By George H. Friedman*
[The author thanks the Securities Arbitration Commentator for letting him borrow liberally from its Securities Arbitration Alert]
Arbitration law practitioners sometimes forget that the Federal Arbitration Act(“FAA”) does not by itself establish independent federal subject matter jurisdiction. In other words, a party seeking access to the federal courts must establish an independent basis for federal jurisdiction, such as diversity. [1] For example, section 4 of the FAA states that a motion to compel arbitration can be filed in “any United States district court which, save for such [arbitration] agreement, would have jurisdiction under title 28, in a civil action or in admiralty of the subject matter of a suit arising out of the controversy between the parties…” As discussed below, this lesson in federal jurisdiction was hammered home in a series of recent federal court decisions dealing with both the diversity of citizenship and amount in controversy requirements. Our focus will be 28 U.S. C. § 1332(a)(1), which states: “The district courts shall have original jurisdiction of all civil actions where the matter in controversy exceeds the sum or value of $75,000, exclusive of interest and costs, and is between … citizens of different States.”
Diversity of citizenship determined when motion to vacate – not the underlying arbitration – is filed
Diversity was at issue in Odeon Capital Group, LLC v. Ackerman, No. 16 Civ. 274 (S.D.N.Y. Feb. 29, 2016), where the Court weighed for purposes of a motion to vacate an Award when diversity is measured: the date the arbitration was commenced or the date the motion to vacate was filed? The underlying FINRA employment arbitration was brought by Ackerman, a New York citizen and resident at the time, against New-York based Odeon Capital. After Ackerman prevailed in the arbitration, [2] Odeon moved in state court to vacate the Award under section 10 of the FAA. Ackerman then sought removal to the District Court, asserting diversity because he had since moved to California.
Observing that diversity of citizenship is determined when the action is commenced, and that cases interpreting the diversity statute turn to state law on when an action is deemed initiated, the Court “finds that the text of CPLR Article 75 and other provisions of New York law… clearly support the conclusion that arbitration is neither an action nor a special proceeding, and so diversity of citizenship may not be assessed as of arbitration’s commencement. In the instant case, Petitioners do not dispute that when they filed their petition to vacate the arbitration in state court …, the parties were diverse of citizenship. Further, no party disputes that any other elements of federal diversity jurisdiction are not satisfied. Accordingly, the Court finds that Respondent properly removed the petition to vacate to federal court” (internal citations omitted). [3]
And diversity of citizenship must be complete
In Grynberg v. Kinder Morgan Energy, No. 14-1465 (10th Cir. Nov. 2, 2015), a case of first impression, the Grynbergs moved in federal district court under the FAA to vacate an adverse arbitration award, invoking diversity of citizenship (the amount in controversy exceeded $75,000). The citizenship of the parties was as follows: Grynbergs – Colorado; KMEP – a Delaware master limited partnership; and KMCO2 – a Texas limited partnership with one partner. The District Court dismissed the petition to vacate for lack of diversity jurisdiction, however. Why? Because KMEP had at least one unitholder from Colorado which, based on Carden v. Arkoma Associates, 494 U.S. 185 (1990), destroyed complete diversity of the parties. On appeal, a unanimous Tenth Circuit affirms, finding that the District Court properly interpreted Carden to mean that the citizenship of a limited partnership is the citizenship of all its unitholders.
The amount in controversy is determined by what’s demanded, notawarded (or paid)
The $75,000 amount in controversy requirement of 28 U.S.C. § 1332(a) was at issue in National Casualty Co. v. Resolute Reinsurance Co., No. 15cv9940 (S.D.N.Y. March 24, 2016), where the Court weighed the question for purposes of a motion to confirm an Award. Not in question was that Resolute paid in full the $1,277,439.95 arbitration Award and that National filed a petition to confirm it under the FAA. Resolute resisted confirmation, conceding diversity of citizenship but arguing that no amount remained in controversy – meaning the $75,000 requirement was not met. The Court rejected this argument, finding that the appropriate measure was what was demanded in arbitration, not what was awarded or ultimately paid.
“Using the ‘demand approach,’ diversity jurisdiction exists here. The amount demanded during the arbitration was approximately $1.3 million, which indisputably exceeds $75,000. The fact that Resolute has already complied with the award does not divest the Court of subject matter jurisdiction” (footnote omitted). The Court also finds that, by their arbitration agreement, the parties had met the requirements of section 9 of the FAA, which provides “if the parties in their agreement have agreed that a judgment of the court shall be entered upon the award made pursuant to the arbitration… then at any time within one year after the award is made any party to the arbitration may apply to the court … for an order confirming the award.” Section 9, the Court notes, says nothing about whether Awards have been paid or complied with. The Court also rejected Resolute’s contention that the “case or controversy” requirement of Article III, section II of the Constitution was not met.
Amount in controversy is determined by what’s demanded, not awarded – really
The Fifth Circuit, in Pershing, L.L.C. v. Kiebach, No. 15-30396 (5th Cir. Apr. 6, 2016), recently held the same way on the “demand approach.” What happened in Pershing? Stanford Ponzi Scheme investors brought a FINRA arbitration against Pershing, seeking $80 million in damages. They were awarded no compensatory damages, but the Arbitrators did award about $10,000 in arbitration-related expenses. Pershing sought Award confirmation in federal District Court under FAA section 9 and the investors resisted, contending that the $10,000 awarded should be the measure of the amount in controversy, as opposed to the $80 million demanded.
In rejecting this argument, a unanimous [4] Fifth Circuit says “Based on Appellants’ arbitration demand of $80 million, the district court correctly concluded that the $75,000 amount in controversy requirement was met. First, the demand approach recognizes the true scope of the controversy between the parties. The only logical assumption about Appellants’ efforts to prevent confirmation of this arbitration award is that they want a second chance to pursue their claims. The $10,000 award ‘is but the last stage of litigation’ that began with an $80 million controversy… Therefore, the amount at stake is the $80 million that Appellants initially sought in arbitration, not the minimal award for arbitration-related costs” (citation omitted).
But there’s a split in the circuits
The Circuits have by no means been uniform in their rulings on this issue. The First, Ninth, and D.C. Circuits follow the “demand approach.” [5] However, the Sixth and Eleventh Circuits have adopted the “award approach.” [6] And there is the even more granular “remand approach” which is applied where a successful petition to vacate would result in a remand back to the Arbitrators. There, the measure is the amount that would be sought in the new arbitration.[7] One wonders if SCOTUS will at some point clear this up?
Conclusion
I agree with the courts that have adopted the “demand approach.” Otherwise, a party that lost entirely – getting a $0 Award – would have no way to meet the amount in controversy requirement to seek vacatur in federal court under the FAA. The same holds true where the winner seeks FAA confirmation of an essentially $0 Award. Also, a motion to compel arbitration under FAA section 4 is based solely on the amount demanded [8] – there at that point being no Award – so having two or even three different standards to me makes no sense whatsoever. Even if the “award approach” would still be applied today (the cases following it are around 20 years old), to me the takeaway from all of these cases is crystal clear: while the FAA applies in state courts assuming interstate commerce is present, be sure you have federal jurisdiction before heading to federal court to seek relief under the FAA.
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*George H. Friedman, an ADR consultant and Chairman of the Board of Directors of Arbitration Resolution Services, Inc., retired in 2013 as FINRA’s Executive Vice President and Director of Arbitration, a position he held from 1998. In his extensive career, he previously held a variety of positions of responsibility at the American Arbitration Association, most recently as Senior Vice President from 1994 to 1998. He is an Adjunct Professor of Law at Fordham Law School. Mr. Friedman serves on the Board of Editors of the Securities Arbitration Commentator. He is also a member of the AAA’s national roster of arbitrators. He holds a B.A. from Queens College, a J.D. from Rutgers Law School, and is a Certified Regulatory and Compliance Professional.
[1] See, e.g., Southland Corp. v. Keating, 465 U.S. 1, 16 n.9 (1984) (“While the Federal Arbitration Act creates federal substantive law requiring the parties to honor arbitration agreements, it does not create any independent federal-question jurisdiction under 28 U. S. C. § 1331 or otherwise”) and Moses H. Cone Mem’l Hosp. v. Mercury Constr. Corp., 460 U.S. 1, 25 n. 32 (1983) (FAA requires “diversity of citizenship or some other independent basis for federal jurisdiction”).
[2] FINRA case no. 14-02042, available here.
[3] Because, as noted above, state law may govern when diversity of citizenship is established, and state law may vary, readers should not draw the broad conclusion that, under the FAA, diversity is set as of the date the motion to vacate is filed.
[4] Judge Mills concurred only with the result, but “would decline to adopt any categorical ‘approach’ in this context.”
[5] See Bull HN Info Sys., Inc. v. Hutson, 229 F.3d 321, 329 (1st Cir. 2000) (drawing an analogy to how this issue is handled in federal jury trial appeals); Am. Guar. Co. v. Caldwell, 72 F.2d 209, 211 (9th Cir. 1934); Theis Research, Inc. v. Brown & Bain, 400 F.3d 659, 664-65 (9th Cir. 2005); Karsner v. Lothian, 532 F.3d 876, 882 (D.C. Cir. 2008).
[6] See Ford v. Hamilton Investments, Inc., 29 F.3d 255, 260 (6th Cir. (1994;Baltin v. Alaron Trading Corp., 128 F.3d 1466, 1472 (11th Cir. 1997).
[7] See, e.g., Peebles v. Merrill Lynch, Pierce, Fenner & Smith Inc., 431 F.3d 1320, 1325-26 (11th Cir. 2005).
[8] See for example, Webb v. Investacorp, Inc., 89 F.3d 252, 256 (5th Cir. 1996) and Jumara v. State Farm Ins. Co., 55 F.3d 873, 877 (3d Cir.1995) (“[T]he amount in controversy in a petition to compel arbitration or appoint an arbitrator is determined by the underlying cause of action that would be arbitrated”).
