Become Arbitration Savvy

 Every time you are presented with a contract, the arbitration provision should be given careful attention so you will understand the nature of the dispute resolution method mandated by the contract.

Some of the documents that contain arbitration provisions, or do not, are summarized herein so the nature of such provisions are more familiar before the contracts are executed. Many of the documents are California Association of Realtor forms, as indicated by the reference to "C.A.R. Form."

California Residential Property Agreement (C.A.R. Form RPA-CA).  In this standard offer to purchase real property, agreeing to arbitration is an option, and its provisions must be specifically agreed to by initialing by both parties.  It provides that any dispute or claim in law or equity arising between the parties out of the agreement or any resulting transaction, shall be decided by neutral, binding arbitration.  The parties have a right to discovery.  It does not specify the arbitration provider, but it requires the arbitrator to be a retired judge or justice, or an attorney with at least 5 years of residential real estate law experience, unless the parties agree to a different arbitrator.

An unlawful detainer action or actions in small claims, probate, or bankruptcy courts,  are an exception to the provision.  Filing a lawsuit to preserve a statute of limitations, or to enable the recording of a notice of pendency of action (lis pendens), such as a complaint by a buyer for specific performance of the RPA-CA, are also exceptions to both the mediation and arbitration provisions.

Many other contracts in the real estate field require arbitration, and it is often not an option, unless it is stricken from the contract by mutual agreement.

The Southland Regional Association of Realtors (SRAR) provides a procedure for making arbitration requests, and the current filing fee is $500.  The hourly fee for the arbitrator is additional to the filing fee. The statute of limitation imposed by the SRAR is 180 days after the close of escrow, and it encourages the parties to first attempt to resolve the dispute by mediation.

California Exclusive Listing Agreement (C.A.R. Form RLA).  Arbitration is not included, and mediation is required to be attempted and accepted, or the right to recover attorney's fees may be barred.  It only provides an ADVISORY, that if the parties agree to resolve their disputes by arbitration, they can document their agreement by attaching and signing a separate Arbitration Agreement. (C.A.R. Form ARB)

Buyer Representation Agreement - Exclusive (C.A.R. Form BRE).   The provisions for mediation and advisory regarding arbitration are the same as the RLA.

Residential Lease or Month-to-Month Rental Agreement (C.A.R. Form LR).  Requires that mediation is attempted and accepted to preserve right to recover attorney's fees, except for an unlawful detainer action.  No reference to arbitration.

Commercial Lease Agreement (C.A.R. Form CL).  After mediation is attempted or fails to resolve the dispute, arbitration is an option, similar to the RPA-CA.

California Arbitration Agreement (C.A.R. Form ARB).   Provides that any dispute or claim in law or equity arising, or having arisen, between the parties out of the Purchase Agreement, Listing Agreement, Buyer Representation Agreement, or Other agreement, or any resulting transaction, that is not settled through mediation, shall be decided by neutral, binding arbitration.  The arbitrator shall be a retired judge or justice, or attorney with at least 5 years of transactional law experience, unless the parties agree otherwise.  No reference to who pays the arbitration fees.

Home Warranty Contracts.   The arbitration provision for one company confirms that the entry into the contract constitutes an agreement that all disputes involving the company, or that arise out of actions that the company took, or did not take, "shall be arbitrated", as long as the claim is in excess of the applicable small claims court jurisdictional amount, which is $10,000 or less in California.   

The provision confirms the buyer is:

  a.  giving up the right to a jury trial,

  b. giving up the right to participate in any class action (a legal action by multiple parties in a similar position),

  c.  giving up the right to a private attorney general action, 

  d.  giving up the right to participate in any other representative or consolidated action, and

  e.  giving up the right to participate in any class arbitration or consolidated arbitration proceeding.

Unless a claim is filed in small claims court, the home warranty contract requires final and binding arbitration held in the county of the covered property (or other location mutually agreed upon by the parties.  The arbitration must be conducted by the American Arbitration Association (AAA) under its rules for consumer disputes.  The company will pay the initial filing fee if the customer cannot afford to pay the fee, or will reimburse the customer, unless the arbitrator determines the claim is frivolous.  The contract requires the parties to agree that the contract and arbitration provision is governed by the Federal Arbitration Act.

A similar home warranty contract by a different company, confirms that any arbitration must take place on an "individual basis", and the parties agree that they are waiving any right to a jury trial.  It provides that the parties agree that the arbitrator lacks the power to consider claims for injunctive or declaratory relief, or to grant relief affecting anyone other than the individual claimant.  It provides that the arbitration is governed by the Commercial Arbitration Rules and the Supplementary Procedures for Consumer Related Disputes of the AAA. It applies to all disputes and claims between the parties, including claims that arose prior to the purchase of the contract. The company will pay all AAA filing, administrative and arbitrator fees for any arbitration it initiates, and for any arbitration initiated for which the value of the claims is $75,000 or less, unless the arbitrator determines the claims are brought in "bad faith or for an improper purpose", in which case the AAA rules govern the payment of AAA fees.

A similar home warranty contract by a third company states that any arbitration must be conducted in the city nearest to the property covered by the contract having an AAA regional office.  Each party shall bear its own costs and expenses and equal share of the administrative and arbitrator's fees of arbitration. 

LESSONS:

1.         Determine whether arbitration is optional or mandatory, and if optional, consider not agreeing to arbitration to preserve right to file Superior Court action.

2.         Arbitration results in waiver of jury trial, appeal, and injunctive relief.

3.         Arbitration may be required with a specified provider, such as the AAA, and its rules and the Federal Arbitration Act may govern the proceeding.

4.         Arbitration fees and costs may be paid by one of the parties, such as a home warranty company, or may be shared by the parties, subject to the arbitrator's findings in the action.

5.         Arbitration is often not required for small court claims for $10,000 or less, or for unlawful detainer, in order to preserve a statute of limitations or to record a notice of pendency of action.

California's Fraudulent Transfer Act Applies to Premarital Agreements

In the recent case of Sturm v. Moyer, the California Court of Appeal resolved a question of first impression: Assuming fraudulent intent, can the Uniform Voidable Transactions Act (Civ. Code, § 3439 et seq., formerly known as the Uniform Fraudulent Transfer Act ("Act")) apply to a premarital agreement in which the prospective spouses agreed that upon marriage, each spouse’s earnings, income, and other property acquired during marriage will be that spouse’s separate property? 

In deciding that the Act applies to a premarital agreement, the Court of Appeal reviewed the relevant portions of the Act, and disclosed that it had not found any case from any court in any community property jurisdiction that had addressed this issue. 

Sturm had obtained a $600,000 judgment against Moyer, and he conducted several judgment debtor examinations of Moyer, during which Moyer claimed to have no assets, and claimed that he did not intend to work ever again so he would not have to pay any portion of the judgment.  During a judgment debtor examination, Sturm discovered that Moyer had married Jessica Schell after the judgment, and that they had entered into a premarital agreement. 

The premarital agreement provided that each party’s earnings and income, and any property acquired during the marriage by each spouse, would be that spouse’s separate property; each party acknowledged that these earnings, income, and property otherwise would be community property.  Sturm argued that Moyer was trying to shield Schell's assets and earnings from the judgment.

Sturm filed a lawsuit against defendants Moyer and Schell, asserting a single cause of action under the Act to set aside the alleged transfer of Moyer’s community property interest in Schell’s earnings and income, and attempt to have Sturm's earnings and income and assets subject to the Sturm judgment.

Sturm alleged that the Moyer-Schell premarital agreement effected a transfer of Moyer’s interest in community property (i.e., Schell’s earnings and income), and that the actual intent of this transfer was to hinder, delay, or defraud Moyer’s creditors, including Sturm. 

At the time of the events at issue in this lawsuit, the Act provided that a transfer made or obligation incurred by a debtor is "fraudulent" as to a creditor, if the debtor made the transfer or incurred the obligation with actual intent to hinder, delay, or defraud any creditor of the debtor.The current version of the Act replaces “fraudulent” with “voidable.” 

Under California law, all property (with some statutory exceptions) acquired by a married person while domiciled in California is community property (Fam. Code, § 760), and each spouse’s respective interests in community property “are present, existing, and equal” during the marriage (Fam. Code, § 751). However, the Family Code allows an agreement entered into during or beforethe marriage to change the character of the property acquired during marriage from community property to separate property. 

Such an agreement may be made during the marriage under Family Code section 850, and is termed a post-nuptial agreement. Married persons may by agreement or transfer, with or without consideration, do any of the following: 

            (a) Transmute community property to separate property of either spouse. 

            (b) Transmute separate property of either spouse to community property. 

            (c) Transmute separate property of one spouse to separate property of the other spouse.  

A transmutation during marriage is subject to the laws governing fraudulent transfers. 

The characterization of property as separate or community is important when it comes to liability for debts incurred by either spouse, including debts incurred by a spouse before the marriage. Family Code section 910 provides that the community estate is liable for a debt incurred by either spouse before or during marriage, regardless of which spouse has the management and control of the property, and regardless of whether one or both spouses are parties to the debt or to a judgment for the debt.

Although a married couple’s community property is liable for the premarital debts of either spouse, a portion of that community property -- the non-debtor-spouse’s earnings and income -- is shielded from liability for that premarital debt to the extent that those earnings and income are held in an account to which the debtor-spouse does not have access and are not commingled. 

Resolution of the issue of whether the Act applies to premarital agreements turns on two key questions.  

First, does such an agreement effect a “transfer” under the Act?  A "transfer” under the Act has a broad meaning. It includes every mode, direct or indirect, absolute or conditional, of disposing of or parting with an asset or an interest in an asset. Under this definition, there is no doubt that an agreement made during marriage in which a debtor-spouse agrees that the non-debtor-spouse’s future earnings, income, or assets would be the non-debtor-spouse’s separate property constitutes a transfer.  This question is one of law to be decided by the court.

Second, was the agreement intended to “hinder, delay, or defraud any creditor” of the debtor-spouse? This question is one of fact to be decided based on evidence at trial. 

But what if the agreement is made in a premarital agreement?  Because the parties are not married when the agreement is entered into, the debtor-spouse has no present and existing interest in the community property represented by the non-debtor-spouse’s future earnings, income, and assets. Thus, no transfer takes place because, by the premarital agreement, the spouses altered the applicability of the community property laws such that neither spouse obtains any interest in community property upon marriage. 

On the other hand, the premarital agreement does not become effective until marriage, at which point two things happen -- (1) each spouse obtains a present interest in community property by operation of law and then, (2) by the premarital agreement, each spouse transfers to the other his or her community interest in the other’s earnings, income, or other property.  So the premarital agreement only triggers the transfer of property during the marriage.

Although not conclusive, the court of appeal found that the legislative history of the Act and the relevant provisions of the Family Code, suggest that the Act applies to premarital agreements. On the whole, public policy considerations favor the interpretation asserted by Sturm.

The decision that the Act can apply to a premarital agreement does not mean that it necessarily will apply to invalidate an agreement. Whether the Act applies in any case depends upon whether there was actual or constructive fraud under Civil Code section 3439.04. That issue is a factual one, and is decided by the evidence at trial. 

LESSONS:

1.         The Uniform Voidable Transactions Act is a powerful tool to protect creditors in obtaining recovery of the debt owed, and even a premarital agreement may be subject to its remedies.

2.         Premarital and post-nuptial agreements can be useful instruments to determine earnings, income and assets during marriage, and confirm if they are separate or community property.

Interpretation of Inter Vivos Trust

In California, as an estate planning device to have property pass to beneficiaries upon the death of the settlor, an inter vivos trust (i.e., "living trust") is preferable to a will, or nothing. A will has to be submitted to probate court, it becomes a public document, and the attorney's fees are a percentage of the gross value of the estate (e.g., 4% of the first $100,000, 3% of next $100,000, etc.).  

A trust does not have to be filed in probate court, but petitions can be filed to have the probate court decide issues that are created by the trust, or arise from disputes of trustees or beneficiaries.

In the recent case of Trolan v. Trolan, the Court of Appeal resolved certain issues of interpretation of the trust in a dispute between 6 siblings over the interpretation of the Trolan Family Trust ("Trust"). Upon the death of their mother in 2015, the siblings became co-trustees of the trust, with the power to act by majority vote. 

Five of the siblings, agreed to maintain the assets in trust, hoping they would increase in value for the next generation ("Five Siblings"). The sixth sibling asked for distribution of her share of the trust in cash, setting the stage for the dispute and eventual appeal. ("Sixth Sibling")

Upon a petition filed by the Five Siblings, the trial court interpreted the trust to require liquidation and distribution of the trust assets upon the death of the last surviving parent, based primarily on a provision requiring distribution to any beneficiary when he or she turned 30 years old. The court removed the siblings as trustees, and ordered the replacement trustee to liquidate and distribute the trust assets, as all of the parties were over 30. 

The Court of Appeal agreed with the trial court that the clear, unambiguous language of the trust required distribution of the trust assets and termination of the trust. However, it found the trial court erred when it ordered liquidation of the trust assets to accomplish that purpose, rather than deferring to the discretion of the co-trustees to distribute the trust. 

In 2003, Alice Trolan amended the trust to name all six of her children as successor co-trustees, with the power to act by majority vote. When Alice Trolan died in July 2015, the trust became irrevocable, and the six siblings became the co-trustees. 

The Fifth section of the trust entitled “Dispositive Provisions” provides that the estate shall be apportioned into equal shares for each of the Trolans’ “then living children.” The trust does not require the trustee to physically segregate or divide the trust shares, “except as segregation or division may be required by the termination of any of the trusts.” The trustees have the ability to “distribute the remaining principal and any accumulated income, or continue the trust for the benefit of the beneficiaries named in the trust, under the terms and conditions” set forth in the “Dispositive Provisions” section. 

Relevant to the instant dispute, the trust had a spendthrift provision: “Distributions of principal shall be made as follows: Whenever any beneficiary for whom a trust is then held shall have attained the age of twenty-five (25) years the Trustee shall distribute to such beneficiary one-half (1/2) of the principal of the trust held for him; upon having attained the age of thirty (30) years the Trustee shall distribute to such beneficiary the balance of his or her trust.”

The trust also set forth “Trustee’s Powers,” giving the trustee certain “powers and discretions” in addition to those “granted to or vested in the Trustee" by law or by the trust. The trustee can “continue to hold any property received in trust, including undivided interest in real property, and to operate any property or any business received in the trust as long as the Trustee, in the Trustee’s discretion may deem advisable.” 

The trustee also has the power, upon any division or distribution of the Trust Estate, to partition, allot and distribute the Trust Estate in undivided interests or in kind, or partly in money and partly in kind, at valuations determined by the Trustee, and to sell such property as the Trustee may deem necessary to make division or distribution.

The trust estate consisted primarily of Comerica Bank stock and several parcels of real property. Following Alice Trolan’s death, Sixth Sibling asked to receive her one-sixth share of the estate in cash. Five Siblings agreed they wanted to retain the real property in trust hoping the property would appreciate in value. 

Five Siblings filed a Petition Regarding the Internal Affairs of a Living Trust (the petition), asking the probate court to make findings regarding the value of the trust estate as a whole and Sixth Sibling's share of the estate, based on the lower appraisal the Five Siblings had obtained in response to the probate referee’s overvaluation of the real properties. 

After ruling the Age 30 Provision required liquidation and distribution of the trust, the probate court ordered the removal of all co-trustees and appointed a professional fiduciary to carry out the trust terms. It did so based on the court’s belief that the failure to distribute the trust assets was a breach of the fiduciary duties of loyalty and impartiality, and the fact that the parties could not reach a resolution even when they were aware of the Court’s tentative ruling, and based on the court's authority provided by Probate Code §15642(a). The court then ordered the new trustee to liquidate the trust assets, pay expenses and taxes, pay both parties’ attorney fees and costs from the trust, and distribute the balance equally between the parties. 

The Appellate Court held that in order to first ascertain, and then, if possible, give effect to the intent of the trustor, the court must consider the whole of the trust instrument, not just separate parts of it. If the language of the instrument clearly sets forth the intent, the court does not consider extrinsic evidence; it only looks to extrinsic evidence in the event of an ambiguity. 

Considering the trust as a whole, the Appellate Court concluded the trust is not ambiguous on its face; the provisions clearly require the distribution of assets and termination of the trust upon the death of the last surviving spouse if the beneficiaries have all reached age 30. In reviewing all provisions together, the Appellate Court found the Age 30 Provision to be specific and unambiguous, and consistent with the other provisions of the trust. 

Having found the trust clearly and unambiguously required distribution of the trust assets, the Appellate Court also concluded that the language of the trust clearly and unambiguously granted the co-trustees discretion regarding the method of distribution of the trust assets.  Therefore, the Five Siblings were not required to liquidate the assets to accomplish distribution of the trust under its terms; rather, liquidation is one of several possible options. 

The Appellate Court concluded the probate court exceeded its authority when it ordered immediate liquidation of the trust assets, and substituted its judgment regarding the method of distribution of the trust assets for that of the co-trustees. 

The Appellate Court noted that the trustees could accomplish the purpose of the trust—the distribution of equivalent shares of the trust assets to each of the beneficiaries—without liquidating the trust assets.  The trust did not require liquidation of the assets, but distribution of them. 

LESSONS:

1.         If the beneficiaries or trustees of a trust have disputes, they can file a petition to have the probate court resolve the disputes.

2.         In interpreting the terms of the trust, the court must consider the whole of the trust instrument, not just separate parts of it. 

3.         If the language of the instrument clearly sets forth the intent, the court does not consider extrinsic evidence; it only looks to extrinsic evidence in the event of an ambiguity.

4.         Although the Five Siblings lost on the issue of the timing of the distribution, they won on the issue of their authority to determine the method of distribution - illustrating how a party can lose a battle, but win the war.

Characterization of Marital Assets in California May Require Tracing

California is a community property state for division of marital assets during a divorce, and one spouse may have significant assets before marriage that are considered separate property.  Separate property remains the property of the owner spouse for purposes of a divorce judgment. Community property is deemed property owned by both spouses and is often divided 50-50 in the divorce judgment. Therefore, whether property is separate, community, or quasi-community is an important issue in a marriage dissolution action.

In the recent case of Marriage of Ciprari, the trial court characterized a majority of the cash and securities held in commingled accounts as Husband's separate property. On appeal, the wife attacked a detailed tracing analysis performed by Husband’s expert witness, upon which the trial court relied. The court of appeal concluded the tracing was valid and constitutes substantial evidence in support of the judgment. 

The parties stipulated that Husband entered the marriage with over $2 million of separate property. Of that amount, $874,00 was held in two Wells Fargo Bank accounts. The trial court found the money held in the bank accounts was “essentially ‘gifted’ to the community,” a finding neither party contested. In the absence of an agreement to the contrary, the use of separate property to meet community living expenses is a gift to the community.

On the date of the parties’ marriage, Husband held the balance of his separate property of over $1.1 million in a brokerage account at PaineWebber. In 1996, Husband received a $244,000 bonus from his employer. Because the parties had married during 1995, the bonus was partly separate property and partly community property. Nevertheless, Husband deposited the entire amount in his PaineWebber brokerage account. This was the first time that community and separate funds became commingled in the account. 

How much, if any, of that sum was Husband's separate property, and how much was community property, is known as a “characterization” issue. “Characterization" refers to the process of classifying property as separate, community, or quasi-community.

California Family Code, section 760,states the basic presumption that, except as otherwise provided by statute, all property acquired by a married person during marriage, while domiciled in California, is community property. Each spouse has a “present, existing and equal” interest in the community property. 

On the other hand, property acquired before marriage, or after separation, or at any time by gift, bequest, devise, or descent, is separate property. And the “rents, issues, and profits” of separate property are separate property, whether earned before, during, or after marriage. Except as otherwise provided by statute, neither spouse has any interest in the separate property of the other.

“Thus, there is a general presumption that property acquired during marriage by either spouse other than by gift or inheritance is community property, unless traceable to a separate property source. This is a rebuttable presumption affecting the burden of proof; hence it can be overcome by the party contesting community property status. 

Since this general community property presumption is not a title presumption, virtually any credible evidence may be used to overcome it, including tracing the asset to a separate property source, showing an agreement or clear understanding between the parties regarding ownership status, and presenting evidence the item was acquired as a gift.

Of course, mere commingling of separate property and community property funds does not alter the status of the respective property interests, provided that the components of the commingled mass can be adequately traced to their separate property and community property sources. But if the separate property and community property interests have been commingled in such a manner that the respective contributions cannot be traced and identified, the entire commingled funds will be deemed community property pursuant to the general community property presumption of section 760.  

The presumption that all property acquired by either spouse during the marriage is community property may be overcome. Whether or not the presumption is overcome is a question of fact for the trial court. 

Where funds are paid from a commingled account, the presumption is that the funds are community funds.  In order to overcome this presumption, a party must trace the funds expended to a separate property source. This issue presents a question of fact for the trial court and its finding will be upheld if supported by substantial evidence. 

There are the two primary methods of tracing under California law: direct tracing and exhaustion tracing.

 “Direct tracing” can be used to demonstrate a spouse’s separate property was used to purchase an asset, even though the purchase is made with funds from a commingled account containing both separate and community property. It requires (a) documentary proof that sufficient separate property funds were available in the account at the time of purchase; and (b) proof that the spouse making the purchase intended to use separate, rather than community, funds.

“Exhaustion tracing” is sometimes also called “Recapitulation,” “Family expense,” “Family living expense,” or “Family income exhaustion” tracing. Whatever the name, it attempts to trace a payment or purchase from a commingled mass to separate property funds by process of elimination; i.e., by showing that—because allcommunity property funds were exhausted at the time the purchase or payment at issue was made—separate property funds necessarily must have been used.  This approach presumes that available community property funds are used for family expenses before separate property funds are used for that purpose. 

California law does not preclude trial courts from relying on any tracing method other than the two just described. Trial courts have the flexibility to consider any credible evidence and to evaluate alternative tracing methods to determine whether the proponent of the tracing carries his or her burden of proof. The tracing method may vary depending on the facts. Thus, trial courts are free to consider and credit reasonable, well- supported, and non-speculative expert testimony, when determining whether the proponent has successfully traced commingled assets to a separate property source. 

Husband also invested in real estate, and a married person is free to invest his or her separate property.  The fact that the husband purchased the property with his separate funds, as the trial court found, is not evidence of taking undue advantage of the wife, nor is it a breach of a fiduciary relationship which would invoke a presumption of fraud or undue influence. Wife did not cite evidence that would support a conclusion that Husband mismanaged community funds. On the contrary, she concedes that Husband’s investments were quite successful. 

 An apportionment of profits may be required when one spouse invests separate funds in real estate or securities, but not when the spouse expended only minimal effort and the other spouse introduced no evidence attributing a value to the services. 

LESSONS:

1.      Assets owned before marriage and acquired during marriage should be characterized as separate, community, or quasi-community property when acquired, and then care given in how they are handled.

2.      To confirm the characterization of assets as separate, community, or quasi-community property, either a pre-nuptial agreement for assets owned before marriage, or a post-nuptial agreement for assets acquired during marriage should be used.

3.      All agreements between spouses concerning their property should be in writing and signed by the spouses, preferably before a notary to guard against claims of forged signatures.

Arbitration and the California Residential Purchase Agreement

Although an attempt to engage in mediation is required in the standard residential purchase agreement (CAR form RPA-CA) to recover attorney's fees, it is not required that the parties initial and thereby agree to the binding arbitration provision.  

Whether the parties agree to arbitration is one of the most important decisions that the parties must make in preparing and responding to the RPA-CA, and it can have significant consequences.  Agents are cautioned against giving legal advice to their clients regarding the arbitration provision, and this article can be provided for information purposes regarding this important provision.

The typical arguments in favor of the arbitration provision is that it is quicker, and less expensive than a legal action.  But the time required, after payment of a significant fee to the arbitration provider, can be delayed by the parties with disputes over the selection of the arbitrator, discovery, location of the hearing, and timing of the hearing. These disputes may require adjudication by the arbitrator who may be charging $500-$700 per hour.  After the arbitration decision, the parties may need to have the Court affirm and enforce the decision.

I recently filed a legal action in January 2018 and went to trial in late October, winning the court trial for over $300,000, without incurring the expense of a jury or court reporter, or any additional fee to the Court for the judge's considerable time in reaching a decision. So an arbitration is not necessarily quicker or less expensive than a Superior Court action.

There are many reasons not to initial the arbitration provision, including the arbitrator does not have to follow California law, discovery may be limited, the resolution of litigation disputes may be more expensive than Court hearings, the parties waive their right to appeal, and the parties can always agree to arbitration as an alternative to the Court action.

Many times a party to the sale transaction will need to preserve the status quo of the property's title by recording a notice of pendency of action (lis pendens), and thereby avoid a sale to a bona fide buyer or further encumbrance by a bona fide lender.

The RPA-CA provides a preservation of actions provision that allows the filing of a Court action to preserve a statute of limitations, or to enable the recording of a lis pendens or other provisional remedy, or the filing of a mechanic's lien.

These are important rights, but if the parties can file a Court action to obtain those remedies including recording a lis pendens, why agree to arbitration so that after a Court action is filed to obtain those remedies, the dispute must be arbitrated anyway with the loss of the benefits of a Court action and an increased cost?

In the recent decision of Zhang v. Jenevein, the California Court of Appeal added an additional reason to refuse an arbitration provision in a contract.  After an arbitration, Zhang filed a Court action for invasion of privacy and eavesdropping on or recording confidential communications in violation of Penal Code §§632 and 637.2. Defendant filed a special motion to strike and the trial court denied the motion, ruling that neither making the recordings nor using them as evidence in the arbitration was protected activity because the arbitration was not a judicial or official proceeding under the motion to strike statute. 

The Court of Appeal found that the trial court was correct, because recording the conversations and using the recordings in the arbitration were not in connection with a judicial or official proceeding authorized by law, and they were not protected activities subject to a special motion to strike. 

The arbitrators awarded over $65 million in damages, attorneys’ fees, and expenses, and a federal district court affirmed the arbitration award, with an appeal of that decision. Meanwhile, after the arbitrators issued their award, Zhang filed the Court action alleging a cause of action for eavesdropping on or recording confidential communications under the Penal Code.

A moving defendant’s initial burden in making a special motion to strike showing the plaintiff’s cause of action arises from protected activity.  The defendant argued the causes of action against him arose from protected activity because the recording of the conversations were to gather evidence in anticipation of, and use in, the arbitration, and an arbitration is a “judicial proceeding” or an “official proceeding authorized by law” within the meaning of that subdivision.

The Court of Appeal held that California law, however, is to the contrary. Private contractual arbitration is not a judicial proceeding under the motion to strike statute, an arbitrator is not a "judicial body", and an arbitration proceeding is not an "official proceeding". Demanding private arbitration is an “unprotected act”. 

Contractual arbitration is not a “judicial proceeding”; it is an alternative dispute resolution process that bypasses judicial proceedings.  Arbitration is alternative to, and independent of, the judicial forum. 

As a general rule, "private contractual arbitration" is not an “official proceeding authorized by law”.  For example, unlike hospital peer review, arbitration is not part of a comprehensive statutory licensing scheme and is not reviewable by administrative mandate. And unlike mandatory fee arbitration, private arbitration is not required by statute. 

Defendant cited the decision in Manhattan Loft, LLC v. Mercury Liquors, Inc., which held that a party to an arbitration involving real property could not record a lis pendens because “a lis pendens may only be filed when an action in a court of law is pending.”  The appellate court in Manhattan Loft reversed an order granting a special motion to strike a cause of action for slander of title against the parties that had improperly recorded the lis pendens because the court concluded the plaintiffs had shown a probability of prevailing. Before reaching that conclusion, however, the court in Manhattan Loft stated the filing of a notice of lis pendens falls squarely within the definition of protected activity.  But the filing of a lis pendens falls squarely within the statutory definition of protected activity only if it was filed in connection with a pending Court action because communications in connection with matters related to a lawsuit come within the scope of the litigation privilege and are acts arising from the protected activity. 

But this is not necessarily true for acts, like the filing of lis pendens, in connection with proceedings that are not legislative, executive, or judicial, or other official proceedings authorized by law, such as private arbitration.

Defendant argued that conduct in connection with arbitration involves the exercise of the right of petition because it is closely related to actual or potential litigation in the courts. Again, the Court of Appeal found that California law is to the contrary. That a party to an arbitration agreement may resort to the courts to compel arbitration or confirm or enforce an arbitration award does not convert the arbitration proceeding into a judicial or official proceeding within the meaning of the motion to strike statute.

Statements made in arbitration may be protected by the litigation privilege. But statements protected by the litigation privilege are not necessarily protected by the motion to strike statute. The litigation privilege and the motion to strike statute are substantively different statutes that serve quite different purposes.

Lessons:

1.         Agreeing to arbitration in the RPA-CA has important consequences, and careful consideration should be given to the loss of significant rights that exist in a Court action, before agreeing to arbitration.

2.         A Court action may be filed to recording of a lis pendens under the RPA-CA and it is considered protected activity, but an arbitration alone is not sufficient to have the recording of a lis pendens deemed a protected activity.

3.         If a Court action is necessary to record a lis pendens and have it deemed protected activity, agreeing to arbitration that will require both the Court action and arbitration may not be the best decision in many disputes.

4.         A party should not violate the Penal Code by an invasion of privacy and eavesdropping on or recording confidential communications, and if it is done, it should only be in connection with a Court action, as doing so in an arbitration proceeding will not allow the filing of a successful special motion to strike.