Statutory Requirement to Arbitrate Voids Parties’ Agreement to Litigate Disputes in Court

• Posted on: Feb 13 2019

It is well settled that New York has a “long and strong public policy favoring arbitration,” such that the “courts [will] interfere as little as possible with the freedom of consenting parties to submit disputes to arbitration.” Smith Barney Shearson v. Sacharow, 91 N.Y.2d 39, 49-50 (1997) (internal quotation marks omitted). In light of this public policy, arbitration is encouraged “as a means of conserving the time and resources of the courts and the contracting parties” to a dispute. Matter of Nationwide Gen. Ins. Co. v. Investors Ins. Co. of Am., 37 N.Y.2d 91, 95 (1975).

In Smith Barney Shearson, the Court of Appeals observed that preventing arbitration when the parties have agreed to the forum “would curtail or divert this progressive and prudent policy favoring arbitration.” Id. at 50. The court went on to say that “[c]ourts should be very hesitant … to impinge upon the rights and obligations derived from commitments to integrated, relatively speedier and less costly alternative dispute resolution modalities.” Id.

What if, however, the parties do not agree to arbitrate their disputes but a statute governing their conduct does require arbitration? In Dakota, Inc. v. Nicholson & Galloway, Inc., 2019 N.Y. Slip Op. 30270(U) (Sup. Ct. N.Y. County Jan. 30, 2019) (here), Justice Barry Ostrager of the Commercial Division held that the statutory requirement prevails.

The statute in question is the Prompt Payment Act (the “PPA”), Article 35-E of the General Business Law, sections 756-758. The PPA “governs payment procedures and remedies for private non-residential construction contracts in excess of a specified dollar threshold.” Capital Siding & Constr., LLC v. Alltek Energy Sys., Inc., 2016 N.Y. Slip Op. 31043 (Sup. Ct. Albany County), aff’d, 138 A.D.3d 1265 (3d Dept. 2016); see GBL § 756 (1). “If efforts to resolve a dispute arising under the PPA are unsuccessful, the aggrieved party may refer the matter to expedited arbitration before the American Arbitration Association.” Id. § 756-b (3). Thus, if the parties do not have an agreement to arbitrate, the PPA provides a mechanism for them to avail themselves of the forum.

“[A] claim alleging a violation of the PPA is subject to arbitration so long as the prerequisites of § 756-b (3) have been satisfied.” Pike Co., Inc. v. Tri-Krete Ltd., 2018 WL 6060927, at *7 (W.D.N.Y. Nov. 20, 2018). “The prerequisites include: (1) third-party verification of delivery of written notice of the PPA violations; and (2) third-party verification of delivery of the demand, to AAA, for an expedited arbitration.” Dakota, Slip Op. at *4 (citing GBL § 756-b (3)).

The PPA also addresses the situation in which the parties have an agreement to litigate rather than arbitrate their disputes. In this regard, the PPA provides that, ‘[e]xcept as otherwise provided in this article,’ the terms and conditions of the parties’ written agreement will supersede the PPA’s provisions.”  Capital Siding & Constr., 138 A.D.3d at 1266 (quoting GBL § 756-a). However, if the parties’ agreement conflicts with the arbitration requirement in the PPA, the PPA governs, making the parties’ contractual provision “void and unenforceable.” GBL § 757 (3) (directing that “[a] provision, covenant, clause or understanding in, collateral to or affecting a construction contract stating that expedited arbitration as expressly provided for and in the manner established by [General Business Law § 756-b] is unavailable to one or both parties” is “void and unenforceable.”) See also Capital Siding & Constr. 138 A.D.3d at 1266.

Dakota, Inc. v. Nicholson & Galloway, Inc.

Dakota involved a dispute for payment between a residential cooperative apartment corporation, The Dakota, Inc. (“The Dakota”), and Nicholson & Galloway, Inc. (“N&G”), a general contractor hired to undertake a $28 million roof replacement and facade renovation of the cooperative building. N&G claimed that it was owed a final payment of $637,500 under a construction agreement between the parties (the “Agreement”).

The Agreement provided for retainage payments of 10% of progress payments, capped at $1,250,000. The vast majority, if not all, of the construction work was allegedly completed in April 2018. Shortly thereafter, The Dakota released 50% of the retainage to N&G. The Dakota withheld the balance of the retainage after alleging that N&G caused damage to the building during renovations. Thus, The Dakota claimed offsets against the balance of the retainage due to N&G’s alleged misconduct.

On November 28, 2018, N&G noticed a Demand for Arbitration on The Dakota (the “Demand”) pursuant to the expedited arbitration procedure within the PPA. N&G claimed that The Dakota violated the PPA.

The Dakota sought to stay the arbitration pursuant to CPLR § 7505(b), arguing that the Agreement provided for litigation, not arbitration.  The Court denied the petition and dismissed the special proceeding.

The Court held that the “PPA’s expedited arbitration procedure [was not] precluded by [the] parties’ contractual agreement to litigate disputes.” Slip Op. at *3. The Court found that “the plain language of the PPA makes void and unenforceable the parties’ purported agreement to litigate disputes arising out of the Agreement to the extent the Agreement precludes the PPA’s expedited arbitration procedure.” Id. at *3. In reaching its holding, the Court found Capital Siding & Construction to be “particularly instructive.”

Capital Siding & Construction involved a dispute between a contractor and a subcontractor where the former was alleged to have withheld certain payments from the latter. 138 A.D.3d at 1265. The subcontractor sought expedited arbitration pursuant to the PPA. The contractor resisted that effort and commenced a proceeding under CPLR § 7503 to stay the arbitration. Id. The contractor argued that the agreement at issue “expressly state[d] that litigation, not arbitration, [was] the parties’ chosen method of dispute resolution.” Id. The Third Department held that the contractor’s reading of the PPA was incorrect because it “ignore[d] the existence of General Business Law§ 757(3), which … unambiguously voids and renders unenforceable any contractual provision that makes expedited arbitration unavailable to one or both parties.” Id. at 1266.  See also Pike, 2018 WL 6060927, at *7 (“However, § 757 prohibits any contractual provision that causes the PPA’s expedited arbitration remedy to become unavailable to one or both parties.”).

Having determined that the expedited arbitration procedures of the PPA superseded the parties’ agreement, the Court addressed whether the alleged violations fell within the scope of the PPA. Id. at *5. The Court held that the alleged violations did. Id.

First, the Court held that N&G provided written notice of a PPA violation, stating “N&G’s Demand for Arbitration plainly allege[d] that the nature of the dispute [was] a ‘[v]iolation of New York Prompt Payment Act.’” Id. The Court declined to “engage in an extensive analysis of whether the PPA ha[d] been violated” because to do so “would necessarily render the PPA’s expedited arbitration remedy useless as a tool to avoid protracted and expensive litigation.” Id. (citing Pike, 2018 WL 6060927, at *9).

Notwithstanding, the Court observed that there was a question as to whether “some, none, or all” of N&G’s claims were arbitrable. In the Demand, N&G alleged PPA violations and a breach of contract. Yet, said the Court, “‘the AAA’s authority to issue an arbitral award is limited to the alleged violation of the PPA.’” Id. (quoting Pike, 2018 WL 6060927, at *10). Consequently, the AAA could not arbitrate whether N&G had a cause of action for breach of contract. Slip Op. at *5. The Court concluded that “[a]ny allegations of common law breach of contract must necessarily be litigated in a court of competent jurisdiction pursuant to the Agreement’s dispute resolution provisions.…” Id.

Second, the Court held that N&G satisfied the delivery requirement GBL § 756-b (3). Id. The Court noted that on October 26, 2018, N&G provided written notice of the PPA violations to The Dakota pursuant to the notice provisions of the Agreement. Id. The Dakota received the notice, as confirmed by its General Counsel [a third party to the dispute] on November 7, 2018. “Therefore,” the Court held, “there was third party verification of delivery of written notice of the Dakota’s purported PPA violations.” Id. (footnote omitted).

As a result, the Court denied The Dakota’s motion to permanently enjoin the arbitration proceedings demanded by N&G and dismissed The Dakota’s petition to stay the Demand to Arbitrate and discontinued the special proceeding.

Takeaway

Typically, disputes over the arbitrability of claims arise in connection with an agreement to arbitrate. In Dakota, the opposite was true – the dispute arose in connection with an agreement not to arbitrate.

Dakota is important because there are “only a limited number of” cases “interpreting the PPA, and virtually no case” authority “describing the scope of the PPA’s arbitration provision in any depth.” Pike, 2018 WL 6060927, at *5.  As such, like Capital Siding and Construction and Pike, Dakota is instructive for its consideration of the interplay between a contractual provision rejecting arbitration and a statutory provision requiring arbitration and the primacy of the latter over the former.

As explained by the Legislature in enacting the PPA, the arbitration requirement was intended to promote “speedier resolutions,” reduce the “time and funds wasted in litigation,” and hasten the “payment of moneys owed.” Id. at *6 (quoting N.Y. Bill Jacket, 2009 A.B. 6493, Ch. 417). Section 757 of the PPA achieves those goals by prohibiting any contractual provision that causes the statute’s expedited arbitration remedy to become “unavailable to one or both parties.” GBL § 757(3). Dakota is another case to further these legislative purposes.

Tagged with: Alternative Dispute Resolution, Arbitration, Commercial Litigation, Construction Litigation, Contract, Prompt Payment Act