Fifth Circuit Holds International Arbitration Policy Preempts Contrary State Law

The United States Court of Appeals for the Fifth Circuit has ruled the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the “Convention”) preempts a state law that prohibits including an arbitration agreement in a property insurance contract despite that the insurance policy also contained a conformity to statute provision designed to amend out any contract provisions that fail to comply with state law.  In McDonnel Group, L.L.C. v. Great Lakes Insurance SE, UK, No. 18-30817 (May 13, 2019), McDonnel Group purchased a property insurance policy from Great Lakes Insurance for a New Orleans, Louisiana construction project.  About two years later, McDonnel submitted an insurance claim to the insurer over purported water damage.  The insurer denied McDonnel’s claim and the company filed a lawsuit “seeking declaratory relief and damages for breach of contract and breach of the duty of good faith and fair dealing.”

Great Lakes responded to McDonnel’s lawsuit by filing a motion to dismiss based on the arbitration provision included in the parties’ insurance contract.  The arbitral provision stated:

Any dispute, controversy or claim arising out of, relating to, or in connection with this Policy, shall be finally settled by arbitration. The arbitration shall be conducted in accordance with the International Arbitration Rules of the American Arbitration Association in effect at the time of the arbitration. The seat of the arbitration shall be New York, New York, in the United States of America.

According to the insurer, dismissal was required because the case was subject to arbitration under the Convention.

The policy, however, also contained a “conformity to statute” provision, stating: “In the event any terms of this Policy are in conflict with the statutes of the jurisdiction where the Insured Property is located, such terms are amended to conform to such statutes.” Invoking that provision, McDonnel responded that any obligation to arbitrate under the Convention did not apply to the instant dispute because the policy’s arbitration agreement was, as a matter of law, invalid. The arbitration provision was contrary to La. Rev. Stat. Ann. § 22:868(A)(2), which prohibits arbitration agreements in insurance contracts covering property located in the state. Thus, the conformity provision, McDonnel argued, “amended” the arbitration provision out of the contract in order to “conform” with Louisiana law. Consequently, the dispute between McDonnel and the Insurers was not subject to the Convention.

The trial court relied on the Fifth Circuit’s opinion in Safety Nat’l Cas. Corp. v. Certain Underwriters at Lloyd’s to determine the Convention preempted the Louisiana state law.  Because of this, the lower court held no conflict existed and the conformity to statute provision did not apply to the parties’ case.  The trial court then dismissed McDonnel’s lawsuit in favor of arbitration proceedings.  After that, the McDonnel Group filed an appeal with the Fifth Circuit Court of Appeals.

On appeal, the Fifth Circuit addressed whether the parties’ contractual agreement to conform to state statutes applied after it was determined as a matter of law that the conflicting Louisiana statute was “preempted by the Convention.”  The appellate court first reiterated its holding in Safety Nat’l Cas. Corp. v. Certain Underwriters at Lloyd’s stating the “McCarran-Ferguson Act does not permit state laws to reverse-preempt the Convention,” before examining the particular issue before the court:

We now turn to the analysis of the precise issue before us, which we break down as follows: whether (1) an agreement to arbitrate (2) provided in an insurance policy (3) is voided by the policy’s conformity provision (4) when the conflicting state law prohibiting arbitration (5) has been preempted by the Convention. McDonnel argues that the arbitration provision was amended by deletion from the contract ab initio because it conflicts with La. Rev. Stat. Ann. § 22:868. The Insurers respond that there is no conflict between the contract and § 22:868 because the Convention preempts this state law.

This issue, which is only a question of contract interpretation, is of first impression. Although Safety National has already decided the more difficult questions regarding preemption and reverse preemption, the insurance contract in that case did not contain a conformity provision. So, what does the contract between McDonnel and the Insurers provide? We focus on two provisions. First, it contains a conformity provision, which amends the terms of the contract to conform to state statutes. But that provision only applies “[i]n the event any terms of [the] Policy are in conflict with the statutes of the jurisdiction where the Insured Property is located.” Second, the policy contains an arbitration provision. It is the arbitration provision of the insurance policy that is said not to conform with La. Rev. Stat. Ann. § 22:868, a statute prohibiting arbitration agreements. This state statute, however, as we held in Safety National, is preempted by the Convention.  Because the state statute, i.e., La. Rev. Stat. Ann. § 22:868, is preempted by the Convention, the statute does not and cannot apply to McDonnel’s policy. And because the statute does not apply to the policy, there is no conflict between the policy and the state statute. With that premise established, the conformity provision is not triggered; its inapplicability leads only to the conclusion that the arbitration provision survives, undiminished by state law.

Finally, the United States Court of Appeals for the Fifth Circuit affirmed the trial court’s order dismissing the case in favor of arbitration.

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