United States: ARBITGEDDON Is Now Over For Most California Employers: AB 51 Has Been Permanently Enjoined For Arbitration Agreements Covered By The FAA

Employers who have felt undecided about rolling out mandatory employee arbitration agreements because of legal uncertainties can now hit the gas with more confidence. California's Assembly Bill (AB) 51 banning mandatory arbitration agreements and imposing criminal liability on employers for using them has now been permanently enjoined because the law conflicted with federal law. Read on for an explanation of where we are, how we got here, and what to expect next.

California's Assembly Bill (AB) 51

Our journey begins in January 2020, the effective date of California's AB 51. The bill sought to prevent California employers from requiring new and current employees to sign mandatory arbitration agreements as a condition of employment. The law made the use of mandatory arbitration agreements by California employers punishable by civil and criminal penalties. This was an astonishing expansion of California's attempt to thwart mandatory arbitration and was the subject of instant legal challenge.

Red Light... Green Light!

The business community filed suit in federal court, arguing that AB 51 is preempted by the Federal Arbitration Act (FAA). A judge in the Eastern District of California agreed and issued a preliminary injunction.

The State of California appealed. And in February 2023, after several twists and turns, the Ninth Circuit Court of Appeals ultimately upheld the district court's preliminary injunction finding among other things that AB 51's imposition of civil and criminal penalties overstepped states' ability to regulate arbitration agreements. Please see Lane Powell's previous Legal Update for further details.

The State of California did not seek a rehearing en banc or to otherwise challenge the Ninth Circuit's February 2023 decision. Instead, on December 22, 2023, the parties acknowledged that the decision "effectively resolve[d] the legal issues" in the case and stipulated to a permanent injunction, dismissal with prejudice, and payment of fees and costs incurred by the plaintiffs.

Accepting the parties' stipulation, on January 1, 2024, the U.S. Court for the Eastern District of California rang in the new year by permanently enjoining the law and dismissing the case with prejudice. The injunction prevents the State of California from enforcing AB 51 against any agreement that is "covered by the FAA."

Yellow Light... Not All Arbitration Agreements Governed by the FAA

The FAA applies to some, but not all, employment arbitration agreements. To be covered, the agreement must be in writing, and employment must affect interstate commerce. Although this is an exceedingly low standard, we can expect litigants will push the limits of this standard.

To be clear, some California case law holds that the FAA does not apply to certain arbitration agreements. For example, one California court ruled that the FAA did not apply to a California residential painting company's agreement with its California employee, meaning the agreement was instead subject to California law. Similarly, another California court ruled that a wage claim brought under California's Labor Code by a California security analyst against a firm based and operating in California was not preempted by the FAA. Importantly, had the employers presented facts showing some connection between interstate commerce and their business or their employees' work, the courts may have decided those cases differently.

Additionally, the FAA expressly exempts "contracts of employment of seamen, railroad employees, or any other class of workers engaged in foreign or interstate commerce." The full extent of this exemption is an unsettled area of law, and litigants may attempt to expand the scope of this exception in an effort to bypass arbitration agreements.

The Road Forward: What Employers Should Do Now

• Confirm FAA Coverage. California employers should conduct an immediate review of their California employment arbitration agreement to ensure that it includes clear language and recitals showing it is governed by the FAA.
• Review For Unconscionability. California law governing unconscionability remains unaffected by the permanent injunction, and employers should expect litigants to redouble efforts to challenge arbitration agreements on that basis. Employers should review their agreements and new hire documents to ensure there are not any unexpected bumps in the road compelling arbitration.
• Stay tuned! This is likely not the last attempted roadblock to arbitration. Stay tuned for more on this issue.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.