CA Supreme Court: Federal Arbitration Act Does Not Preempt State Law on Timely Arbitration Fee Payment

The California Supreme Court recently held in Hohenshelt v. Superior Court that the Federal Arbitration Act (FAA) does not preempt a California law that penalizes businesses that have consumer and employee arbitration agreements but fail to pay arbitration fees. But, the court held, the law does not have a hair trigger that imposes sanctions for an inadvertent or de minimis violation. Instead, the court interpreted California Code of Procedure § 1281.98 as incorporating equitable principles that allow relief from statutory sanctions based on a party’s excusable neglect or good faith efforts to comply with their contractual obligations.

Background

Section 1281.98 requires a party responsible for drafting an employee or consumer arbitration agreement to pay invoiced arbitration fees within 30 days. Under the statute, if the business that drafted the terms fails to pay by the deadline, it is in material breach of the arbitration agreement and waives the business’s right to compel the employee or consumer to arbitration.

Plaintiff Dana Hohenshelt sued his employer for retaliation after being terminated. The trial court granted the employer’s motion to compel arbitration and stayed the court proceedings. Hohenshelt filed an arbitration claim and his employer missed the payment deadline for its share of the arbitration fees due to alleged inadvertence. Hohenshelt then filed a motion in the trial court to lift the stay under § 1281.98. Once the employer paid the overdue fees, the trial court denied Hohenshelt’s motion. The California Court of Appeal reversed, enforcing § 1281.98 as a strict “bright-line” rule and holding that the employer’s late payment waived its right to enforce arbitration. In so doing, the Court of Appeal rejected the employer’s argument that the FAA preempts § 1281.98 because the statute treats contracts to arbitrate differently from other contracts.

California Supreme Court Holding

The California Supreme Court held that the FAA does not preempt § 1281.98, but it rejected a rigid interpretation of the statute applied by some lower courts. The court held:

• FAA Preemption Analysis: § 1281.98 aligns with the FAA’s equal-treatment principle, which allows invalidation of arbitration agreements only under generally applicable contract defenses. The law neither disfavors arbitration nor interferes with its fundamental attributes, such as informality, the parties’ discretion in designing arbitration processes, and expeditious resolution.
• Integration of Equitable Principles: Untimely payments, if the delay is inadvertent or excused by good faith efforts, do not automatically result in loss of arbitral rights under § 1281.98.
• Legislature’s Intent: The court interpreted § 1281.98 as targeting willful or manipulative nonpayment to ensure arbitration fees are paid promptly and proceedings remain efficient. It did not find legislative indications of intent to displace equitable relief mechanisms for minor or innocent defaults.

The court confirmed that § 1281.98 was properly applied in principle but clarified that the employer could seek relief from forfeiture by demonstrating its nonpayment was excusable. It reversed the appellate court’s directive to lift the stay of litigation and instructed the trial court to assess whether equitable relief could preserve the employer’s arbitral rights. The court disapproved of prior Court of Appeal decisions strictly interpreting § 1281.98.

Concurrence

Justice Joshua P. Groban, joined by Justice Kelli M. Evans, concurred to address a question left unresolved by the majority because the defendant had failed to raise it in the proceedings in the lower courts: whether § 1281.98 applies to an arbitration agreement that includes a provision that the parties’ disputes will be governed by the FAA’s and private arbitrator’s (such as the AAA or JAMS) procedural rules. While agreeing with the majority’s determination that the employer waived its arguments that the FAA applied, the concurrence provides at least an opportunity to argue in future cases that, based on an arbitration agreement’s express terms, § 1281.98 does not apply.

Dissent

Justice Carol A. Corrigan, joined by Justice Martin J. Jenkins, dissented. The dissent argued that § 1281.98, as applied, violates the FAA by placing arbitration agreements on unequal footing with other contracts by automatically treating nonpayment of fees as a material breach and imposing overly harsh consequences for untimely payments. Justice Corrigan criticized the majority’s incorporation of equitable relief principles, arguing that the plain language of § 1281.98 mandates strict enforcement, even in cases of excusable or minor nonperformance. By requiring forfeiture under these circumstances, the statute creates special rules that uniquely burden arbitration agreements, violating the FAA’s equal-treatment principle. This unequal treatment, the dissent reasoned, conflicts with the FAA’s principal purpose to ensure arbitration agreements are enforced according to their terms.

Takeaways

The Hohenshelt decision is likely not the last word on whether the FAA preempts § 1281.98. We expect further litigation on the preemption issue in federal court. Additionally, Hohenshelt did not address whether arbitration agreements that expressly adopt the FAA as the governing law are subject to § 1281.98. That issue remains to play out both in federal and California state courts.