Indefinite Lease Terms = Renewal, not Extension

 The 2017 Minnesota legislative session brought changes to the statutes that govern the operation of common interest communities in Minnesota (Minn. Stat. Chapter 515B, or the MCIOA). [1]   A significant number of changes were proposed and considered in the House and Senate, but once the dust settled, the changes that were ultimately adopted are primarily prospective – the most significant impact will be on communities formed on or after August 1, 2017. This article is part I of a three-part series, and discusses the changes affecting common interest communities (CICs) created before August 1, 2017. The changes discussed herein apply to all types of CICs subject to the MCIOA (townhomes, condominiums, and cooperatives, designated for residential, commercial and mixed use).

  Impact on Existing Communities – Upkeep and the Preventive Maintenance Plan

 The MCIOA has always placed maintenance obligations on CICs. The association was and continues to be responsible for the maintenance, repair and replacement of the common elements. [2]   This obligation will now also explicitly extend to damage resulting from lack of maintenance or failure to perform necessary repairs or replacement [3] (although it would seem this was always the case even prior to the new language added to this section).

 For those already living in or working with a CIC, the impact of the 2017 statutory changes on future management and operation is limited. There is a new requirement to create a written “preventive maintenance plan.” [4]   This is different from your long-term capital budget planning and any reserve studies that have or may be performed.

 Existing communities (created before August 1, 2017 [5] ) will need to develop a written maintenance plan by or before January 1, 2019 according to the following statutory criteria:

1. The board is required to prepare and approve a maintenance plan, maintenance schedule, and maintenance budget for the common elements,
   
2. The plan must be implemented, and may be amended, modified or replaced “from time to time” as deemed necessary by the board,
   
3. All unit owners must be provided with a copy of the maintenance plan, maintenance schedule, and any amendments/modifications/replacements thereto. Communication to the owners can be in the form of a paper copy, electronic copy, or by providing electronic access through a web portal or something similar. [6]
   

 What exactly needs to be addressed within the maintenance plan is left to the determination of the board, sort of. The specific contents are not defined by this section of the statute, but are filled in by other statutory provisions read together with each community’s governing documents. 

Note that the maintenance plan requirements apply only to common elements, not to any separate unit owner’s property. On the other hand, limited common elements are still common elements, and will need to be accounted for in the maintenance plan and budget. Figuring out what your limited common elements are and what to do with them in terms of maintenance, repair and replacement can be one of the more vexing issues that board members and managers must address. The 2017 MCIOA revisions will require you to squarely take up the question of what limited common elements you have, as well as how you will plan and budget for their upkeep and replacement.

  Limited Common Elements

 All limited common elements of a community must be accounted for in the preventive maintenance plan. Limited common elements are designated for the exclusive use of the unit owners of the unit or units to which the limited common elements are allocated by the terms of the declaration. [7]   Portions of the structures that are shared by multiple unit owners are specifically defined by statute as limited common elements. [8]   These may include exterior elements like roofs and siding as well as chutes, flues, ducts, wires, pipes, conduits, bearing walls, etc. that serve one or more but fewer than all units and are located wholly or partially outside the unit boundaries. [9]  

 Windows always present their own unique circumstances depending upon the governing documents and historical treatment in a particular community. For the record, windows are defined by statute as limited common elements unless the declaration says otherwise. [10]   If the declaration is silent as to windows, it may be wise to review the historical treatment of windows, doors, etc. in your community to ensure that the association is in compliance with the statute and governing documents. If not, the maintenance plan deadline presents a useful opportunity to bring that historic treatment into compliance, or to formally amend the governing documents to reflect the association’s “traditional” approach.

 Careful review of the structures in the community must be undertaken to assess the elements of the buildings that may fall within the maintenance plan requirements. Each association board will need to decide whether budgeting for property elements such as siding, roofs, pipes, windows, etc. is required for their community. Outside guidance may be useful for this review in order to keep the board’s decisions firmly within the scope of the business judgment rule (and thus insulated from legal challenge later).

  Things That Didn’t Change for Existing Communities

 While existing communities must devise and implement the maintenance plan requirements of the new Minn. Stat. § 515B.3-107, the implementing language excludes existing communities from all of the other changes made to the MCIOA. Section 7 of the bill as passed makes all of the other the new provisions applicable only to CICs created on or after August 1, 2017. [11]   For existing communities that means, among other things,

 -         failure to document compliance with the maintenance plan requirements does not create a statutory defense for defective construction,

-        the new pre-suit notice requirements of § 515B.3-102 (d) do not apply to existing communities,

-        the mandatory pre-suit mediation and tolling provisions of § 515B.4-116 do not apply to existing communities.

 Communities formed on or after August 1, 2017 will be subject to the maintenance plan requirements as well as the provisions noted above. In Part II of this series, we will address the impact of the new MCIOA provisions on those newly-formed CICs.

Originally posted on July 28, 2011

Minnesota contractors working with clients who have suffered property damage are reminded of the Commerce Department's admonishment against “public adjusting” of insurance claims.

Prior to September 2010, contractors could, and did, advocate aggressively on behalf of homeowners. Anectdotal reports suggest that the practice was typically viewed as a service to and benefit for homeowners facing repairs to property damage, particularly storm damage. Then came Commerce Department bulletin 2010-4 , which put the kibosh on this practice.

According to the bulletin, a contractor offering his or her repair, reconstruction, or replacement services is a normal trade practice. Permissible practices include:

• offering an opinion to an insured as to whether roof damage is from a storm or other incident normally covered by a homeowner’s policy;
• recommending to the insured to file an insurance claim with the insurer;
• providing an estimate of repair which the insured may submit to the insurer;
• being present when the insurance adjuster inspects the damage and answering the adjuster’s questions.

What crosses the line is offering “representation” services related to the claim on behalf of the homeowner, offering to “exclusively negotiate” the claim settlement with the insurer(s) involved, particularly as part of the repair contract, or requiring the property owner to have the contractor “negotiate” the terms of the claim settlement on the owner’s behalf. Such actions, offerings, or representations by a contractor may constitute acting as a public adjuster. The terms, written or otherwise, of the agreement with the property owner and other facts may demonstrate whether the actions constitute violations of Minnesota insurance law. Even the offering, in a marketing sense, of such “representation” may constitute a violation, which could result in action by the Minnesota Department of Commerce.

A contractor must be licensed as a public adjuster in order to:

1. enter into a contract authorizing the contractor to negotiate or effect the settlement of a claim for a fee or compensation;
2. advocate on behalf of the insured or offer assistance to the insured to prepare, file or complete the insurance claim; or
3. advertise or solicit for employment as an adjuster of such claims.

In addition, effective Aug. 1, 2010, important statutory changes occurred affecting the
building trades industries. Please note the new language found under:

• M.S. § 325E.66, which prohibits a residential roofer from advertising or promising to rebate all or part of an insurance deductible when providing goods and services to an insured who will pay for the goods and services from the proceeds of a property or casualty insurance policy. This section also allows the insured or insurer to bring an action in court for damages if a residential roofer violates this section.

• M.S. § 326B.811, which provides that a homeowner has the right to cancel a contract with a residential roofer for goods and services to be paid from the proceeds of a property or casualty insurance policy within 72 hours after notification by the insurer that the claim has been denied. This section requires a residential roofer to provide a disclosure and a cancellation form to the homeowner before entering into a contract. This section also requires a residential roofer to refund any payments within ten days after a contract is canceled, unless the roofer is entitled to compensation for emergency services performed.

Contractors who perform roofing services need to review existing form contracts to confirm compliance with the new requirements.

Originally  posted on July 26, 2011

A common question related to Chapter 7 filings is what happens to pre-petition liens obtained by creditors (liens perfected prior to the filing of a  bankruptcy petition).

Lien Types

A lien is type of security interest in favor of a creditor to secure payment of a debt or performance of some other obligation. The liens with which most debtors in bankruptcy are concerned are: 1) a mortgage secured by the debtor’s residence or other real property, 2) the title to a motor vehicle, 3) a PMSI ( Purchase Money Security Interest) in an item of personal property acquired on an installment plan such as a TV, appliance or furniture set. When the debtor files bankruptcy, the debtor can usually keep such assets, provided that the debtor continues to pay for the item and honor the original contract. In many instances, a creditor can demand either payment of the outstanding balance or a reaffirmation of the debt, which may offer substituted (and sometimes more favorable) repayment terms in exchange for the non-dischargeability of the outstanding obligation.

A fourth lien type is a judgment lien, often acquired on the basis of a money judgment for unpaid debts such as credit cards. In Minnesota, once a creditor obtains a court judgment on an outstanding debt, the creditor can file it with the clerk of court by filing an affidavit giving the defendant’s name, occupation and address, a process called docketing. A docketed judgment creates a lien on real property owned by the debtor at the time of docketing and as well as any real property the debtor may later acquire.

Liens Normally Survive Bankruptcy

Secured debts are treated differently in bankruptcy than unsecured debts. Under Chapter 7, liens normally pass through unaffected by the debtor’s discharge. This fundamental protection is part of why creditors are willing to extend credit in the first place.

Avoiding Liens

Some liens are avoidable (removable) by the debtor in Chapter 7, but no lien is automatically terminated by the bankruptcy process. Lien avoidance is only available for some lien types, and only by taking specific affirmative action.   The debtor bears the burden to prove all factors material to avoidance of any particular lien. Generally, liens can be avoided only to the extent of an exemption that the debtor is entitled to claim, and provided that the lien arose as a non-possessory, non-purchase money lien on certain kinds of the debtor’s property. Non-possessory, non-purchase money means the property pledged as collateral for the debt was not retained by the creditor (debtor still possesses the property), and the debtor owned the property independent of the debt giving rise to the lien. PMSI’s are not avoidable, because the lien arises out of the debt incurred to acquire the property. A loan from a pawn shop, where the creditor retains possession of the collateral, are not avoidable because the lien is possessory.

Examples of avoidable liens include home equity loans, or personal loans where the borrower’s car is the collateral.   A judgment lien is usually avoidable to the extent of the equity that would have been exempt in the absence of the judgment lien (as opposed to a voluntary mortgage which normally is not avoidable).

Statutory liens, such as tax liens and mechanic’s liens, are not avoidable, and will survive the bankruptcy case unaffected.

Court Action Required

The debtor must seek avoidance by affirmative motion in the court. Absent the court’s affirmative order avoiding a lien, the lien will remain in effect against the debtor’s property and may be enforced by the creditor after the bankruptcy case is over and discharge is entered. This is true even if the debtor could have avoided the lien, but failed to take the necessary steps.

A debtor must file a motion to avoid each avoidable lien with bankruptcy court. There is then a hearing (if requested by the creditor) to determine whether to reduce or eliminate the lien on the debtor’s exempt real or personal property. Liens are avoidable to the extent of allowable exemptions, so the result can be partial avoidance (amount of the lien is reduced) or complete avoidance, depending upon the value of the lien, the collateral, and available exemptions applicable to the property in question.

If an avoidable lien was overlooked during the bankruptcy case, the court may permit the debtor to reopen a closed bankruptcy case so that the debtor can pursue relief.

In Minnesota, there is also a state court procedure whereby judgment liens may be discharged following a bankruptcy discharge. Application for discharge of judgments (applicable to all judgments, not just those that give rise to judgment liens) is necessary to remove judgments from the state court records, because the federal bankruptcy proceeding does not do so automatically. Section 548.181 permits a debtor to seek discharge of state court judgments for which the debt has been discharged in bankruptcy. Creditors may only object to the application for discharge if 1) the debt was excepted from discharge by the bankruptcy court or 2) the judgment was an enforceable lien on real property at the time the bankruptcy discharge order was entered. Section 548.181 affects judgment liens that either failed to attach because the lien was not perfected before the petition was filed, or failed to attach due to some exemption to which the debtor was entitled, i.e., 548.181 applies to avoidable judgment liens. It may be possible to seek an application to discharge a judgment, and thereby annul the associated judgment lien, under Section 548.181 and have the lien effectively avoided in Minnesota district court even without re-opening the bankruptcy case, though I have not attempted to do so.

Originally posted on June 28, 2011

A general contractor is liable to homeowners for its failure to inform them of pre-existing damage to their home. Further, liability under this theory is not covered by a commercial general liability (CGL) insurance policy because the liability is not caused by an “occurrence” and is not caused by “property damage,” as those terms are used in the standard form CGL policy. The court also confirmed the established principle that a contractor is liable for damage arising from its own defective work, and this liability is not covered by a CGL policy.

Plaintiffs hired Remodeling Dimensions, Inc. (RDI) to build an addition on the home. during the course of work, they also asked RDI to remove and then reinstall a window on a different portion of the home. Plaintiffs in this case advanced multiple theories of liability in an arbitration proceeding, including failure to notify of pre-existing damage.

Investigation showed damage on both the addition and on the unmodified portions of the home. Because RDI performed the work on the addition, this damage was excluded from coverage under its CGL policy. A typical CGL policy incorporates the business-risk doctrine via exclusions for “your work,” and therefore does not provide coverage for a breach of contract action grounded upon faulty workmanship or materials where the damages claimed are the cost of correcting the work itself. In this case, exclusion “m” excluded coverage for “‘[p]roperty damage’ to ‘your work’ arising out of it or any part of it and included in the products-completed operations hazard.” This type of claim is considered a warranty obligation of the contractor and is effectively uninsurable.

As to the failure to advise of pre-existing damage, the Plaintiffs’ expert testified that, in the course of its work, RDI discovered that the window had not been installed properly and that RDI should have informed the Plaintiffs of that fact. In the CGL policy, “occurrence” was defined to mean “an accident, including continuous or repeated exposure to substantially the same general harmful conditions.” A failure to inform is not a cause of the damage, and liability based upon a failure to inform does not arise out of an occurrence because the failure to inform is not an accident. Further, RDI’s liability was caused not by property damage itself but by a different form of injury – the loss of a claim against the contractor that built the original part of the home.

Impact for Contractors:

1) Your CGL policy will not cover liability for damage caused by your own work. If you use your own employees rather than actual subcontractors, you will not have insurance coverage for any damages arising out of defective workmanship or materials.

2) Your CGL policy doesn’t cover failure to inform. If you discover anything that looks like pre-existing damage, stop work, document the damage and advise the property owner in writing of what you found. Before continuing, get a signed waiver of claim from the property owner. Make sure your people on the job site have been trained in this procedure.

Originally posted on June 8, 2011 by Will

The MN Court of Appeals recently determined that a corporate officer-employee’s ownership of more than 25% of a limited-liability company (LLC), when that LLC owns more than 25% of the corporation, is dispositive when determining if the corporate officer’s employment is non-covered, rendering the officer ineligible for unemployment-compensation benefits. See Bergen v. Sonnie of St. Paul, Inc. , No. A10-1498 (MN App. June 6, 2011).

Significantly, the corporation failed to file an election to designate her employment as covered employment. Under MN law, certain types of employees and owners are defined as non-covered for purposes of unemployment benefits, including “employment of a corporate officer, if the officer owns 25 percent or more of the employer corporation, and employment of a member of a limited liability company, if the member owns 25 percent or more of the employer limited liability company.” Minn. Stat. § 268.035, subd. 20(29). An employer (your LLC or S-Corp., for instance) may file an election for coverage for employees who are otherwise non-covered, and if that election for coverage is accepted by the commissioner, those employees may be eligible for benefits. Minn. Stat. § 268.042, subd. 3(a).

If you are the owner of a small business in Minnesota, you should consider whether to make such an election to cover yourself for unemployment benefits. Of course, we at Rogers Law Office would be happy to assist you in exploring this option.

Originally posted on June 6, 2011 by Will

The MN Court of Appeals has affirmed the applicability of the Civil Procedure rules to mechanic’s lien actions. Because a mechanic’s lien statement does not constitute a “summons or other process” within the meaning of Minn. R. Civ. P. 4.02 and because the mechanic’s lien statutes are excepted from the Rules of Civil Procedure, Minn. R. Civ. P. 4.02 does not apply to service of a mechanic’s lien statement for purposes of Minn. Stat. § 514.08, subd. 1 (2010).

In a civil action, a summons or other process cannot be served by a party under Minn. R. Civ. P. 4.02. Because lien statements are not subject to Minn. R. Civ. P. 4.02, mechanic’s lien statements served by personal delivery by a party to the lien are validly served under Minn. Stat. § 514.08.

See Eclipse Architectural Group, Inc., et al., Plaintiffs, vs. Kevin Lam, et al.

This case serves as another reminder that mechanic’s liens are creatures of statute, and as such the specific statutory provision must be followed carefully. In this case, the lien statute was actually more forgiving than the comparable civil rule, but that is not normally the case. Advice to construction clients: always read the mechanic’s lien statutes, or develop a set of written procedures that carefully track the statutory language, to ensure perfection of your mechanic’s liens.

Originally  posted on April 11, 2011

Camelot owns the “Block E” shopping mall in downtown Minneapolis. AMC runs a theater in leased space on the premises. The parties’ business relationship is governed by a lease agreement executed on October 1, 2007.  The lease provides a five year term which is scheduled to conclude on September 30, 2012. What happens afterward is the subject of the litigation. Both sides argued the relevant lease provision is unambiguous, and sought judicial interpretation as a matter of law. Of course, both sides presented radically different interpretations of the “unambiguous” language to the court. Camelot claimed the lease will expire, and the parties may renegotiate new terms if they wish. AMC claimed it is entitled to extend the lease for two successive five-year periods on the same terms and conditions as before.

The pivotal question is whether the lease provides AMC with an “option to extend,” which continues the original lease, or an “option to renew,” which requires negotiation of a new lease. See Med-Care Assocs., Inc. v. Noot , 329 N.W.2d 549, 551 (Minn. 1983). Under Minnesota law, the words “extend” and “renew” used in the pivotal section of the lease agreement do not control – the question is whether the terms and conditions for the option period are ascertainable from the document itself. See id .

“If any contractual term for the additional period must be negotiated or determined, the statute of frauds requires a new lease, and the new period is a renewal.” Med-Care Assocs. , 329 N.W.2d at 551. But “[i]f the lease is continued by the party holding the option merely on timely notice or on some other condition, no new lease is required, and the option is an extension.” Id. If the terms and conditions of the option period can be reasonably determined in a manner prescribed in the contract , so that nothing is subject to negotiation, then you have a properly drafted renewal clause.

In the Camelot case, the relevant lease section, entitled “Option to Extend,” provides in relevant part:

“Tenant shall have two (2) successive options to extend the term of this Lease for an additional period of five (5) Lease Years . . . on the same terms and conditions as set forth herein, except that (i) Option Periods, once exercised cannot be exercised again, (ii) no Rent concessions, abatements, lease buyouts, tenant allowances or limitations on tax or expense pass-throughs granted with respect to the Lease Term hereof shall be applicable to any Option Period, (iii) Minimum Rent for each Option Period shall be as shown [in earlier sections of the lease].”

Reviewing the lease document as a whole, the court concluded that the parties appeared to have intended this language to create an extension, but on modified terms. (Slip. Op. p. 6.)  None of the terms in the quoted language, other than “Rent,” were defined elsewhere in the lease agreement.  The court determined that without a formula or other guidance in the language chosen by the parties, the scope and nature of “Rent concessions, abatements, lease buyouts, tenant allowances or limitations on tax or expense pass-throughs” applicable to the option could not be ascertained from the lease itself. (Slip. Op. p. 8.)  In other words, the terms of the so-called option were indefinite.  As a result, whatever the parties may have subjectively intended, the “Option to Extend” creates a renewal, not an extension. Id.

To create a valid, enforceable option to extend in a lease contract, at least in Minnesota, all of the terms of the lease need to be specifically defined.  Any indefinite term (i.e., any term which will require negotiations to establish its value or meaning) is enough to transform an intended option to extend into an option to renew.

Originally posted on February 24, 2011 by Will

It has become almost standard in business contracts to incorporate a provision requiring the losing party to pay the prevailing party’s attorney fees and expenses in any dispute arising out of the contract. Attorney fee provisions have their place, but are not appropriate in every agreement.

Start with the premise that any dispute resolved without the involvement of attorneys is best for all parties concerned (excluding, of course, the attorneys). Litigation is almost always damaging to both sides in terms of time and financial resources consumed. The idea and purpose of attorney fee provisions is to make each side think twice about pursuing litigation, because the risk of losing includes not only liability to the other party for any legal remedy, but also for the other side’s legal fees.

Attorney fee clauses have several benefits. Attorney fee provisions can promote recovery of unpaid accounts receivable. Where the outstanding amounts do not substantially exceed anticipated legal fees and costs, an attorney fee provision can change the economic balance and promote recovery efforts.

Attorney fee provisions help deter frivolous claims. Plaintiffs are unlikely to raise questionable claims to merely harass the defendant if they will have to pay for the defense of the claims as well as their prosecution. Attorney fee provisions can also be helpful where there is a substantial difference in resources between the parties to a contract. Where one party has limited financial resources, an attorney fee provision helps protect that party from being buried in legal fees in the face of an obvious breach by a financially advantaged party. This is really a subset of frivolous claims, where the at-fault party frivolously defends in order to put the screws to the plaintiff. The big guy can’t simply litigate his way out of liability for a breach. Where liability is clear, an attorney fee provision can promote settlement of disputes because the liable party has no interest in compounding its woes by paying both sides to litigate further.

Where the parties to a contract are relative equals in terms of sophistication and resources, however, attorney fee provisions can pervert the dispute resolution process. This is particularly true in close cases where the legal and/or factual issues are hotly contested. In such instances, an attorney fee provision can actually work to perpetuate litigation that is damaging to both sides. The prospect of recovering attorney fees can drive the litigation forward until the fees on each side overwhelm the economic value of the underlying dispute. At play in this “litigation momentum” is the fact that in close cases, both sides believe that they will prevail. Because they believe they will recover attorney fees and expenses as well as whatever remedies are available at law, the parties authorize more aggressive (i.e. expensive) litigation efforts than they might if they had to pay their own way.

Cases of clear liability do not frequently result in extensive litigation. The type of dispute that is most likely to involve attorneys is one wherein the circumstances present no obvious liability. This is precisely the type of dispute that can result in extensive, expensive litigation. This is also the type of dispute in which an attorney fee provision can promote, rather than discourage, the perpetuation of litigation.

Another disadvantage of attorney fee provisions arises in cases of insured losses. In situations where a claim may be covered by insurance (such as professional liability), the voluntary contractual assumption of liability for attorney fees and costs may not be covered unless you would be legally liable for those amounts in the absence of the attorney fee provision (e.g., pursuant to a statute that mandates an attorney fee award).

Frivolous lawsuits are far less common than commonly believed. Litigation generally occurs in close cases where liability is unclear. Before agreeing to (or insisting upon) an attorney fee provision in any contract, you should carefully consider the relative sophistication and resources of the contracting parties. You should also consider whether you and your bargaining partner(s) are willing to take on the risk that a dispute requiring litigation could result in an attorney fee award that may overwhelm the value of the underlying dispute. If you want to use an attorney fee provision, you may want to consider limiting its application only to disputes over billing and payments.

Janus was the patron of economic enterprises, frequently used to symbolize change and transition such as the progression of past to future, of one condition to another, of one vision to another. Attorney fee provisions promote both benefits and burdens. Their use should be subjected to careful consideration of past and future dealings of the parties, and of the benefits and burdens they entail.

Originally posted on January 31, 2011 by Will

Arbitration provisions in contracts have proliferated in recent years, presumably under an assumption that arbitration is a faster and less expensive alternative to a lawsuit. Awards are binding on the parties, and judicial review is very limited, again restricting options and limiting expenses (there is no further expense or delay at risk if there is no option for appeal). As with most such things, the benefits of arbitration carry their own burdens. Arbitration is great when you win, but frustrating when you lose because there is typically no recourse.  More problematic, even if the arbitrator fails to follow controlling law, you may not be able to challenge the award. Whither the avenue of challenge to arbitration awards? Down an increasingly narrow path.

Arbitration awards are highly favored in Minnesota, and the standard of review is “extremely narrow.” Hunter, Keith Indus. v. Piper Capital Mgmt. , 575 N.W.2d 850, 854 (Minn. App. 1998). The court “must exercise every reasonable presumption in favor of the award’s finality and validity.” Id. (quotation omitted). Whether the record supports the arbitrator’s findings is not an issue for the court’s review, and the court “may not examine the underlying evidence and record, or otherwise delve into the merits of the award.” Liberty Mut. Ins. Co. v. Sankey , 605 N.W.2d 411, 414 (Minn. App. 2000), rev. denied (Minn. Apr. 18, 2000). The arbitrator is the “final judge of both law and fact.” Cournoyer v. Am. Television & Radio Co. , 83 N.W.2d 409, 411 ( Minn. 1957).

Under both Minnesota law (Minn. Stat. § 572.19) and the Federal Arbitration Act (FAA), a challenge to an arbitration award is limited to specifically enumerated grounds. Under Minnesota law, an arbitration award “will be vacated only upon proof of one or more of the grounds stated in Minn. Stat. § 572.19.” AFSCME Council 96 v. Arrowhead Reg’l Corr. Bd. , 356 N.W.2d 295, 299 (Minn. 1984). The party seeking to vacate the award has the burden of proving that the award is invalid. Nat’l Indem. Co. v. Farm Bureau Mut. Ins. Co. , 348 N.W.2d 748, 750 (Minn. 1984). Under the FAA, the statutory grounds are the exclusive means for vacating an arbitration award under the FAA. Hall Street Associates, L.L.C. v. Mattel, Inc. , 552 U.S. 576, 128 S. Ct. 1396, 1403 (2008).

Prior to the Hall Street decision, courts in many jurisdictions recognized the manifest-injustice-of-the-law doctrine, described as an arbitrator understanding the governing legal principle but choosing to ignore it, as a basis for vacating an arbitration award. [1] See, e.g., Hunter, Keith Indus. , 575 N.W.2d at 855.  The Hunter, Keith Indus. court recognized the existence of the manifest-injustice doctrine but did not reach the issue of whether to apply it as a matter of MN state law. Id. at 855-56 (stating in parenthetical that “Minnesota law favors arbitration awards and by statute severely limits the grounds upon which a reviewing court may vacate an award” and “view[ing] as significant the fact that very few of the federal circuit courts that have recognized the manifest disregard doctrine have vacated an arbitration award on that basis”). Hall Street , while not binding, reinforces a restrictive reading of Minn. Stat. § 572.19.

You Can’t Contract Around the Statute

The parties in Hall Street attempted to enlarge the grounds for judicial review by including a provision in the arbitration agreement requiring the court to “vacate, modify, or correct any award: (i) where the arbitrator’s findings of facts are not supported by substantial evidence, or (ii) where the arbitrator’s conclusions of law are erroneous.” Hall Street , 552 U.S. at 588, 128.  The Supreme Court rejected these contract terms as unenforceable under the FAA, explaining that “[a]ny other reading opens the door to the full-bore legal and evidentiary appeals that can ‘’rende[r] informal arbitration merely a prelude to a more cumbersome and time-consuming judicial review process.’ ” Id. (internal citations omitted).

Impact for Contracts

Parties should expressly evaluate whether arbitration is the most appropriate forum for resolving disputes that may arise in the future. The severely restricted ability to challenge an arbitration award, even where the arbitrator disregards the law, cuts against arbitration as an appropriate dispute resolution mechanism. Full judicial review procedures are far more desirable for the protection of substantial rights, valuable property and large sums. As value increases, the “appeal” of arbitration withers. Like any dispute resolution mechanism, arbitration is not the best fit for all situations. The merits (speed, cost efficiency) should be carefully weighed against the burdens (lack of meaningful appeal) before agreeing to an arbitration clause.

Footnote:

[1] Because Hall Street held that Sections 10 and 11 provide the “exclusive” grounds for challenging an arbitration award, manifest-injustice is effectively dead under the FAA.  A creative attorney may attempt to recast an arbitrator’s disregard of the law under the express statutory formula of Section 10(a)(4) of the FAA—where arbitrators exceed their powers.  The Court’s discussion in Hall Street suggests, however, that the Supreme Court would unfavorably view such a stratagem.

More info:

Minn. Stat. § 572.19

Federal Arbitration Act