What is an Arbitration Clause?

Felicia Dye

Arbitration is a consensual dispute method. It allows disputing parties to have a neutral party, known as the arbitrator, to assist them in arriving at a solution. An arbitration clause is commonly placed in contracts to eliminate the threat of court action in the event of disputes. Such a clause normally outlines the terms of arbitration and binds the parties to the final decision.

Most commonly, two parties agree to settle their disputes in arbitration when they contract with each other.
Most commonly, two parties agree to settle their disputes in arbitration when they contract with each other.

When two parties agree to arbitration, they agree to solve their problems without courts or lawyers. Resolving a dispute in court can be very expensive. Avoiding the potential of paying such costs is one of the primary motives for inserting an arbitration clause into a contract. Such a clause may be found in various types of contracts, including those between property owners and renters or between employers and their staff.

The final decision in arbitration is usually issued by the arbitrator. Although this individual is not a member of the legal system, her decision is enforceable. A dissatisfied party generally cannot decide to take the matter to court if he is not pleased with the outcome. This is because the arbitration clause usually binds both parties to accept the arbitrator’s final decree.

The arbitration clause generally outlines most or all terms surrounding the arbitration process. This should include which types of disputes will be handled in this way. Many clauses state that all contractual issues are subject to arbitration. Others, however, limit arbitration to minor matters, while reserving the right to dispute major issues in court. When only certain matters will be handled by arbitration, they should be explicitly stated to eliminate confusion or disagreement.

Sometimes an arbitrator is specified. In other cases, a process is outlined in the arbitration clause that details how an arbitrator will be chosen in the event of dispute. Generally, the parties of a contract have the opportunity to agree on the arbitrator. If the parties cannot reach an agreement, the arbitration clause generally states how that situation will be handled.

Although arbitration is generally cheaper than legal action, it is usually not free. This means that someone must pay for the services rendered. The arbitration clause should outline who is responsible for making payment or what portion of the costs each party is responsible for paying.

Another important topic that should be covered in the arbitration clause is jurisdiction. In many cases, the parties of a contract containing such a clause are in distant locations. It may, therefore, be necessary for the parties to agree on the where the dispute resolution will be handled.

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