An important issue confronting Congress in the debate over Wall Street
reform is the use of mandatory pre-dispute arbitration provisions in account
opening forms between consumers and their broker-dealers and investment advisors.
In 1987, a sharply divided United States Supreme Court decided
Shearson/American Express v. McMahon, 482 U.S. 220 (1987). In its decision the Court held that the mandatory
arbitration provisions in agreements between investors and brokerage firms
were enforceable. Since that decision, mandatory arbitration clauses have
been adopted almost universally throughout the industry.
The arbitration provisions waive the investor’s right to go to court
and require binding arbitration in a securities industry controlled forum
(the Financial Industry Regulatory Authority –
FINRA), in the event of any dispute regarding the investor’s account.
Congress has now recognized that such arbitration provisions have unfairly
restricted the ability of defrauded investors to seek redress in the courts
and the inequities of the mandatory securities arbitration system.
The Wall Street Reform and Consumer Protection Act, passed by the House
of Representatives, could lead to the end of the use of mandatory pre-dispute
arbitration in securities disputes. While the bill does not outright ban
such clauses, the House version provides that the Securities and Exchange
Commission (SEC) may restrict or even prohibit use of mandatory arbitration
provisions by broker-dealers and investment advisors if the SEC finds
that “such a prohibition, or imposition of conditions, or limitations
are in the public interest and for the protection of consumers.”
The Senate version of Wall Street reform, the Restoring American Financial
Stability Act of 2010, contains a similar provision with one key difference.
The bill adds that the SEC could also “reaffirm” such mandatory
pre-dispute arbitration clauses, as well as prohibit them or impose limits.
The use of the word “reaffirm” would essentially allow the
SEC to maintain the status quo – permitting broker-dealers to continue
to insert these clauses into customer agreements with the SEC’s approval.
While Congress has now recognized some of the problems with the use of
mandatory pre-dispute arbitration clauses, it is deferring any decision
on this critical issue to the SEC. It is not clear how the SEC will deal
with the use of mandatory pre-dispute arbitration clauses.