Closing the Door on the Criminalization of Arbitration

In the ever-evolving legal landscape surrounding arbitration, few issues have garnered as much attention—or sparked as much controversy—as the attempt to criminalize mandatory arbitration agreements in employment contracts. At the heart of this controversy was California’s Labor Code Section 432.6, a law that attempted to prohibit employers from requiring arbitration as a condition of employment. This legislation not only challenged prevailing interpretations of the Federal Arbitration Act (FAA) but also introduced criminal penalties for its violation, putting the state squarely at odds with federal law.

This article revisits the legal battle over California’s effort to impose criminal sanctions for requiring arbitration and explains why, with the issuance of a permanent injunction, that effort has come to a decisive end.

The Background: California’s Legislative Push

In January 2020, California enacted Assembly Bill 51 (AB 51), codified in part as Labor Code Section 432.6. The law made it a criminal offense for employers to require employees or applicants to sign arbitration agreements as a condition of employment, continued employment, or receipt of employment-related benefits.

This provision sought to protect the rights of employees by ensuring they retained access to the court system. In addition to criminalizing the use of mandatory arbitration clauses, the law barred employers from retaliating against individuals who refused to agree to arbitration.

To many, AB 51 seemed like a natural extension of California’s progressive labor policies. But to others, particularly those familiar with federal arbitration law, the legislation posed an immediate problem. The Federal Arbitration Act, a nearly century-old statute, has consistently been interpreted by the U.S. Supreme Court to preempt state laws that interfere with the enforceability of arbitration agreements. In effect, AB 51 was viewed as incompatible with the FAA.

Legal Challenge and Injunction

It did not take long for AB 51 to face legal scrutiny. Several business organizations challenged the law in federal court, arguing that it was preempted by the FAA and unconstitutional. Their case landed in the United States District Court for the Eastern District of California, where a preliminary injunction was granted.

The court’s reasoning was straightforward: AB 51 stood as an obstacle to the objectives of the FAA. By criminalizing conduct that the FAA explicitly permits—namely, the formation and enforcement of arbitration agreements—the California law created a direct conflict with federal law. That conflict rendered the state law unenforceable under the doctrine of federal preemption.

The preliminary injunction was appealed to the U.S. Court of Appeals for the Ninth Circuit. In a closely watched decision, the Ninth Circuit ultimately upheld the District Court’s injunction, affirming the view that California’s law could not coexist with the FAA.

The Permanent Injunction

After the Ninth Circuit remanded the case, the District Court revisited the matter and issued a permanent injunction at the beginning of 2024. This ruling closed the door on the criminalization of arbitration clauses in employment agreements, firmly and unequivocally.

The court held that Labor Code Section 432.6 “conflicts with the FAA in both purpose and effect” and was therefore invalid. As a result of the permanent injunction, employers in California are once again free to include arbitration provisions in their employment agreements without fear of criminal liability.

Importantly, the court’s decision also enjoined the California Attorney General from enforcing the statute, further reinforcing the FAA’s supremacy in this area of law.

Legal and Practical Significance

The significance of the court’s ruling is multifaceted. First and foremost, it underscores the continuing strength of the FAA as a federal statute that preempts state efforts to undermine arbitration. No matter how well-intentioned a state’s legislative goals may be, they must give way to federal law when a conflict arises.

Second, the ruling delivers legal clarity to employers and employment lawyers navigating the murky waters of arbitration compliance. For a time, California employers faced the unsettling possibility that their standard employment practices—widely accepted in other jurisdictions—could result in misdemeanor criminal charges. With the permanent injunction in place, that risk has now been eliminated.

Third, this outcome has broader implications for other states considering similar legislation. California is often seen as a bellwether state, leading the way on progressive legal reforms. But this decision demonstrates the limits of state innovation in areas governed by federal law.

A Cautionary Tale for Drafting Arbitration Agreements

While this litigation turned on the legality of mandating arbitration, it also serves as a reminder about the importance of drafting arbitration agreements that are fair, transparent, and enforceable. Courts will scrutinize arbitration clauses closely—especially in the employment context—to ensure they are not unconscionable or coercive.

Employers and practitioners should take care to ensure that:

• The arbitration agreement is clearly and conspicuously presented

• The terms are not one-sided or unduly burdensome

• Employees have a meaningful opportunity to review and understand the agreement

• Any delegation clauses are properly worded and consistent with applicable law

Taking these precautions not only increases the likelihood that an arbitration clause will be upheld but also fosters a fairer dispute resolution process.

What This Means for the Future

The permanent injunction issued in this case does more than just block one state law. It reaffirms a broader principle: arbitration remains a valid and enforceable method of dispute resolution, even in the face of political and legislative efforts to curtail its use.

While debates over the fairness of arbitration—especially in the consumer and employment arenas—are sure to continue, the courts have once again sent a strong signal that federal law remains the dominant authority.

For employers, legal counsel, and neutral providers alike, this decision brings renewed clarity and certainty. And for advocates of arbitration as an efficient and private forum for resolving disputes, it’s a welcomed affirmation of long-standing jurisprudence.

To read the Order, click here.

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