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Student loans and forced arbitration

Student loan borrower who alleged interest-rate scheme will not get his day in court: Only arbitration provider picked by the company can decide the fairness of the arbitration"Christine Hines"

Student loan borrower *Justin Kuehn, who sued his lenders in April alleging that they engaged in an interest-rate scheme to deceive him and other borrowers, will have to resolve those claims in private arbitration instead of in court. In yesterday’s decision (PDF), a New York district court said that Kuehn, who had also challenged the  enforceability of the terms of an arbitration clause in the loan promissory note, said that an arbitrator – not the court – will have to decide on whether the arbitration terms in the contract are “unconscionable” or whether the arbitration must go on.

In 2007, Kuehn had entered into a contract online with Citibank, the Student Loan Corp., and Discover Bank, to consolidate his private loans. Later on, he discovered that his auto-payments had been reduced. Kuehn alleged that the banks deceived him and other borrowers into believing that the payment reduction was a result of an interest rate reduction when in fact it was attributable to a reduction in the amount of principal being repaid each month. Resulting in prolonged loan payment terms and additional interest paid by borrowers.

 “I am disappointed at the result,” said Kuehn. “The fact that an arbitrator gets to decide whether the arbitration clause is enforceable gives him or her the power to decide on an issue that benefits the arbitrator financially. With companies’ widespread use of forced arbitration in contracts, our only option as consumers is to challenge the validity of the arbitration clause itself in court. But that option is also gone.”

This practice of handing over to arbitrators the power to decide on all the terms in a contract stems from a 2010 Supreme Court case, Rent-A-Center v. Jackson. The Supreme Court interpreted the contract in that case to give arbitrators virtually unchecked power to decide whether their own system unfairly favors their corporate clients.

Forced arbitration is an inherently biased system that financial institutions and other corporations place in their contracts with consumers and employees in order to shield themselves from accountability for wrongdoing.  Consumers are forced to resolve disputes with the companies in private proceedings instead of in open court. The businesses or their private arbitration providers set the rules for the process, effectively eliminating the safeguards of the court system. Further, arbitration providers are dependent on receiving repeat business from corporations, which gives them strong incentives to favor their client companies.

These are issues that the federal agency, the Consumer Financial Protection Bureau (CFPB), should consider in its ongoing study of forced arbitration in contracts for consumer financial services and products. The CFPB also has the authority to ban the predatory practice after it concludes the study. We hope it will do just that.

*Kuehn also discussed his case at a briefing in October, sponsored by the Americans for Financial Reform, Public Citizen, and the National Association of Consumer Advocates.

Christine Hines is Public Citizen’s consumer justice and legal counsel.