Parties often seek to modify the default rule that arbitrators may award costs, including attorneys’ fees, as part of the final award by providing that each party shall bear its own costs. 

In ReliaStar Life Insurance Co. v. EMC National Life Co., 564 F.3d 81 (2d Cir. 2009), the Second Circuit addressed such a clause.  EMC National Life Company (“EMC”) and ReliaStar entered into a coinsurance agreement that included an arbitration clause covering any disputes or differences arising under or related to the agreement.  The arbitration clause also included the following provision:

10.3 Expenses of Arbitration.  Each party shall bear the expense of its own arbitrator (whether selected by that party, or by the other party pursuant to the procedures set out in Section 10.1) and related outside attorneys’ fees, and shall jointly and equally bear with the other party the expenses of the third arbitrator.

Various disputes arose, and EMC initiated arbitration.  After discovery and a two-week hearing, the tribunal rejected EMC’s claims, ordered it to pay $21 million in past due payments under the agreement and, without explanation, awarded ReliaStar attorneys’ fees and costs.  Id. at 84-85.

The parties complied with all aspects of the award, except for the part granting ReliaStar fees and costs, which they agreed EMC could submit for reconsideration and, if necessary, challenge in court.  After further briefing, a majority of the arbitral panel awarded ReliaStar fees for its attorneys and arbitrator in the amount of $3.85 million, explaining that EMC’s conduct of the arbitration was “lacking good faith.”  Id. at 85.

ReliaStar petitioned the district court to confirm the final arbitral award.  EMC filed a counter petition to vacate the award to the extent it granted fees and costs.  The district court agreed with EMC, vacating the award of fees and costs.  ReliaStar appealed, and the Second Circuit reversed.

The Second Circuit held:

(1) A broad arbitration clause covering “any dispute” confers inherent authority on arbitrators to sanction a party that participates in the arbitration in bad faith, including by awarding attorneys’ or arbitrators’ fees.  Id. at 86-87 (citing Todd Shipyards Corp. v. Cunard Line, Ltd., 943 F.2d 1056, 1064 (9th Cir. 1991), and Marshall & Co. v. Duke, 114 F.3d 188, 190 (11th Cir. 1997)).

(2) A clause requiring each party to bear its own fees simply restates the general “American Rule;” it does not limit the arbitrators’ authority to award costs, including attorneys’ fees, as a sanction for bad faith conduct.  Id. at 88-89.

The court expressly limited its holding to the arbitration clause at issue:  “Thus, our holding today should not be understood to preclude parties who wish to limit the scope of an arbitrator’s sanction authority to exclude attorney’s fees or arbitrator’s awards from doing so.  We require only that they explicitly and clearly state that intent as part of their agreement to arbitrate.”  Id. at 89.

Practical Tip:  If parties wish to override the inherent authority of arbitrators to sanction bad faith conduct by awarding costs, including attorneys’ fees, they must include an explicit statement to that effect in their contract.  Here are two sample clauses to consider incorporating into an arbitration agreement:

(1) Expenses of Arbitration.  Each party shall bear its own expenses, including attorneys’ fees, and shall jointly and equally bear with the other party the expenses of the arbitrators.  The arbitrators shall have no authority to award expenses, including costs and/or attorneys’ fees, as a sanction or a remedy for any party’s conduct of the arbitration. 

(2) No Sanctions.  The parties agree that the arbitral tribunal shall not have authority to sanction any party’s conduct of the arbitration by award of any costs, including attorneys’ fees.