revocability, and enforceability of contracts,” state law is applied. The same general contract law principles apply to contracts with or without arbitral clauses.
 
In this case, “the principle that class action waivers are, under certain circumstances, unconscionable as unlawfully exculpatory is a principle of California law that does not specifically apply to arbitration agreements, but to contracts in general.”  The unconscionability claim was based on California law; therefore, based on Perry, the FAA does not preempt, and California law may apply. 
 
Discover Bank also put forward Gilmer v. Interstate/Johnson Lane Corp., 500 U.S. 20 (1991), which holds that an individual party may still seek redress under the Age Discrimination in Employment Act(ADEA) even if a class action is not available.  The court found that Gilmer does not support Discover’s contention that individual arbitration should be compelled because large sums are often awarded in discrimination cases.  California state law protects claimants seeking small damages who might otherwise be deterred if class action was not available. Keeting v. Superior Court, 31 Cal.3d 584, 613-614 (1982).  The Supreme Court holds that a court may refuse to enforce an unconscionable term of an arbitration contract. 
 
After determining that here, the FAA does not preempt state contract law, the Supreme Court remanded the case back to the Court of Appeals to decide which state law applies, California or Delaware.  The Court stated the proper test to apply is the substantial relationship test reflected in § 187(2) of the Restatement Second of Conflict of Laws.
 
Three judges concurred in the portion of the opinion holding that “federal law does not compel enforcement of contractual class action waivers simply because they are contained in arbitration agreements.”  The same three judges dissented in “the use of this case as a vehicle to resolve the issue of California’s policy on class action waivers” because the issue was not decided by the Court of Appeal and because the issue should have been rendered moot when the parties reasonably agreed Delaware law governed. 
 
The opinion may be found at http://www.courtinfo.ca.gov/opinions/documents/S113725.DOC
 
Keywords:  Arbitration, Clauses, Class Actions, Legislation,