On February 15, 2023, a split 9th Circuit panel held that California's ban on mandatory arbitration agreements is preempted by federal law. This closely watched decision allows employers to require employees to enter into otherwise enforceable arbitration agreements as a condition of employment.

The panel held that California Assembly Bill 51, which banned mandatory arbitration agreements, was completely preempted by the Federal Arbitration Act (FAA). (See DWT's previous reports on this matter here, and here.)

The Background

In late 2019, Governor Newsom signed AB 51, effective January 1, 2020, which prohibited California employers from requiring employees to sign arbitration agreements as a condition of employment. However, before the law took effect, the U.S. Chamber of Commerce and several other business groups filed suit in the U.S. District Court for the Eastern District of California challenging AB 51, alleging—among other things—that the FAA preempted the law. The federal district court initially granted a temporary restraining order and then a preliminary injunction prohibiting the enforcement of AB 51 with respect to arbitration agreements governed by the FAA.

Following an appeal by the State of California, a panel of the 9th Circuit vacated the preliminary injunction and reversed in part the trial court's finding that the FAA preempted AB 51. In a 2-1 majority opinion, the panel found that the FAA did not preempt AB 51's prohibition on making arbitration agreements a condition of employment, but it did preempt the statute from imposing any civil or criminal penalties if an employee signed an arbitration agreement.

The U.S. Chamber of Commerce then filed a petition with the 9th Circuit for a rehearing en banc (i.e., to have the decision reviewed by the full court). In December 2021, the 9th Circuit panel issued an order deferring its decision on the rehearing petition until the U.S. Supreme Court decided another case involving California law restricting arbitration agreements, Viking River Cruises, Inc. v. Moriana. In June 2022, the U.S. Supreme Court ruled on Viking River and held the FAA preempted California case law that precluded the arbitration of individual Labor Code violation claims brought under the state's Private Attorneys General Act (PAGA). (See DWT's report on Viking River here.)

Following the U.S. Supreme Court's ruling on Viking River, the 9th Circuit panel issued an order in the AB 51 Bonta case in August 2022, withdrawing its previous opinion and granting a rehearing on the matter.

The 9th Circuit's Ruling

The 9th Circuit panel cited multiple factors in its opinion finding AB 51 completely preempted by the FAA, including that the statute had appeared to be drafted by the Legislature to purposefully evade preemption, creating an "oddity" that an employer could be subject to criminal prosecution for requiring an employee to enter into arbitration agreement but then could nevertheless enforce that agreement. The Court also found that AB 51's penalty-based scheme was intended by the Legislature to inhibit, and not encourage, arbitration of disputes, contrary to the intended purpose of the FAA. The court also rejected California's argument that certain parts of AB 51 could be severed to save the law, finding that because all the provisions of AB 51 work together to burden the formation of arbitration agreements, the entire law was preempted.

Current Status and Impact on California Employers

This decision may not be the final word in this matter as the state may seek further appellate review, and if not, the case will be returned to the District Court for further proceedings which could also result in additional appeals. Employers are advised to continue to monitor developments in this case until it is finally resolved; however, for now, this is welcome news for employers. Because whether and how to implement arbitration agreements and what to specifically include or exclude in these agreements is complicated, we also encourage employers to consult with counsel before adopting these agreements and to review existing agreements.

As always, DWT will continue to monitor these issues and provide updates as they occur. In the meantime, the DWT Employment Services Group is available to assist with questions related to arbitration agreements.