Construction Contracts: Binding Arbitration

As a bit of foreshadowing, I thought I'd work on a short series of posts on construction contracts. And I wanted to start with the subject of binding arbitration clauses.

A binding arbitration clause says that in the event of a dispute over the work product or other aspects of the contract, you and the contractor agree to resolve the dispute in arbitration rather than in court. With no exceptions at all, I think it is a bad idea to sign a contract with such a clause.

The first reason is that a clause that prevents you from suing in court limits your options. You can still use arbitration without a binding arbitration clause. But with one, you cannot use the courts. That's a bad thing for you as a purchaser. When a contractor asks you to sign a binding arbitration clause, he's saying, "When i screw up this project, I don't want you to be able to use the full range of legal options to make yourself whole."

The second reason is that arbitration is biased towards the contractor from the beginning. If you think about it, you might go to arbitration once in your life, if you are unlucky. But if you are an incompetent or just a lousy contractor (like some we have hired), you're going to be in arbitration pretty much annually. So while the courts give you a jury who have never seen you before and probably never will again, the arbitrator has probably seen your contractor before many a time. They know that that contractor is making money for them: a lousy contractor who spends a lot of time in arbitration spends plenty of money on arbitration as well. Nobody is outraged on your behalf. Getting everybody out the door and the fees paid is what arbitration is all about. When a contractor asks you to sign a binding arbitration agreement, they are saying, "When I screw up on this project, I want the deck stacked in my favour when you try to resolve it."

The third reason is that there are no appeals in arbitration. So you've gone through the process and the arbiter has decided the case in a way you don't agree with. Want to appeal? Nope. That's what the "binding" part of binding arbitration means. Whatever decision they make, you are stuck with, and you have no right to appeal or try to reach a more equitable agreement elsewhere. In mediation, for example, you can simply refuse to come to an agreement. But in arbitration there is no refusal. You are given a decision by the arbiter, and you must take it. A contractor who asks you to sign a binding arbitration agreement is saying, "When I screw up on this project, and my friends decide to resolve the dispute in my favour, I don't want you to have any other recourse."

The fourth reason, and this is important to me but may not be to you, is that arbitration usually comes with a non-disclosure agreement. So if when we found out about some cases where a former contractor had gone into arbitration, we could not find details on those cases because the parties involved had signed an agreement to not discuss them. So if somebody really messed up on your house, they can keep doing so on other people's houses with impunity, because nobody is allowed to talk about it. By asking you to sign a binding arbitration agreement, the contractor is saying, "When I screw up on this project, and my friends decide it in my favour, I'm going to make you keep silent about it so I can keep doing it to other people."

Now, it's true that not all contractors who insist on binding arbitration clauses are screwups who will make a mess of your project. But when you sign a contract you're trying to spell out the parameters of your interaction with the contract not just in the best of circumstances, but in the worst.

The supporters of binding arbitration are uniformly anti-consumer (and remember, you're the consumer here, so they're against your interests). They are people who rave about lawsuit abuse when they mean the use of the legal system to keep companies accountable for their actions. The legal system is set up to discourage frivolous lawsuits; it costs at the very least tens of thousands of dollars to go to court; a prudent person would expect to spend $100,000 to get through the case. It is incredibly, unbelievably stressful to go through the process, including depositions that last for hours and may drag over days, expert testimony and responses to discovery. Nobody is going to court for no good reason, and nobody goes to court not expecting to win. Maybe you think some reasons are unsound, but the person who is doing the suing made the decision that it was worth the amount of money to be spent on the process.

So by giving up your right to go to court in the case of damage, you are saying, "there is no amount of damage this person could do to my house that would ever be worth going to court. Even if I came home tomorrow and found that the roofer had taken off the roof and left the top of the house exposed, and it had started to rain and water was pouring into the house and destroying everything I owned, and he said it was not his fault because rain was a natural phenomenon and I should have planned for it, I'd be unwilling to sue."

To which I say, "Oh, really?" Because I can think of much less drastic situations where I would want the right to see the bastard on the defense side of a courtroom.

And of course, we're all sanguine about insurance coverage, but remember that insurance companies do not make money by paying out claims. They definitely are not going to be accommodating when you want $150,000 to fix what the incompetent contractor did to your house. You will have to take legal steps to get money out of them. If you've signed a binding arbitration clause, that's going to be your only recourse.

Speaking as people (who are not lawyers, of course) who have spent much of the last five years wending our way through the legal process, we definitely do not recommend signing a contract with a binding arbitration clause. If you decide you want arbitration, that's always an option. We recommend mediation, which is not binding, or non-binding arbitration, which allows appeals to a court when you are not happy with the results. If your contractor balks at the suggestion, it's time to ask yourself what he knows about his own work history that might be hidden from you.

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posted by ayse on 08/25/09


Wow. As a persistent lurker here, thanks for posting this ... I'm looking forward to your other posts on the subject.

What a great post! I've learned so much over the years from your battles and triumphs in home renovation. Thanks for sharing your adventures!

While I enjoy your blog and generally agree with this post about avoiding binding arbitration, I take exception to your assertion that bad contractors are in cahoots with abiters. Arbiters are lawyers assigned by an independent agency. The notion that they lawyers are friends with the contractors is just wrong. Moreover, if an arbiter had the same contactor before him for repeated problems it would work against the contractor not for him. This is from being on both sides of the table.

We agree that mediation or non-binding arbitration are far preferable.

I never said arbiters were in cahoots with contractors. But arbiters are definitely friends of contractors; there's a good reason why contractors put arbitration clauses in their contracts, and it's not because they want to help out their customers. In general, arbiters decide cases in a way that favours businesses rather than customers. For example, a standard part of an arbitration is a confidentiality agreement. That tends to favour the side that is in the wrong, because it keeps the wronged party from being able to discuss what happened, which allows the shady contractor to keep on being shady.

In addition, our legal system is set up not to protect the citizenry, but to keep business happening (anything else is Socialism! EEK). Arbiters are in general disposed to keep business moving, rather than do what is just or right for the consumer. They especially like it when a party in for arbitration knows what to do and how things will proceed. That's a big mark in favour of your repeat offender contractor, and against your average homeowner.

I suppose we'll need to agree to disagree.

I do not believe that arbiters are, in general, either in cahoots with, nor friends of (call it what you will), bad contractors. Rather, in my experience, arbiters are construction lawyers looking at the facts of the given situation, know that homeowners are new to the process and expect a reasonable (but not professional) presentation of their facts, are are seeking to make a fair decision based on their legal and building experience.

It's none of my beeswax, but it sure sounds to me like you received an unfavorable decision and there's some sour grapes which, if true, is understandable.

Again, I agree with your main premise that homeowners should avoid binding arbitration clauses, I wouldn't condemn the entire process because of a bad experience.

I've never been through arbitration. I just did a lot of research on the subject. No sour grapes at all. Not everything is a personal vendetta; it's possible to really actually care about other people without having a stake in the outcome.

Apologies, sorry to make an incorrect assumption.

Here's the key difference in our perspectives: your opinions are indirect & based on research whereas mine are based on direct experience with the process & its various participants. Therefore, I think some of your conclusions are wrong.

It's sorta like chickens. You can do plenty of web research & solitic advise beforehand but you only truly become an expert after you own one. Or several, as the case may be.


Heh. So either my opinions are wrong because they're based only on personal experience, or they're wrong because they're based on research and no personal experience. Basically, you think my method of coming to my conclusions is wrong no matter what it is, right?

Look. I went to school and got a degree that included significant work in construction management. (I also spent much of the last four years getting a very different sort of education in the legal system.) I studied how to save money and control risk and how to improve outcomes when there are disputes -- from the contractor's point of view. I did research and wrote academic papers on the subject. Maybe you disagree with the collective experience of the constructors I learned from, and the lawyers, and the industry experts, but in general the agreement is that when a lawyer (or frankly, a judge) rather than a jury decides the case, the decision is usually biased in favour of the business rather than the consumer.

I think the comparison to chicken raising is particularly bad. I'm talking about a statistical evaluation of the outcomes of legal cases, not animal training. There's no behavioral science here. I'm not talking about having just done web research and asked some opinions; I did real research involving original data, and had access to many experts in the field with plenty of experience in arbitration. Whatever else you think about what I've got to say, I'm not poorly informed.

Ayse, thank you for posting this.

Thanks for posting this. It is timely. We are likely going to have to move again and are looking at less expensive homes that will need significant work. I agree that accepting binding arbitration sounds like a bad idea, and we'll find contractors who will strike that from their contracts. I don't like the idea of giving up the right to an appeal, it's too risky to trust everything to one, single, human arbiter.

Just to back up Ayse's last response: of course researched statistical data gives a truer overall picture than anecdotal evidence. Statistics may not tell you what will happen in a given person's experience, but they will tell you what is most likely to happen to the majority of people. It's nice that some individuals have better experiences than the majority, but that doesn't in any way unmake the majority's danger.

We humans are so strongly wired to trust the anecdotal over the proven average; the perception of risk over the reality. It's what keeps us driving around in cars and yet using anti-bacterial wipes on everything, including our inadequately antibodied children.

Note: We're getting pummeled with spam comments, so I've turned off the ability to use any HTML or include any links for the time being. Email with any issues.

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