Citizens of Humanity v. Applied Underwriters

Citation: 299 Neb. 545Docket: S-17-178

Court: Nebraska Supreme Court; April 6, 2018; Nebraska; State Supreme Court

Original Court Document: View Document

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Citizens of Humanity, LLC, and CM Laundry, LLC, are appellants in a case against Applied Underwriters Captive Risk Assurance Company, Inc. The Nebraska Supreme Court ruled on several legal principles regarding arbitration. Key points include:

1. **Arbitrability** is a legal question, and appellate courts assess it independently from lower courts.
2. A court order that stays an action pending arbitration is considered a final, appealable order under Nebraska law.
3. The **Federal Arbitration Act (FAA)** aims to make arbitration agreements enforceable like other contracts but not more so.
4. The **Uniform Arbitration Act** limits the enforceability of mandatory arbitration in insurance-related agreements concerning future claims.
5. The **McCarran-Ferguson Act** allows state insurance regulation to preempt federal laws that do not specifically address insurance.
6. Courts analyze three elements under the McCarran-Ferguson Act to determine if state law prevails over federal statutes.
7. The FAA does not preempt Nebraska law regarding arbitration in insurance matters.
8. Courts harmonize overlapping statutes unless Congress explicitly states otherwise.
9. The FAA permits invalidation of arbitration agreements based on general contract defenses.
10. Public policy can render a contract term unenforceable if legislation supports such a stance.
11. Generally, courts decide whether parties agreed to arbitrate unless clearly stated otherwise.
12. Disputes regarding arbitrability include whether parties are bound by an arbitration clause.
13. Parties may delegate the issue of arbitrability to an arbitrator, as it's their choice whether such matters are for courts or arbitrators to decide.
14. A **delegation clause** is a specific agreement to arbitrate threshold issues and is treated similarly to any other arbitration agreement under the FAA.

This ruling clarifies the relationship between state and federal arbitration laws, particularly in the context of insurance contracts.

A delegation agreement is deemed valid under the Federal Arbitration Act (FAA), except where grounds exist for revocation under 9 U.S.C. § 2. The FAA establishes a presumption in favor of arbitrability, resolving any doubts in that direction. If a delegation provision is valid, the arbitrator assesses the validity of the remaining arbitration contract. Challenges to arbitration agreements fall into two categories: (1) direct challenges to the arbitration agreement's validity, and (2) challenges to the entire contract, which may not prevent enforcement of the arbitration agreement. Any challenge to a delegation provision must specifically target that provision for a court to claim authority. Courts are required to interpret contracts holistically and give effect to all provisions where possible. Notably, a delegation of arbitrability concerning future claims in insurance-related agreements is invalid under Nebraska law. 

In the case involving Citizens of Humanity, LLC, and CM Laundry, LLC against Applied Underwriters Captive Risk Assurance Company, Inc. (AUCRA), the appellants sought a declaratory judgment related to AUCRA's claim for payment. The Douglas County District Court's decision to stay proceedings pending arbitration, including the issue of arbitrability, was reversed on appeal, as the court found an error in enforcing the delegation of arbitrability. Citizens operates as a blue jean manufacturer with a subsidiary for laundering and purchased a workers' compensation insurance program called EquityComp from AUCRA, which operates in Nebraska.

Issuance of the EquityComp workers’ compensation policies was contingent upon Citizens executing a Reinsurance Participation Agreement (RPA) with AUCRA, which was completed on August 8, 2012. The RPA stipulates that portions of Citizens’ premiums and losses from affiliated workers’ compensation insurers would be ceded to AUCRA, which would then fund a segregated account or "cell" based on a formula related to Citizens’ loss experience. This arrangement allows Citizens to be partially self-insured up to a certain limit, with excess losses covered by traditional insurance, although increased claims would require higher funding of the cell.

The RPA necessitates a minimum three-year commitment and outlines that returns to the insured or changes in premiums are based on historical loss experience. The document distinguishes between guaranteed cost policies, which fix premiums regardless of claims, and retrospective rating plans, which adjust premiums based on actual claim costs. The RPA introduces a retrospective pricing feature to the otherwise guaranteed cost policies. 

Furthermore, the RPA is characterized as relevant to insurance policies under Nebraska law. AUCRA has patented its Reinsurance Participation Plan, which describes the challenges of introducing new premium structures in the insurance market, emphasizing the need for state regulatory approval. Certain states restrict small and medium-sized companies to guaranteed cost plans, limiting their access to retrospective options. The patent outlines a reinsurance-based method to offer non-linear retrospective premium plans to those insureds lacking direct access to such plans.

The insured can utilize a retrospective rating plan despite having Guaranteed Cost insurance, as per a patented arrangement involving the insurance carrier and reinsurance company. However, this arrangement has faced scrutiny and been deemed noncompliant with state insurance laws, as it alters the compliant guaranteed cost policy. Several state insurance commissions, including those in California, Vermont, and Wisconsin, have issued cease-and-desist orders regarding this arrangement.

The Retrospective Rating Plan Agreement (RPA) includes an arbitration provision aimed at resolving accounting disputes amicably and confidentially, specifying that unresolved disputes will be determined in the British Virgin Islands under American Arbitration Association rules. The RPA further states that Nebraska law governs the agreement, with disputes not subject to arbitration being resolved in Nebraska courts.

A dispute arose over costs, with AUCRA claiming Citizens owed $842,802.78. Citizens argued that its RPA participation, based on promised cost savings, resulted in excessive costs instead. AUCRA filed for arbitration on December 12, 2014, while Citizens countered that it could not be compelled to arbitrate. In February 2015, Citizens initiated litigation in Los Angeles. The California trial court denied Citizens' motion to stay arbitration in January 2016 and later dismissed AUCRA from the case. After AUCRA's dismissal, other defendants sought to compel arbitration, but the court ruled on July 14 that the arbitration clause was unenforceable under Nebraska statute 25-2602.01(f)(4).

On November 22, 2017, the California Court of Appeal upheld a trial court's decision not to compel arbitration in the case of Citizens Humanity v. Applied Underwriters. Citizens filed a lawsuit against AUCRA in Douglas County district court in April 2016, seeking to enjoin arbitration initiated by AUCRA, arguing that mandatory arbitration provisions are prohibited under Nebraska law (specifically 25-2602.01(f)(4)) for agreements related to insurance policies. Citizens challenged the enforceability of the arbitration agreement, including the delegation of arbitrability to an arbitrator.

AUCRA sought to dismiss the action or, alternatively, to stay it pending arbitration. The district court granted a stay on January 19, 2017, reasoning that the Federal Arbitration Act (FAA) governed the arbitration due to the parties being from different states and the involvement of interstate commerce. The court found that the arbitration provision within the RPA's broad language, which incorporated American Arbitration Association rules, indicated a clear delegation of arbitrability to an arbitrator. 

Citizens appealed, asserting errors in the district court's decision, including the governing law issue (FAA vs. Nebraska law), the enforceability of the delegation of arbitrability, the overall enforceability of the arbitration clause under Nebraska law, and the decision to stay the case pending arbitration. AUCRA argued that the RPA's arbitration agreement required any questions regarding its construction and enforceability, including the applicability of Nebraska’s anti-arbitration law, to be resolved by an arbitrator, asserting that the FAA governs the arbitration provision despite Nebraska law being cited in the RPA. Citizens contended that the RPA's provision stating it would be exclusively governed by Nebraska law rendered the arbitration clauses unenforceable.

Citizens argue that the court should determine the issue of arbitrability based on its previous ruling that statute 25-2602.01 regulates the business of insurance and the federal McCarran-Ferguson Act. They claim that the arbitration provisions in the RPA are invalid under 25-2602.01(f)(4) and that the district court erred in granting AUCRA’s motion to stay the case for arbitration. The court finds that 25-2602.01(f)(4) applies and that the arbitration provision, which includes a delegation clause, is invalid. Consequently, the court concludes that the district court should have decided the arbitrability issue and reverses the decision, remanding the case for further proceedings.

The court establishes its jurisdiction, noting that a stay pending arbitration is a final, appealable order under Neb. Rev. Stat. 25-1902, as it affects a substantial right. It identifies the relevant statutes, including the Federal Arbitration Act (FAA), which enforces arbitration agreements in contracts involving commerce, and emphasizes that while the FAA aims to make arbitration agreements enforceable, it does not grant them superior enforceability over other contracts. Furthermore, it references the McCarran-Ferguson Act, enacted to preserve state authority to regulate insurance companies after a Supreme Court ruling threatened that authority.

The McCarran-Ferguson Act grants states comprehensive authority to regulate insurance, allowing state laws to prevail over federal law in certain contexts. Specifically, under 15 U.S.C. § 1012(b), federal acts are not to invalidate or supersede state regulations concerning insurance unless they directly relate to insurance. Nebraska's Uniform Arbitration Act, particularly § 25-2602.01(f)(4), limits the enforceability of mandatory arbitration agreements related to insurance policies, excluding such agreements from general arbitration provisions. Thus, while arbitration agreements are generally valid, those concerning insurance policies are rendered unenforceable by this specific statutory exception. The interplay between the McCarran-Ferguson Act and the Federal Arbitration Act (FAA) raises questions about whether the McCarran-Ferguson Act allows § 25-2602.01(f)(4) to reverse preempt the FAA, potentially invalidating arbitration provisions under certain circumstances. Courts assess three criteria to determine if state law prevails over federal law in insurance matters: (1) the federal statute does not specifically relate to insurance; (2) the state law is aimed at regulating insurance; and (3) the federal statute would invalidate or impair the state law.

Key points from the legal document include the following:

1. The Federal Arbitration Act (FAA) is identified as a federal law that does not specifically pertain to the insurance industry, while 25-2602.01(f)(4) is a state statute designed to regulate insurance business.
2. Previous cases, including Kremer v. Rural Community Ins. Co. and Speece v. Allied Professionals Ins. Co., have established that the FAA, if applicable, could invalidate or supersede the state statute, indicating a principle of reverse preemption under the McCarran-Ferguson Act.
3. The presence of additional federal laws related to insurance in these previous cases has led to the FAA being ultimately preempted by those laws, suggesting that unless another applicable federal insurance law directly preempts 25-2602.01(f)(4), arbitration agreements in insurance policies would be invalid under Nebraska law.
4. AUCRA's argument posits a conflict between the FAA and the McCarran-Ferguson Act concerning 25-2602.01(f)(4), asserting that the FAA's pro-arbitration stance overrides the state statute. However, the court finds no conflict, emphasizing that courts should respect the coexistence of statutes unless Congress clearly intends otherwise.
5. The FAA's savings clause allows for the invalidation of arbitration agreements if they are illegal or invalid under general contract defenses, indicating that while the FAA favors arbitration, it does not enforce invalid agreements.
6. The ruling suggests that the statutes in question are complementary rather than conflicting, allowing each to operate within its designated scope without negating the other.

This summary encapsulates the critical elements of the excerpt, ensuring clarity and completeness while closely aligning with the original text.

Illegality and inconsistency with public policy are recognized defenses against contract enforceability. An agreement may be deemed unenforceable if legislation explicitly declares it so or if public policy significantly outweighs the interest in enforcement. Specifically, an arbitration agreement related to an insurance policy may be invalid under 25-2602.01(f)(4), impacting its validity under the Federal Arbitration Act (FAA). In this context, if the arbitration agreement pertains solely to an insurance policy, the analysis would conclude with its invalidation.

However, the case involves whether the court can assess the validity of a delegation of arbitrability to the arbitrator, as the parties agreed to arbitrate threshold issues including arbitrability. AUCRA argues that any challenge to the application of 25-2602.01 should be reserved for the arbitrator, presuming the validity of the broad arbitration agreement. This stance is supported by a U.S. Supreme Court decision that found challenges to the overall agreement's validity should be left to the arbitrator.

Nonetheless, unless explicitly stated otherwise, courts generally decide whether parties agreed to arbitrate, including disputes over the applicability of arbitration clauses. The court must resolve questions regarding the binding nature of arbitration clauses and their applicability to specific disputes. This principle is established through various Supreme Court precedents, emphasizing that challenges concerning the formation and enforceability of arbitration agreements are judicial matters.

Parties have the ability to delegate the question of arbitrability to the arbitrator, as established in BG Group, PLC v. Republic of Argentina, allowing them to determine if a matter is suited for arbitration or court. A "delegation clause" is defined as a contractual provision that assigns all questions concerning the scope or enforceability of an arbitration provision to the arbitrator. This clause is treated as an independent agreement enforceable under the Federal Arbitration Act (FAA), which presumes validity unless there are legal or equitable grounds for revocation. If a delegation clause is upheld, any challenges to the arbitration agreement's validity must be addressed by the court prior to enforcing the arbitration agreement. Challenges to the validity of a delegation clause can be made but are not immune from judicial review. There are two recognized types of validity challenges: one that questions the arbitration agreement itself, and another that contests the entire contract, such as on grounds of fraud or illegality. The U.S. Supreme Court has indicated that only challenges to the arbitration agreement's validity are relevant for courts to consider; disputes regarding other contract provisions do not impede the enforcement of the arbitration agreement.

In Rent-A-Center, West, Inc. v. Jackson, the U.S. Supreme Court addressed a delegation clause, emphasizing that a party must specifically challenge the delegation provision to allow the court's intervention rather than deferring to arbitration. The Nebraska Supreme Court cited this case, ruling that because the challenge by Citizens was not sufficiently specific and was directed at the entire arbitration agreement, the issue of arbitrability would be resolved by the arbitrator, per the Federal Arbitration Act (FAA). The document also notes that multiple cases across the country have contested the delegation feature of the Risk Purchase Agreement (RPA), particularly in light of state anti-arbitration laws, highlighting a circuit split. The Third and Sixth Circuits have upheld arbitration orders, while the Fourth Circuit has permitted examination of challenges to delegation clauses. The ruling underscores the necessity for precise objections to delegation provisions for judicial review, referencing the principles established in Rent-A-Center.

The Third and Sixth Circuits determined that when a challenge applies equally to both an arbitration agreement and a delegation provision, the challenge is not specific to the delegation provision, necessitating enforcement of the delegation provision. However, the current court favors the Fourth Circuit's approach, which distinguishes between challenges to the validity of the delegation clause and the broader arbitration agreement, avoiding conflation of these issues. 

In this case, Citizens of Humanity specifically challenges the validity of the arbitration agreements, including the delegation of arbitrability issues. The court rejects the argument by AUCRA that the challenge is purely substantive and pertains to the entire agreement. Instead, Citizens’ amended complaint articulates a targeted challenge to the delegation clause, referencing Nebraska law which renders certain mandatory arbitration provisions unenforceable. 

The court emphasizes that Citizens explicitly contests the enforceability of the arbitration clauses and the delegation provision, as highlighted in its request for a declaration that no valid arbitration agreement exists. This challenge necessitates an inquiry into the enforceability of the delegation clause under Nebraska law but does not imply a challenge to the entire arbitration agreement. The court maintains that contracts should be interpreted as a whole, giving effect to all parts, including the application of Nebraska law and its Uniform Arbitration Act.

The Nebraska choice-of-law provision must be applied to assess the enforceability of the delegation clause in the context of arbitration agreements. An arbitration agreement that is contrary to public policy or unenforceable under statute is treated as invalid as any other illegal contract. The unenforceability doctrine is generally applicable and not specific to arbitration. The court must determine if the Relevant Policy Agreement (RPA) falls under the definition of an "agreement concerning or relating to an insurance policy" as per the Nebraska statute. The term "relating to" is interpreted broadly. Although there is an assertion that the RPA is not an insurance policy, the statute requires only a connection to insurance policies, which suggests the RPA may still be subject to the relevant statute. The district court erred by not addressing the arbitrability issue before ordering arbitration.

25-2602.01(f)(4) applies broadly to agreements that are "concerning or relating to" insurance policies, rather than being limited to agreements classified strictly as insurance policies. The interpretation mandates that all parts of the statute are considered to ascertain the meaning of any section. The relevance of whether the Reinsurance Participation Agreement (RPA) qualifies as an insurance policy is secondary; the primary focus is its relation to insurance. The RPA has characteristics of a retrospective rating plan and is essential to a workers' compensation insurance program, despite being labeled as a reinsurance contract. AUCRA's argument that the RPA is merely a reinsurance agreement between insurance companies does not hold, as the RPA is not executed between insurance entities in this case. Judicial precedents have affirmed that the RPA concerns insurance, reinforcing that it is not classified as reinsurance under the statute. The extensive ties between the RPA and workers' compensation insurance policies, including billing and retrospective pricing linked to claims, further support its classification as relating to insurance.

The RPA was essential to the EquityComp program, providing workers’ compensation insurance to Citizens. It is classified as an agreement related to an insurance policy, thus falling under Nebraska’s anti-arbitration statute, specifically § 25-2602.01(f)(4). This statute prohibits certain arbitration agreements, rendering the arbitration provision within the RPA, which assigns arbitrability to an arbitrator, invalid. The trial court incorrectly granted AUCRA’s motion to stay the case for arbitration. The review is limited to the district court's enforcement of the delegation clause, and despite Citizens having to challenge the clause under a specific FAA standard, they appropriately contested the delegation's validity. The ruling harmonizes Nebraska law with the FAA and the McCarran-Ferguson Act, affirming that state insurance regulations are not overridden by the FAA. Consequently, § 25-2602.01(f)(4) invalidates the delegation provision, reserving arbitrability issues for court resolution. The district court should have addressed Citizens’ challenge to the delegation's validity. The decision is reversed, and the case is remanded for further proceedings, including evaluating the enforceability of the remaining arbitration provisions. Justices Kelch and Wright did not participate in this decision.