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Arbitration is an alternative to going to court over a business dispute. Instead, a neutral third party is recruited to settle the dispute.

What is arbitration?

Arbitration is the process of using a third party to settle a dispute instead of taking the case to court. Both sides rely on the arbitrator – an unbiased individual or panel – to come to an appropriate decision based on the facts of the case. The resulting judgement is called an arbitration award. It is legally binding and includes all of the information about the case, along with the arbitrator’s decision regarding fees, damages, or disciplinary actions to resolve the case.

Arbitration typically resolves cases faster than courtroom proceedings

Arbitration is a simpler process and it’s less expensive than going to court. Since it doesn’t go on the public record, it’s often used in cases where privacy is desired, such as divorce settlements or other confidential matters.

An arbitrator can be a person or an organization

The arbitrator can be an independent arbitrator who is unaffiliated with either side or any group that provides arbitration services, or the involved parties can choose to designate an organization such as the American Arbitration Association, JAMS, or the National Arbitration Forum. Each party can represent their own interests or hire a lawyer to make their case.

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Binding vs. non-binding arbitration

In a binding arbitration, both parties agree the arbitration award cannot be appealed – no matter the circumstances. That means that a court cannot overturn the decision since both sides committed to supporting the arbitrator’s decision in advance.

A non-binding arbitration is used when both parties wish to retain control over how the dispute is resolved. It allows either party to appeal the arbitrator's award if they are dissatisfied with the outcome. If that occurs, the case may then go to court.

Mandatory vs. voluntary arbitration

Arbitration is mandatory in cases where a contract dictates that arbitration will be used to resolve a dispute, such as when a client signs a commercial contract for a service. It is voluntary when both parties opt for arbitration to settle a dispute, such as when a company decides to settle out of court.

How does arbitration work in business insurance?

Arbitration may be used to settle an insurance dispute between an insurance provider and a policyholder. Instead of filing a lawsuit, the insurer and the policyholder both present their case to the arbitrator. The arbitrator reviews the facts and comes to a decision about how to resolve the dispute. This could result in the provider having to pay for damages it tried to deny coverage, or a policyholder might have to pay for damages that the arbitrator ruled were not included in the insurance policy.

An example of arbitration with an insurance claim

During hurricane season, a tree falls on a policyholder’s dentist office, breaking the front window. The policyholder believes the cost of a new window should be covered by the business’s general liability policy. However, the insurer denies the claim, saying that hurricane damage was not included in the policy.

The policyholder’s contract states that arbitration is mandatory in the event of a disagreement, and the policyholder and insurer agree to a binding arbitration by the American Arbitration Association. The arbitrator rules that the insurer was not responsible for paying for the damages. Because the decision was binding, the policyholder is obligated to pay for the expense of repairing the window.

Arbitration benefits the provider and the policyholder

In general, arbitration benefits both parties. Federal courts can take years to resolve a case; court delays can take a huge toll on a business in terms of legal fees and the time commitment. According to the American Arbitration Association, U.S. district court cases typically take about a year longer to go to trial than cases designated for arbitration. If a case goes through the court’s appeal process, it can take almost two years longer than it would in arbitration.

For insurance providers and policyholders, arbitration can provide a quicker method than litigation to reach an agreement that satisfies both parties – and save money, as well. When signing a contract with an insurance provider, look for a clause about arbitration to find out how any potential disagreement would be resolved.

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Updated: April 29, 2022
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