2nd Circuit sets new rule on whether federal courts can hear arbitration appeals

August 12, 2016

(Reuters) – Let’s face it: If you’re on the losing side of an arbitration decision, you’re probably not going to get the arbitral ruling overturned, regardless of whether your appeal takes place in state or federal court. Far more often than not, courts defer to arbitrators.

In that regard, a decision Thursday by the 2nd U.S. Circuit Court of Appeals in Doscher v. Sea Port Group Securities is more notable for its first-impression analysis of Supreme Court and appellate precedent than for its actual impact on arbitration awards.

But if you’re going to defy the odds and go to court to challenge an arbitration decision, you do have to know where to file. According to the 2nd Circuit’s Doscher opinion, petitions to set aside arbitration awards belong in federal court when the underlying allegations involve federal laws. “A federal district court faced with a (challenge to an arbitration ruling) may ‘look through’ the petition to the underlying dispute, applying to it the ordinary rules of federalquestion jurisdiction,” the appeals court said.

To reach that conclusion, the three judges on the 2nd Circuit panel – Rosemary Pooler, Richard Wesley and Judge Richard Eaton of the U.S. Court of International Trade, sitting by designation – had to ditch the 2nd Circuit’s own precedent from the 2000 case Greenberg v. Bear Stearns. In the Greenberg decision, the 2nd Circuit said federal courts only have jurisdiction to hear arbitration appeals when the petitioner claims the arbitration decision represents a “manifest disregard of federal law.” The old ruling explicitly said that federal courts do not have authority to hear challenges to arbitration decisions based on “the fact that the arbitration itself concerns issues of federal law.”

In 2009, the U.S. Supreme Court ruled on a related question in Vaden v. Discover Bank, which involved federal court jurisdiction over a petition to compel arbitration. The Supreme Court held that judges may look through to the underlying substance of the underlying dispute. If it implicates federal law, the majority concluded, then federal courts have authority to decide the petition.

The question before the 2nd Circuit in the Doscher case was whether the Supreme Court’s Vaden decision abrogated the appellate court’s Greenberg precedent, even though the justices were looking at a motion to compel arbitration and Greenberg involved a petition to vacate an arbitration award. The language on federal court jurisdiction in the two relevant sections of the Federal Arbitration Act is slightly different, and the 2nd Circuit’s deep-in-the-weeds analysis of the Vaden opinion’s intersection with Section 10 of the FAA will doubtless be the subject of many future law student nightmares.

But ultimately, the 2nd Circuit decided it would be “absurd and illogical” for judges to use different standards to decide jurisdiction over petitions to compel arbitration and petitions to vacate awards. If that were to be the law, the court said, smart lawyers who wanted to preserve the right to go to federal court to challenge arbitration procedures would sue in federal court before arbitration took place, forcing the other side to move to compel the arbitral hearing.

“Construing the Act in a way that encourages the protective filing of federal suits would be the height of absurdity in light of Congress’s desire to cabin federal involvement in disputes subject to arbitration – before, during, and after the proceeding,” the 2nd Circuit said. As Judge Wesley’s opinion noted, this court’s decision is the first federal appellate interpretation of how the Supreme Court’s Vaden decision applies to different sections of the arbitration act.

The court remanded Drew Doscher’s petition to vacate an arbitration award to U.S. District Judge Jesse Furman of Manhattan to determine whether Furman has jurisdiction under the 2nd Circuit’s new rule. (Judge Furman previously found that he did not have jurisdiction under the 2nd Circuit’s now-overturned Greenberg precedent.) Since Doscher’s allegations include a claim that his former employer, Sea Port, violated federal securities law when it denied he held an equity stake in the firm, it is hard to imagine Furman will conclude on remand that he does not have the authority to hear the case.

Doscher, who was the co-head of sales and trading at Sea Port before leaving the firm in 2013, contends that the three Financial Industry Regulatory Authority arbitrators who heard his case allowed Sea Port to withhold crucial documents that would have proved his ownership stake. He had demanded $15 million for his equity stake and unpaid compensation. The arbitrators awarded him $2.3 million in a very brief October 2013 decision.

Doscher’s lawyer, Todd Merolla of Merolla & Gold, acknowledged the high bar to vacate an arbitration award, but said it’s “logical” for Judge Furman to hear the petition because his client is alleging federal securities fraud. “We’re happy,” he said. “Everything is fully briefed. We know the universe of documents that weren’t given to us. We want to be heard.”

Sea Port is represented by Ronald Blum of Manatt Phelps & Phillips, who agreed with opposing counsel Merolla that the 2nd Circuit’s ruling Thursday is legally important because it provides a bright-line jurisdictional rule for challenges to arbitration decisions. Blum said, however, that Sea Port has nothing to fear from Judge Furman.

“We are confident – and this is what we told the appeals court – that this arbitral award will be upheld wherever it is heard,” Blum said.

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