Ninth Circuit holds that Federal Arbitration Act preempts California’s AB 51
On February 15, 2023, a divided panel of the Ninth Circuit Court of Appeals delivered a significant victory to California employers by finding that the Federal Arbitration Act (FAA) preempts California’s effort to impose criminal and civil sanctions on employers who require mandatory arbitration agreements as a condition of employment.
In Chamber of Commerce of the United States of America v Bonta, ___ F.4th ___, 2023 WL 2013326 (9th Cir. Feb. 15, 2023), a 2-1 majority concluded that the FAA preempts California Assembly Bill 51 (AB 51) because AB 51 stands as an obstacle to entering into arbitration agreements and places such agreements on unequal footing with other types of contracts.
Assembly Bill 51
In October 2019, California Governor Gavin Newsom signed AB 51 into law, which added Section 432.6 to the California Labor Code. Section 432.6(a) purported to prohibit employers from requiring job applicants and employees to waive, as a condition of employment, the right to litigate certain claims in court. Section 432.6(b) prohibited employers from threatening, retaliating or discriminating against, or terminating any job applicant or employee for refusing to consent to such a waiver. “AB 51 also bars employers from using an employment contract that requires the employee to take an affirmative step in order to opt out of an arbitration agreement.” Chamber of Commerce, 2023 WL 2013326, at *4 (citing Cal. Labor Code § 432.6(c)).
By enacting AB 51, the California legislature expressly intended to sidestep US Supreme Court precedent and avoid FAA preemption by only regulating the formation of an arbitration agreement, but not affecting a fully formed arbitration agreement itself. To that end, AB 51 provides: “Nothing in this section is intended to invalidate a written arbitration agreement that is otherwise enforceable under the [FAA].” Cal. Labor Code § 432.6(f).
AB 51 also contained two penalty provisions. First, AB 51 made it an “unlawful employment practice” for an employer to violate Section 432.6, thus creating civil liability. Second, AB 51 created criminal penalties for employers who violate Section 432.6 by classifying a violation as a misdemeanor subject to imprisonment up to 6 months, a fine up to $1,000 or both.
In practice, Section 432.6 would have exposed employers to civil and criminal penalties if they required job applicants or employees to enter into arbitration agreements as a condition of employment or continued employment, or if employers retaliated against job applicants or employees who refused to enter into such an agreement.
Injunctive relief
In December 2019, a coalition of trade associations and business groups (collectively referred to herein as the Chamber of Commerce) sought declaratory and injunctive relief on the grounds that the FAA preempts AB 51. On December 30, 2019, two days before Labor Code section 432.6 was to take effect, the Eastern District of California granted the Chamber of Commerce’s motion for a temporary restraining order, enjoining the State of California from enforcing Section 432.6.
On February 7, 2020, the district court issued a preliminary injunction, concluding that “AB 51 is preempted by the FAA because it singles out arbitration by placing uncommon barriers on employers who require contractual waivers of dispute resolution options that bear the defining features of arbitration” and because the penalties imposed for violating the law interfere with the FAA. Chamber of Commerce of United States v Becerra, 438 F.Supp.3d 1078, 1099-1000 (2020).
The State of California appealed, challenging the district court’s conclusions that AB 51 was preempted by the FAA and that the Chamber of Commerce was therefore likely to succeed on the merits.
Ninth Circuit initially finds the FAA does not preempt AB 51
In September 2021, the Ninth Circuit issued a 2-1 decision reversing in part the district court’s injunction. That decision, written by Tenth Circuit Judge Carlos Lucero, sitting by designation and joined by Circuit Judge William Fletcher, concluded that the FAA does not preempt AB 51 because the law does not invalidate fully formed arbitration agreements. Rather, AB 51 regulates conduct that takes place prior to the existence of any such agreement.
The majority concluded, however, that the FAA did preempt AB 51’s penalty provisions to the extent they apply to executed arbitration agreements. Circuit Judge Sandra Ikuta began her dissent by first noting California’s historic opposition to arbitration, with AB 51 yet another example of a statute unlawfully singling out arbitration agreements: “Like a classic clown bop bag, no matter how many times California is smacked down for violating the [FAA], the state bounces back with even more creative methods to sidestep the FAA.” She also criticized the majority’s conclusion, which meant “that if the employer offers an arbitration agreement to the prospective employee as a condition of employment, and the prospective employee executes the agreement, the employer may not be held civilly or criminally liable. But if the prospective employee refuses to sign, then the FAA does not preempt civil and criminal liability for the employer under AB 51's provisions. In other words, the majority holds that if the employer successfully ‘forced’ employees ‘into arbitration against their will,’ Senate Judiciary Committee Report at 4, the employer is safe, but if the employer’s efforts fail, the employer is a criminal.” Chamber of Commerce of United States v Bonta, 13 F.4th 766, 790 (9th Cir. 2021) (J. Ikuta, dissenting).
The Chamber of Commerce filed a petition for rehearing en banc. In August 2022, while that petition was pending and after the US Supreme Court rendered its decision in Viking River Cruises, Inc. v Moriana, Judges Ikuta and Fletcher voted to withdraw the September 2021 decision and rehear the matter.
On rehearing, the Ninth Circuit finds the FAA does preempt AB 51
Judge Ikuta penned the majority decision, joined by Judge Fletcher. The majority began its analysis by recognizing US Supreme Court precedent confirming that the FAA was designed to promote arbitration and to combat longstanding hostility towards arbitration. To that end, the Supreme Court has established an “equal-treatment principle” requiring that courts place arbitration agreements on an “equal footing with all other contracts.” Chamber of Commerce, 2023 WL 2013326, at *6 (quotations omitted). As the Ninth Circuit majority explained, “[a] state rule interferes with arbitration if it discriminates against arbitration on its face or if it ‘covertly accomplishes the same objective by disfavoring contracts that have the defining features of arbitration agreements.’” Id. at *7.
The Ninth Circuit majority reasoned that AB 51 violates the “equal-treatment principle” because it singles out arbitration provisions as an exception to California law, which allows employers to require non-negotiable terms as a condition of employment, such as requirements relating to compensation. The majority concluded, “[b]ecause the FAA’s purpose is to further Congress’s policy of encouraging arbitration, and AB 51 stands as an obstacle to that purpose, AB 51 is therefore preempted.” Chamber of Commerce, 2023 WL 2013326, at *8. This conclusion is consistent with decisions from the First and Fourth Circuits holding “that the FAA preempts a state rule that discriminates against arbitration by discouraging or prohibiting the formation of an arbitration agreement.” Id.
The State of California argued that the FAA does not preempt AB 51 because it regulates conduct before an arbitration agreement is formed, but it does not affect the validity or enforceability of executed arbitration agreements. The Ninth Circuit rejected California’s attempt at sidestepping US Supreme Court precedent because rules like AB 51 “that impede parties’ ability to form arbitration agreements hinder the broad national policy favoring arbitration . . . just as much as those that undermine the enforceability of already-existing arbitration agreements.” Id. at *10 (quotations and citations omitted).
The majority also rejected the State of California’s argument that AB 51 does not pose an obstacle to the FAA because it simply prohibits “forced arbitration.” According to the State of California, this is consistent with the principle that arbitration must be a matter of consent. The majority rejected this argument because, “under California law, an employee can ‘consent’ to an employment contract by entering into it, even if the contract was a product of unequal bargaining power and even if it contains terms (such as an arbitration provision) that the employee dislikes, so long as the terms are not invalid due to unconscionability or other generally applicable contract principles.” Id. at *11.
Takeaways for employers
Under the Ninth Circuit’s decision, employers in California may require job applicants and employees to sign arbitration agreements as a condition of employment. While California employers will not be exposed to civil or criminal penalties if they require that their employees enter into arbitration agreements, employers should continue to be mindful of other potential defenses to the enforcement of arbitration agreements. The Ninth Circuit’s decision in Chamber of Commerce does not alter – but rather reinforces – the principle that courts may invalidate arbitration agreements based on generally applicable contract defenses like fraud or unconscionability.
If you have any questions regarding the implementation or enforceability of arbitration agreements or programs in California, please contact the authors or your DLA Piper relationship attorney.
