Kentucky Supreme Court Rules FAA Does Not Protect Mandatory Employment Arbitration
In a surprise decision, the Supreme Court of Kentucky ruled on September 27, 2018, that the Federal Arbitration Act (FAA) does not protect employment arbitration agreements that are required as a condition of employment. Northern Kentucky Area Development District v. Snyder, No. 2017-SC-000277-DG (September 27, 2018).)
Earlier this year, the Supreme Court of the United States’ landmark decision in Epic Systems Corporation v. Lewis, Nos. 16–285, 16–300, 16–307 (May 21, 2018), sent employers rushing to embrace arbitration. But with Kentucky’s new anti-arbitration decision, have plaintiffs’ attorneys found the Achilles’ heel of the Supreme Court’s pro-arbitration precedent? Only time will tell. In the short term, this decision means that employers in Kentucky state courts seeking to enforce arbitration agreements—nearly all of which are required as a condition of employment—face some new uncertainty.
Snyder involves an employer called the Northern Kentucky Area Development District (NKADD), a state entity funded by taxpayers to administer various social programs. NKADD, like many employers across the country, requires its employees to enter into arbitration agreements as a condition of employment.
When a former employee sued NKADD in Kentucky state court alleging wage and hour and whistleblower claims, NKADD asked the court to send the matter to arbitration. The former employee resisted arbitration. Her theory was that NKADD, as a state-created entity, lacked the authority under state law to require arbitration as a condition of employment. The trial court and intermediate appellate court agreed with the former employee and refused to compel arbitration.
In affirming the decisions of the two lower courts, the Supreme Court of Kentucky provided an interpretation of the FAA that would apply to all employers, not just state-created entities. First, the court noted that a long-ignored Kentucky statute (Kentucky Revised Statute 336.700(2)) expressly prohibits an employer from conditioning employment on an existing employee’s or prospective employee’s agreement to “waive, arbitrate, or otherwise diminish any existing or future claim, right, or benefit to which the employee or person seeking employment would otherwise be entitled.”
Second, the court concluded that the FAA did not preempt application of the state statute. The court noted that the FAA “‘preempts any state rule discriminating on its face against arbitration’” and “‘any rule that covertly accomplishes the same objective by disfavoring contracts that . . . have the defining features of arbitration agreements.’”
The Supreme Court of Kentucky went to some length to explain why it believed the state statute does not discriminate against arbitration on its face or more indirectly. The court found the Kentucky law “does not prohibit arbitration agreements, limit the power of persons to enter voluntarily into arbitration agreements, or single out arbitration agreements in any way.” Instead, according to the court, the Kentucky statute nullifies any agreement required as a condition of employment if it acts as a “waiver or diminution of the employee’s existing or future rights or claims for benefits arising out of employment.”
The court thus reasoned that employers and employees can still enter into arbitration agreements; employers just cannot require such agreements as a condition of employment. Perhaps most significantly, the court declared that “[e]ven the broadest construction of the reach of the FAA would not allow employers to fire or hire an employee or prospective employee based on that employee’s willingness or unwillingness to sign an arbitration agreement.” But that, of course, is what employers do every day.
The Snyder decision comes at an important time for employment arbitration. In May 2018, the Supreme Court issued its Epic Systems decision, holding that employers may include class action waivers in employment arbitration agreements. The ability to use such waivers has piqued employers’ interest in arbitration. Anecdotal evidence suggests that many employers are now updating their existing agreements or adopting arbitration programs for the first time. It is safe to assume that most of those agreements are required as a condition of employment.
At the same time, some state legislatures have begun showing an increased hostility towards employment arbitration, perhaps in response to concerns raised by the #MeToo movement, which has at times criticized employment arbitration, and perhaps in response to the Epic Systems decision. In recent months, Maryland, New York, Vermont, and Washington have all adopted statutes that limit or prohibit the use of employment arbitration with respect to sexual harassment claims. Other states are considering similar measures to try to make employment arbitration less attractive to employers.
If the Supreme Court of Kentucky were correct that the FAA does not protect employers’ ability to require arbitration as a condition of employment, any state could effectively ban employment arbitration. Would the Supreme Court agree with this view of the FAA? It seems unlikely.
Employers set the terms for at-will employees’ employment every day. At the most basic level, employers require employees to follow employment policies and instructions, show up for work, and perform work as a condition of continued at-will employment. Employers also regularly require at-will employees to agree to confidentiality, noncompetition, and nonsolicitation agreements as conditions of employment. Any state law that directly or indirectly bans mandated arbitration as a condition of continued employment appears to single out arbitration for disfavored treatment. Such laws—including the Kentucky statute—would appear to be preempted by the FAA under the Supreme Court’s current precedent.
Significantly, at least one federal court in Kentucky has already found this state statute preempted. In 2010, the U.S. District Court for the Western District of Kentucky explained that “[t]he provisions of the Kentucky statute cited by the plaintiff expressly make it unlawful for employers to require employees to enter into arbitration agreements” and these provisions “unmistakably conflict with § 2 of the FAA.”
In the long run, the Supreme Court of Kentucky’s Snyder decision seems unlikely to withstand scrutiny by the Supreme Court of the United States. Just last year, the Supreme Court overturned another anti-arbitration decision from the Supreme Court of Kentucky in Kindred Nursing Centers Limited Partnership v. Clark, No. 16-32 (May 15, 2017). And in 2012, the high court quickly smacked down an anti-arbitration decision by the Supreme Court of Appeals of West Virginia in a short, unsigned decision without even holding oral argument. Marmet Health Care Center, Inc. v. Brown, Nos. 11-391 and 11-394 (February 21, 2012). This new Kentucky decision may be headed toward a similar fate.
There are a couple of caveats to this prediction. First, justices who dissented from the Court’s Epic Systems decision and are concerned about its potential effect on the enforcement of federal labor and employment law might distinguish the Court’s precedent. For example, they might view this case as different from the Court’s prior cases because it involves employment arbitration, not commercial or consumer arbitration. Second, Justice Thomas—who otherwise has often sided in favor of arbitration—has dissented in several cases involving state court decisions based on his view that the FAA does not apply in state courts.
What should employers expect in the short term? Importantly, Kentucky’s federal courts are not bound to defer to state courts’ interpretations of federal statutes such as the FAA. It thus seems likely that the district courts of Kentucky will continue to enforce employment arbitration agreements under the FAA as before. And employers that are sued in Kentucky’s state courts will likely seek to remove their cases to federal court where possible.
The primary risk now for employers is being sued in state court and being unable to remove actions to federal court or establish a basis for federal jurisdiction over petitions to compel arbitration under the FAA. In those cases, employers may be unable to enforce their employment arbitration agreements in Kentucky state courts for the time being. But that scenario will likely involve only a minority of cases against out-of-state employers.