Consumer advocates slam credit-card arbitration

They charge the deck is tilted in favor of banks in disputes with credit-card holders.

Javier Beltran was shocked when an arbitrator ruled that he owed $10,000 on a $2,500 loan. The money had helped him finance his brother's funeral expenses. But after failing to repay the debt promptly, Mr. Beltran had high interest charges, late fees, and attorneys' fees tacked onto the bill.

When he signed the contract in 2000, Beltran was unaware that he'd agreed to have a private third party settle any disputes. In fact, when his case was heard, and the arbitrator ruled against him, Mr. Beltran wasn't even there, nor did he have anyone representing him.

"I still do not know what arbitration is," said Beltran in a sworn affidavit.

Beltran's case is far from unique. In fact, if you own a credit card, chances are you have a mandatory arbitration clause. What that essentially means is that if you think the credit-card company has charged you wrongly, you might not be fighting in court. Instead, you may find your case brought before an arbitrator who works for a private arbitration group, in many cases, it's a group chosen by the banks.

The practice has become common over the past decade. A 2004 survey published by Law & Contemporary Problems found that mandatory arbitration clauses covered more than two-thirds of finance-related consumer contracts. And now, as more credit-card users end up in arbitration, consumer advocates say that the arbitration process makes it more difficult for consumers to dispute debts.

Complaints have recently caught the attention of Congress. On Thursday, Sen. Russ Feingold (D) of Wisconsin and Rep. Hank Johnson (D) of Georgia unveiled legislation that would prohibit predispute mandatory arbitration clauses in consumer agreements, letting consumers choose whether to go to arbitration or court if a dispute arose.

"Arbitration can be a fair and efficient way to handle disputes, but only when it is entered into knowingly and voluntarily by both parties," Senator Feingold said in a release. "People from all walks of life ... often find themselves strong-armed into mandatory arbitration agreements. We need to make sure that all Americans can still have their day in court."

In June, an oversight committee held

hearings on mandatory arbitration's fairness. "[W]hat was once a choice has become a mandatory part of consumer contracts," said Rep. Linda Sánchez (D) of California, chair of the House subcommittee that held the hearing. "And despite all of the benefits of arbitration, mandatory arbitration agreements may not always be in the best interest of consumers."

Arbitration critics' concerns are myriad: Consumers may not realize they've agreed to arbitration and aren't in a position to negotiate contracts; unlike court hearings, arbitration hearings aren't generally open to the public, and consumers may be less likely to respond to a hearing notice from an arbitration group they haven't heard of than to a court summons.

But at the heart of the controversy is the idea that arbitration groups are dependent on the goodwill of repeat litigants – in this case creditors – for business. The result, consumer advocates claim, are incentives for arbitration groups to create rules that, though neutral when taken at face value, may favor creditors.

Arbitration proponents say that hearings are fair and help relieve caseloads of overburdened courts. They say the private system is cheaper, faster, and more efficient than litigation for consumers as well as business. Consumers, they say, have many opportunities to dispute a creditor's claim – debtors are sent notices via certified mail and can request a hearing in person or a document hearing. Before a creditor can act to collect an award, a court must confirm it.

Despite advocates' concerns, it's unclear whether consumers who go through arbitration are any more likely to get a judgment against them than those who go to court. The National Arbitration Forum (NAF), one of the nation's largest private arbitration firms, is commonly used by creditors and secondary debt buyers. A Monitor analysis of the last year of available data from NAF found that arbitrators awarded in favor of creditors and debt buyers in more than 96 percent of the cases. () Such results may be similar to outcomes in court. It also found that the 10 most frequently used arbitrators – who decided almost 60 percent of the cases heard – decided in favor of the consumer only 1.6 percent of the time, while arbitrators who decided three or fewer cases decided for the consumer 38 percent of the time.

NAF would not comment on the findings because it had not participated in the analysis, but maintains that its arbitrators are neutral. Edward Anderson, managing director of NAF, says that caseloads of arbitrators probably reflect types of cases. "Undoubtedly, the more complex the disputes, the more arbitrator time would be involved and the fewer cases an arbitrator would be able to handle," he writes in an e-mail, noting that cases where one party does not respond are less complex than those where there is a controversy. Indeed, arbitrators who heard few cases were far more likely to hear contested cases than other arbitrators.

But consumer advocates say arbitrators have strong incentives to rule in favor of business. One commonly applied rule allows either party to reject an arbitrator for any reason. Businesses can use this "one strike" rule to their advantage, say consumer advocates, since they may have more information on an arbitrators' prior rulings than consumers do. And the knowledge that rulings bring repeat business may create financial pressures for arbitrators.

"Arbitration work is often very lucrative, and arbitrators know that if they rule against a corporate defendant too frequently or too generously (from the standpoint of that corporation), they will lose the work," wrote F. Paul Bland, staff attorney at Public Justice, a Washington, D.C.-based nonprofit legal services group that opposes mandatory binding arbitration agreements in consumer contracts, in comments for the Congressional hearing.

NAF's Anderson denies any charges of pro-business bias. He says the arbitrators who work for NAF are former judges and attorneys with at least 15 years' experience. Strict guidelines prevent any financial conflicts of interest. "To suggest, as some do, that their compensation for these cases influences their integrity would be unwise, if not insulting," writes Anderson. "After all, many of these arbitrators are former judges, and all have a sincere interest in helping parties resolve disputes fairly and efficiently."

NAF says its one-strike rule is not pro-business. Allowing a party to remove an arbitrator regardless of evidence of bias, the [NAF's Code of Procedure] follows a middle ground, comparable to the rules of the various courts around the country," writes Anderson. "We do not believe such a rule favors one party or another, any more than the same provisions favor parties in a court."

But two former NAF arbitrators say banks took them off of cases after they issued rulings unfavorable to the institution. Richard Neely, a retired chief justice of the West Virginia Supreme Court, says he received two cases from the NAF in which he wouldn't charge consumers for the creditor's litigation-related fees. He never received another case.

After she decided against a credit-card company, awarding a consumer damages, Elizabeth Bartholet, a former NAF arbitrator and Harvard law professor, said in a 2006 deposition that she was repeatedly removed from cases by the credit-card company. Rather than telling alleged debtors that the creditors removed her, she said, at times NAF mailed letters saying she had a scheduling conflict and had withdrawn.

Courts may be more understanding of consumers who don't understand the system. Unlike NAF, many small-claims courts may be willing to reopen a case after a consumer mistakenly doesn't appear at a hearing. "Most judges are very forgiving if you come in and say 'I have no idea what's going on,' " says Richard Rubin, a New Mexico federal consumer appellate law specialist and chair emeritus of the National Association of Consumer Advocates.

Beltran says his debt stemmed from funeral expenses for his brother, not from any credit card. But at one point the debt buyer that went to court to enforce the arbitration award used a credit card agreement form to prove Beltran had agreed to arbitration. The contract Beltran signed, he says, had been negotiated in Spanish, but he was given only an English contract – illegal under California law – that contained terms he says he never discussed, including a 26.99 percent interest rate. After receiving notice of a court hearing to confirm the arbitration award, Beltran hired a lawyer. Earlier this month, Beltran settled his dispute. The debt has been discharged and his credit rating will be restored.

What to do if arbitration looms

If you find yourself in a credit-card dispute, here are some steps you might consider:

Read your mail and respond to it quickly. If you get a certified letter from an arbitration group, read it carefully. The charge may be wrong, or the creditor may have bought the debt from someone else. Even if you don't recognize the creditor, respond right away. Arbitration deadlines are strict.

Get your credit report. Credit reports can be requested free online once a year at www.annualcreditreport.com. If your report contains errors, deal with them promptly before your arbitration case is heard. But don't worry about your credit score, says Paul Bland, staff attorney at Public Justice. Lenders often have their own ways to determine creditworthiness based on your report, he says, so your score may be of limited value.

Consider hiring a lawyer. An attorney for either a court or an arbitration case may cost more than it's worth if the debt is only a few thousand dollars. But "people who don't have a lawyer won't know some of the basic things to contest," such as whether or not a debt has passed its statute of limitations, says Mr. Bland.

Learn about the arbitrator. Depending on who makes the claim against you, you may have the right to object to the arbitrator assigned. Consider striking any arbitrator who's a "creditors' rights" attorney.

Try to settle. Neither arbitration nor litigation is cheap. A debtor may have to pay thousands of dollars in attorney's fees tacked on by the creditor. So if you owe the money and the debt isn't old, negotiate with the collection agency or debt buyer. They probably bought your debt at a greatly reduced rate and may agree to a reduced payment.