Drafting Effective Arbitration Clauses for Small Businesses: Tips and Tools for Success
June 23, 2023
By Bridget McCormack, CEO and President, American Arbitration Association-International Centre for Dispute Resolution (AAA-ICDR) and Svetlana Gitman, Vice President, AAA-ICDR Commercial Division
Small businesses often enter into contracts with other commercial parties that include an arbitration clause because arbitration offers speed, efficiency, confidentiality, flexibility and finality to resolve disputes. An arbitration clause typically specifies that a dispute arising from the contract will be resolved through binding arbitration rather than litigation in court. Drafting an effective arbitration clause, however, can be challenging, especially for businesses that may not have extensive legal resources. But there are solutions for businesses that are drafting their own clauses. The American Arbitration Association-International Centre for Dispute Resolution (AAA-ICDR), a 501(c)(3) non-profit organization and the largest provider of dispute resolution services in the world, offers guidance to small businesses.
- Be Clear and Specific: The arbitration clause should clearly state the scope of the arbitration agreement, including: 1) the type of disputes covered, 2) the rules and procedures to be followed – especially when it comes to selecting the arbitrator(s), 3) where the arbitration should take place, and 4) the governing law. It is essential to be as specific as possible to avoid confusion and disputes later. Fights over ambiguities in a clause can end up in court, the very place you wanted to avoid by including an arbitration clause in your contract.
- Consider the Cost: While arbitration is significantly cheaper than litigation, it can become an expensive process if the clause is not tailored to your business needs. For example, you can opt to have the dispute decided by one arbitrator rather than a panel of three. Based on data collected by the AAA-ICDR, three arbitrators can cost five or six times more than a single arbitrator, and the case will take several months longer to conclude.
- Use a Model Clause: Small businesses can use a model clause as a starting point for drafting their arbitration clause. One great place to start is by visiting www.ClauseBuilder.org – a free tool created by the AAA-ICDR that allows users to construct arbitration clauses based on their specific needs. After answering a few questions about their needs and preferences, the tool will generate a dispute resolution clause that the user can copy and paste into their contract.
- Consider Naming an Administrator: Administered arbitration is when an arbitration provider like the AAA manages the arbitration process; “ad hoc” arbitration is when the parties themselves or their selected arbitrator manages the arbitration. Administered arbitration provides several benefits that ad hoc arbitration cannot. First, administered arbitration offers structure and clarity when the arbitration clause is silent or ambiguous on an issue. For example, parties likely will end up in court if their arbitration clause does not say how an arbitrator should be selected and the parties cannot agree on the process. If the parties’ clause provides for an administrator, however, the administrator’s arbitration rules will apply as a default, avoiding court intervention and keeping the case moving forward. Most importantly, arbitration administration providers offer expertise in handling arbitration cases, which in turn avoids delays when unexpected issues arise. Think of administered arbitration as an insurance policy to protect the arbitration process.
In sum, small businesses should take the time to draft effective, tailored arbitration clauses that are clear and specific and keep costs manageable. Those with limited legal resources should take advantage of helpful tools like www.ClauseBuilder.org to ensure their arbitration clause provides an efficient resolution process for any disputes that may arise from their contracts.
For more information, please contact Svetlana Gitman Vice President, AAA-ICDR Commercial Division, at gitmans@adr.org.
*This article was drafted with the assistance of ChatGPT.