Erroneous arbitration ruling could not be vacated absent manifest disregard of law

An arbitrator’s ruling, invalidating indemnification agreements, under an erroneous interpretation of ERISA and applicable precedent, could not be vacated, as it did not constitute a manifest disregard of the law, according to the U.S. Court of Appeals in Cincinnati (CA-6). The court stressed the importance of ensuring the finality of arbitral decisions.

Indemnification agreements

Two directors of a holding company, who also served as trustees of the company’s ESOP and Employee Stock Ownership Trust (ESOT), negotiated indemnification agreements that shielded them from liability for actions taken on behalf of the company. The indemnification agreements, however, did not protect the individuals from liability for “deliberate wrongful acts or gross negligence.” The holding company was subsequently sold. However, the purchasing company (Multiband) assumed the indemnification agreements with the individual trustees.

In 2011, the Department of Labor (DOL) charged the trustees with fiduciary breach for allowing the ESOP to purchase company stock at allegedly inflated prices. The trustees settled the suit with the DOL, declining to admit liability, but paying a penalty of $1,450,000 each. The trustees request indemnification of the penalties paid to the DOL. When Multiband refused the request, the trustees, pursuant to a mandatory arbitration clause in the indemnification agreement, filed an arbitration complaint.

Agreements void as against public policy

During the arbitration proceeding, Multiband maintained that the indemnification agreements were void, as against public policy. The company specifically cited ERISA Sec. 410(a), which states that any agreement that purports to relieve a fiduciary from liability for any responsibility, obligation, or duty under ERISA “shall be void as against public policy.” However, ERISA Sec. 410(b) provides an exception that authorizes a plan to purchase fiduciary insurance, as long as the insurance permits recourse by the insurer against the fiduciary in the case of breach of duty the fiduciary.

The arbitrator, while acknowledging that Sixth Circuit case law and ERISA authorize indemnification agreements, focused on the unique nature of ESOPs, and concluded that indemnity agreements, pursuant to ERISA Sec. 410(a) do not fall within the statutory exception for insurance agreements under ERISA Sec. 410(b). The arbitrator, expressly rejecting the position of the DOL permitting indemnification agreements that leave the fiduciary fully responsible and liable (ERISA Reg. Sec. 2509.75-4), accordingly, declared the agreements invalid.

The trustees filed suit in federal court seeking to vacate the arbitrator’s decision as representing an express disregard for controlling federal law. The court agreed, vacating the arbitrator’s decision as a “manifest disregard” of law. The arbitrator’s conclusion that ERISA does not authorize indemnification agreements was not a “mere error in interpretation,” but “contrary to clearly established precedent” of which the arbitrator was aware, but chose to ignore.

Clear error is not manifest disregard of law

On appeal by Multiband, the Sixth Circuit initially explained that, under the Federal Arbitration Act, an arbitrator’s decision can only be vacated if (among other inapplicable conditions) the arbitrator exceeded his or her powers. The court acknowledged the argument that the arbitrator exceeded his powers by manifestly disregarding the applicable law. However, the court did not decide whether the manifest disregard of law warrants vacatur, stressing that the arbitrator, despite an erroneous interpretation of the law, did not manifestly disregard the law.

The arbitrator, the court explained, did not manifestly “disregard” the law, but rather relied on a very broad “plain” reading of ERISA Sec. 410(a), while adopting a narrow and formal reading of the ERISA Sec. 410(b) insurance exemption.

Accordingly, the judgment of the trial court was reversed and the case remanded.

Source: Schafer v. Multiband Corp. (CA-6).

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