Arbitration: Supreme Court Reverses Fourth Circuit Order Compelling Arbitration in Vaden v. Discover Bank (Web)

Today's U.S. Supreme Court split decision in Vaden v. Discover Bank, et al., No. 07-773 (March 9, 2009)((available here), holds that federal courts may "look through" to pleadings for jurisdiction over Federal Arbitration Act Section 4 cases requesting orders to compel arbitration that originally were brought in state courts. 

But the Court reversed a Fourth U.S. Circuit Court of Appeals decision that sent to arbitration a case Discover Bank originally filed in a Maryland state court to collect a debt. 

The Court held that federal courts can't assert FAA §4 jurisdiction "based on the contents of a counterclaim when the whole controversy between the parties does not qualify for federal-court adjudication."

In a majority opinion written by Associate Justice Ruth Bader Ginsburg, the Court found that federal courts may “look through” an FAA §4 petition to enforce an arbitration agreement to determine “whether it is predicated on a controversy that ‘arises under’ federal law.”

In the opinion, Ginsburg writes that FAA & 4 petition to enforce an arbitration agreement to determine “whether it is predicated on a controversy that ‘arises under’ federal law.”

In the opinion, Ginsburg writes that FAA §4 “instructs district courts asked to compel arbitration to inquire whether the court would have jurisdiction, ‘save for [the arbitration] agreement,’ over ‘a suit arising out of the controversy between the parties.’”

FAA §4 states that petitions to compel arbitration may be brought before “any United States district court which, save for such agreement, would have jurisdiction under title 28 [on general federal procedures]. . . of the subject matter of a suit arising out of the controversy between the parties.”

But the Court found that the Fourth Circuit went too far in accepting jurisdiction in the case.  In Vaden,  Discover Bank had filed a suit in Maryland court against a delinquent credit card holder, who counterclaimed that Discover’s finance charges, interest and late fees violated state law.

Vaden later conceded, and the Fourth Circuit reasserted after an analysis, that the counterclaims were preempted under federal banking laws.  In reversing the Fourth Circuit, Ginsburg wrote

    [F]ederal jurisdiction cannot be invoked on the basis of a defense or counterclaim. Parties may not circumvent those rules by asking a federal court to order arbitration of the portion of a controversy that implicates federal law when the court would not have federal-question jurisdiction over the controversy as a whole. It does not suffice to show that a federal question lurks somewhere inside the parties’ controversy, or that a defense or counterclaim would arise under federal law. Because the controversy between Discover and Vaden, properly perceived, is not one qualifying for federal-court adjudication, §4 of the FAA does not empower a federal court to order arbitration of that controversy, in whole or in part.


The reversal, Ginsburg points out, leaves Discover Bank with the option of enforcing the arbitration agreement in state court—where the credit card issuer originally chose to litigate.

For a summary of the Vaden facts, see the CPR News archive here.

The Court today was split.  Associate Justices Antonin Scalia, Anthony M. Kennedy, David H. Souter, and Clarence Thomas joined the Ginsburg opinion.

Chief Justice John G. Roberts Jr. filed an opinion that concurred in part and dissented in part, and was joined by Associate Justices John Paul Stevens, Stephen G. Breyer, and Samuel A. Alito Jr.

Roberts agreed with the Ginsburg majority opinion on the “look through” jurisidiction point, but wrote that the Court's view on FAA §4 jurisdiction was too broad.  “Instead of looking to the controversy the §4 petitioner seeks to arbitrate, the majority focuses on the controversy underlying that complaint, and asks whether ‘the whole controversy,’ as reflected in ‘the parties’ state-court filings,’ arises under federal law.”  (Emphasis is in the opinion.) The chief justice states that the focus of the sequence of the state court claims’ origination is mistaken.

Writes Roberts,

    The far more concrete and administrable approach would be to apply the same rule in all instances: Look to the controversy the §4 petitioner seeks to arbitrate—as set forth in the §4 petition—and assess whether a federal court would have jurisdiction over the subject matter of a suit arising out of that controversy.

Roberts appears to be referring to the fact that Discover Bank sought only to arbitrate the fraud allegations, not the debt's existence.  The dissent indicates that the jurisidictional standard should be that the assessement is based on the same controversy used to petition the court to compel arbitration, not the whole controversy.

     

In her majority opinion, Justice Ginsburg countered that

    The dissent would have us treat a §4 petitioner’s statement of the issues to be arbitrated as the relevant controversy even when that statement does not convey the full flavor of the parties’ entire dispute. Artful dodges by a §4 petitioner should not divert us from recognizing the actual dimensions of that controversy.

The majority opinion continues:

    As the dissent would have it, parties could commandeer a federal court to slice off responsive pleadings for arbitration while leaving the remainder of the parties’ controversy pending in state court. That seems a bizarre way to proceed. In this case, Vaden’s counterclaims would be sent to arbitration while the complaint to which they are addressed—Discover’s state-law-grounded debt-collection action—would remain pending in a Maryland court.When the controversy between the parties is not one over which a federal court would have jurisdiction, it makes scant sense to allow one of the parties to enlist a federal court to disturb the state-court proceedings by carving out issues for separate resolution.

    *  *  *


In its first opinion on the issues, the Fourth Circuit had held that the federal question does not need to appear on the face of the motion to compel arbitration but may arise from the underlying substantive dispute. The Fourth Circuit remanded for determination of whether on a “look through” analysis there was a federal question in the underlying dispute of this case.

On remand, the district court determined that all of Vaden’s state claims were preempted by the Federal Deposit Insurance Act and thus were sufficient to provide subject matter jurisdiction to compel arbitration. On a second appeal, the Fourth Circuit affirmed that the arbitration was properly compelled.

In the petition for certiorari and subsequent brief, Vaden had argued that the Fourth Circuit upset Congressional intent in enacting the FAA that  placed arbitration agreements on equal footing with other contracts.

The Scotusblog’s wiki page has the briefs here. The Court's Vaden argument transcript, from the Court's opening day of the current term on Oct. 6, is here.
 

--By Russ Bleemer, Editor, Alternatives and Jason Frank, CPR Intern