reining in recalcitrant broker- dealers: customers ... › wp-content › uploads › 2016 › 11...

$: REINING IN RECALCITRANT BROKER- DEALERS: CUSTOMERS ... › wp-content › uploads › 2016 › 11 › CAC101_crop.pdf\\jciprod01\productn\C\CAC\18-1\CAC101.txt unknown Seq: 5 3-OCT-16$
\\jciprod01\productn\C\CAC\18-1\CAC101.txt unknown Seq: 1 3-OCT-16 12:07

REINING IN RECALCITRANT BROKER-DEALERS: CUSTOMERS NEGOTIATING

WITH BROKER-DEALERS TOARBITRATE BEFORE SEEKING

INTERPLEADER

Rushelle Bailey*

I. INTRODUCTION

Broker-dealers, who are members of the Financial IndustryRegulatory Authority (“FINRA”), ordinarily have a pre-disputearbitration clause in their customer agreements and are subject toFINRA’s arbitration rules.1 When a dispute arises between a cus-tomer and his or her broker-dealer,2 the question of whether toarbitrate is relatively simple to answer—broker-dealers are re-quired to arbitrate the dispute.3 However, it is not readily appar-ent whether interpleader4 relief is available as a method of disputeresolution, notwithstanding the pre-dispute arbitration clause. Abroker-dealer might seek interpleader relief after receiving a re-straining notice from her customer’s judgment creditor.5 There is agrey area in this scenario as to whether arbitration is mandatory.6

* Senior Articles Editor, Cardozo Journal of Conflict Resolution; B.A. 2013, McGill Univer-sity; J.D. Candidate, 2017, Benjamin N. Cardozo School of Law. The author would like to thankher family and friends for their love, support, and encouragement. The author also thanks Pro-fessor David Gray Carlson for his insight and guidance.

1 The FINRA Code of Arbitration Procedure for Customer Disputes Rule 12200 pertains toarbitration under an arbitration agreement or the rules of FINRA. See FINRA RULE 12200,http://finra.complinet.com/en/display/display_main.html?rbid=2403& element_id=4106 (last vis-ited Sept. 30, 2015).

2 For the definition of broker-dealer, see infra Part II.B.1.3 FINRA RULE 12200, supra note 1. R4 Interpleader can be defined as “[a] suit to determine a right to property held by a [usually]

disinterested third party (called a stakeholder) who is in doubt about ownership and who there-fore deposits the property with the court to permit interested parties to litigate ownership. Typi-cally, a stakeholder initiates an interpleader both to determine who should receive the propertyand to avoid multiple liability.” Interpleader, BLACK’S LAW DICTIONARY 943 (10th ed. 2014).

5 The case in which this dispute arises is Caro v. Fid. Brokerage Servs., No. 3:12-CV-01066CSH, 2014 WL 3907920 (D. Conn. Aug. 11, 2014). This case will be discussed in Part II.A andPart III.A.1.

6 See infra Part III.A.

189


190 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 18:189

When broker-dealers receive restraining notices on their cus-tomers’ account, this can cause controversy with their customers.7

The controversy occurs because the customer does not want a re-straint placed on his or her account, and he or she wants the bro-ker-dealer to continue activity on the account.8 Broker-dealers,who react by interpleading the customer and the judgment creditorand depositing funds in the court’s registry, raise a red flag as towhy they did not seek arbitration. When the broker-dealer refusesto arbitrate with the customer, one wonders whether the recalci-trant broker-dealer is choosing the best method for resolving thedispute. Broker-dealers are subject to FINRA’s rules and arbitra-tion procedures;9 it is imperative to understand whether othermethods of dispute resolution are available for this particular dis-pute. Additionally, it is important for broker-dealers to find outwhether the controversy arising from restraining a customer’s ac-count is a dispute that falls within the scope of the arbitrationclause, thereby making the interpleader inappropriate.

This Note assesses whether it is appropriate10 for a broker-dealer to commence an interpleader action in response to receivinga restraining notice on the customer’s account, despite the exis-tence of a pre-dispute arbitration clause. If not, what are the con-sequences, and what are the appropriate dispute resolutionmethods for resolving any dispute that might arise regarding therestraining notice on the customer’s account? Part II of this Notepresents the issue that arises when a restraining notice is served ona customer’s account under the control of a broker-dealer. Adescription is given of the regulation of broker-dealers and theirmembership with FINRA. This section also discusses the use ofarbitration by broker-dealers in customer disputes. Finally, anoverview is given of the nature of restraining notices and the use ofinterpleader.

Part III analyzes cases that address the issue of whether inter-pleader is appropriate. This Note argues that when considering theconsequences of doing nothing on the customer’s account, the bro-ker-dealers’ fear of multiple and vexatious litigation is speculativeand unreasonable; therefore, interpleader is inappropriate. This

7 Id.8 Caro, 2014 WL 3907920, at *1.9 See FINRA RULE 0140, http://finra.complinet.com/en/display/display_main.html?rbid=24

03&element_id=5453 (last visited Jan. 20, 2016).10 The term “appropriate” is used here to mean both (a) what is the right method of dispute

resolution, and (b) the determination of whether interpleader relief is proper in the first stage ofinterpleader action and whether. See infra Part III.


2016] REINING IN BROKER-DEALERS 191

section also considers the analysis used to determine when to com-pel arbitration on an interpleader action. This Note argues thatrestraining notice disputes are arbitrable and, therefore, courtsshould compel arbitration of these disputes on interpleader actions.

Part IV of this Note proposes that the best way to get recalci-trant broker-dealers to submit to arbitration is to add new lan-guage to the pre-dispute arbitration clause. Customers shouldnegotiate with broker-dealers for a pre-dispute arbitration clausethat includes another mandatory arbitration provision requiringparties to arbitrate before they can seek interpleader relief.

II. BACKGROUND

A broker-dealer receiving a restraining notice on a customer’saccount can give rise to controversy. Whether the appropriatemethod for resolving that dispute is through interpleader or arbi-tration is dependent on defining broker-dealers and the self-regula-tory organization that subjects them to arbitration.

A. Restraining Notice on a Customer’s AccountGiving Rise to Controversy

The following scenario is based on the facts of Caro v. Fid.Brokerage Servs.11 A broker-dealer receives a restraining noticefor the accounts of a customer. Upon investigation, the broker-dealer finds that the restraining notice does not cover all of thecustomer’s accounts within the firm’s possession. The broker-dealer advises both the customer and the judgment creditor thatthe firm will not restrain the account it believes the restraining no-tice does not cover. The judgment creditor threatens contemptproceedings and demands that the broker-dealer restrain all of thecustomer’s accounts within the firm’s possession. However, thecustomer insists that the broker-dealer open access to his or heraccount, arguing that it is outside the bounds of the restraining no-tice. So, the broker-dealer starts an interpleader action for thecourt to resolve whom amongst the customer and the judgmentcreditor has the right to the funds in the account. The customer

11 Caro, 2014 WL 3907920, at *1.



argues that interpleader is inappropriate and seeks to compelarbitration.

B. Broker-Dealers and Self-Regulatory Organizations

1. Who are Broker-Dealers?

It is important to define who qualifies as a broker-dealer, be-cause the role of broker-dealers in the economy puts them in aposition where they can cause injury to investors.12 The SecuritiesExchange Act of 1934 (the “Exchange Act”) defines a broker-dealer, imposes a regulatory scheme on broker-dealers, and re-quires them to register with the Securities Exchange Commission(“SEC”) and join a self-regulatory organization.13 A “broker” isdefined in the Exchange Act § 3(a)(4)(A) as “any person engagedin the business of effecting transactions in securities for the accountof others.”14 A “dealer” is defined in the Exchange Act§ 3(a)(5)(A) as “any person engaged in the business of buying andselling securities . . . for such person’s own account through a bro-ker or otherwise.”15

2. FINRA, a Self-Regulatory Organization

As previously mentioned, broker-dealers are required underthe Exchange Act to join a self-regulatory organization.16 Broker-dealers can register to become members17 of FINRA. FINRA wascreated, pursuant to the Exchange Act, as a self-regulatory organi-

12 David A. Lipton, A Primer on Broker-Dealer Registration, 36 CATH. L. REV. 899, 899–908(1987).

13 See Guide to Broker-Dealer Registration, U.S. SECURITIES & EXCHANGE COMM’N, http://www.sec.gov/divisions/marketreg/bdguide.htm (last visited Sept. 30, 2015) (describing to inves-tors who is a broker-dealer). For more details on broker-dealer registration, see also Lipton,supra note 12, at 899–908. For details on registering with FINRA, see Brokers, FINRA, http:// Rwww.finra.org/investors/brokers (last visited Jan. 20. 2016); Lowenstein Sandler, BD Registration101: A Primer on FINRA Broker-Dealer Registration, LOWENSTEIN SANDLER LLP, https://www.lowenstein.com/files/upload/FINRA%20BD%20Registration%20Primer%20Spring%202015.pdf (last visited Jan. 20. 2016).

14 15 U.S.C. § 78(c) (2012).15 Id.16 See Guide to Broker-Dealer Registration, supra note 13. R17 The term “member” is defined in FINRA’s Rules as “any individual, partnership, corpora-

tion or other legal entity admitted to membership in FINRA under the provisions of Articles IIIand IV of the FINRA By-Laws.” FINRA RULE 0160 § 10, http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=5456 (last visited Jan. 20, 2016).



zation subject to the oversight of the SEC.18 Firms and brokersthat sell securities have to be licensed and registered by FINRA.19

Furthermore, one of the core missions of FINRA is investor pro-tection.20 To achieve this, FINRA has its own rules and also en-forces federal securities laws and rules.21 Moreover, FINRAprovides oversight for broker-dealers and protection forinvestors.22

C. The Use of Arbitration in Broker-Dealer Disputeswith their Customers

1. Overview of Arbitration

FINRA has the largest securities arbitration forum in theUnited States.23 Arbitration is the dispute resolution method usedfor most disputes between customers24 and their broker-dealers.25

Arbitration is an alternative method for resolving disputes outsidethe court system.26 FINRA explains arbitration as “similar to go-

18 For a description of the nature of self-regulation in the securities industry, see JonathanMacey & Caroline Novogrod, Enforcing Self-Regulatory Organization’s Penalties and the Natureof Self-Regulation, 40 HOFSTRA L. REV. 963, 964–70 (2012).

19 See Macey & Novogrod, supra note 18, at 964. See also Member Regulation, FINRA, Rhttp://www.finra.org/industry/member-regulation (last visited Jan. 20, 2016).

20 See FINRA Marks 75th Anniversary of Protecting Investors, FINRA, http://www.finra.org/newsroom/2014/finra-marks-75th-anniversary-protecting-investors (last visited Jan. 20, 2016).

21 See Oversight, FINRA, http://www.finra.org/industry/oversight (last visited Sept. 30, 2015).22 Id.23 For more information on arbitration at FINRA, see Arbitration and Mediation, FINRA,

http://www.finra.org/arbitration-and-mediation (last visited Sept. 30, 2015).24 Defining the term customer is a contested issue because there is no precise definition in

FINRA’s rules. FINRA’s definition of customer is “a customer shall not include a broker ordealer.” FINRA RULE 12100 (i), http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=4099 (last visited Jan. 20, 2016). For more examples on cases defining a “cus-tomer,” see UBS Fin. Servs., Inc. v. Carilion Clinic, 706 F.3d 319, 327 (4th Cir. 2013) (“[O]ne, nota broker or a dealer, who purchases commodities or services from a FINRA member in thecourse of the member’s business activities insofar as those activities are regulated by FINRA—namely investment banking and securities business activities.”); Raymond James Fin. Servs., Inc.v. Cary, 709 F.3d 382, 386 (4th Cir. 2013) (“[A]n entity that is ‘not a broker or dealer, whopurchases commodities or services from a FINRA member in the course of the member’s busi-ness activities,’ namely, ‘the activities of investment banking and the securities business.’”)(quoting Morgan Keegan, 706 F.3d 562, 566 (4th Cir. 2013)). See also, Jason W. Burge & LaraK. Richards, Defining “Customer”: A Survey of Who Can Demand FINRA Arbitration, 74 LA. L.REV. 173, 175–76 (2013).

25 See Arbitration and Mediation, supra note 23. R26 Arbitration can be defined as “[a] dispute-resolution process in which the disputing parties

choose one or more neutral third parties to make a final and binding decision resolving thedispute. The parties to the dispute may choose a third party directly by mutual agreement, or



ing to court, but is usually faster, cheaper and less complex thanlitigation. It is a formal alternative to litigation in which two ormore parties select a neutral third party, called an arbitrator, toresolve a dispute. The arbitrator’s decision, called an award, is fi-nal and binding.”27

2. Enforcement of Arbitration Agreements under the FAA

A binding agreement to arbitrate is frequently enforced incourt.28 The Federal Arbitration Act of 1925 (the “FAA”) “pro-vides for the enforcement of pre-dispute agreements in commercialor maritime transactions,”29 hence securities transactions fall underthe FAA because they involve interstate commerce.30 The effect ofthe FAA on the dispute resolution process is to validate pre-dis-pute arbitration agreements; “[o]nce it is determined to have beenvalidly entered into, the court cannot act further and must orderthe matter submitted to arbitration, including compelling the recal-citrant party to submit to such arbitration.”31 The federal policyfavoring arbitration created by the FAA will impact interpretationof arbitration clauses and agreements because, “it not only ‘de-clared a national policy favoring arbitration,’ but actually ‘with-drew the power of the states to require a judicial forum for the

indirectly, such as by agreeing to have an arbitration organization select the third party.” Arbi-tration, BLACK’S LAW DICTIONARY 125 (10th ed. 2014).

27 See Arbitration and Mediation, supra note 23. FINRA’s Investor’s Guide to arbitrating Rsecurities disputes provides a general overview of what investors can expect from the arbitrationprocess, see Jill Gross, Edward Pekarek & Alice Oshins, Investor’s Guide to Securities IndustryDisputes: How to Prevent and Resolve Disputes with your Broker, FINRA, http://www.finra.org/sites/default/files/Investors%20Guide%20to%20Securities%20Industry%20Disputes.pdf (lastvisited Jan. 20, 2016).

28 Pre-dispute arbitration clauses are now being enforced, whereas historically they were notas easily enforceable. In Wilko v. Swan, the Supreme Court held that for claims under theFederal Securities Act of 1933 § 12(a)(2), arbitration could not be compelled based on an arbi-tration agreement with a broker. Wilko v. Swan, 346 U.S. 427, 435–38 (1953). In the SupremeCourt case Shearson/American Express, Inc. v. McMahon, the court questioned the premise inWilko—that pre-dispute arbitration agreements between brokers and customers do not safe-guard the interest of the customer—because commercial arbitration became a frequent occur-rence and the procedures were viewed favorably. Shearson/American Express, Inc. v.McMahon, 482 U.S. 220, 107 S. Ct. 2332 (1987). After these Supreme Court decisions, pre-dispute arbitration clauses in broker contracts became enforceable in court. See Margo E.K.Reder, Securities Law and Arbitration: The Enforceability of Predispute Arbitration Clauses inBroker-Customer Agreements, 1990 COLUM. BUS. L. REV. 91, 104–06, 107–10 (1990).

29 9 U.S.C. § 1 (2012). See also J. KIRKLAND GRANT, SECURITIES ARBITRATION FOR BRO-

KERS, ATTORNEYS, AND INVESTORS 19 (1994).30 GRANT, supra note 29, at 18–19. R31 Id. at 19.



resolution of claims which the contracting parties agreed to resolveby arbitration.’”32

3. Pre-Dispute Arbitration Clauses

FINRA’s arbitration rules for customer-member33 disputes arecontained in its Code of Arbitration Procedure for Customer Dis-putes (“Code of Arbitration”).34 Under FINRA Rule 12200,FINRA members and their customers must arbitrate a dispute inconnection with the members’ business activities:

[p]arties must arbitrate a dispute under the Code if: Arbitrationunder the Code is either: (1) [r]equired by a written agreement,or (2) [r]equested by the customer; [t]he dispute is between acustomer and a member or associated person of a member; and[t]he dispute arises in connection with the business activities ofthe member or the associated person, except disputes involvingthe insurance business activities of a member that is also an in-surance company.35

Moreover, any customer of a member firm or any associated per-sons of the member firm can use FINRA’s arbitration forum forany claim that arises from the member firm’s business activities.36

Customers can arbitrate either by written agreement or upon de-mand.37 As members of FINRA, broker-dealers agree to adhere toFINRA’s rules and regulations, including its Code of Arbitration.38

Broker-dealers include in their agreements with customers apre-dispute arbitration clause,39 and it is standard practice to arbi-trate using FINRA’s forum.40 The following is an example of astandard pre-dispute arbitration clause, taken from Fidelity Bro-kerage Services, LLC’s Customer Agreement:

This agreement contains a pre-dispute arbitration clause. Underthis clause, which you agree to when you sign your account ap-plication, you and Fidelity agree as follows: A. All parties to thisagreement are giving up the right to sue each other in court,

32 See Mastrobuono v. Shearson Lehman Hutton, Inc., 514 U.S. 52, 56 (1995) (quotingSouthland Corp. v. Keating, 465 U.S. 1, 10 (1984)).

33 The controversy that arises due to a broker-dealer receiving a restraining notice falls in thecategory of customer claims against broker-dealers and associated persons. This note will referto this category as customer-member disputes.

34 See FINRA RULE 12200, supra note 1. R35 Id.36 Id.37 Id.38 See FINRA RULE 0140, supra note 9.39 See FINRA, supra note 23.40 Id.



including the right to a trial by jury, except as provided by therules of the arbitration forum in which a claim is filed . . . . Allcontroversies that may arise between you and us concerning anysubject matter, issue or circumstance whatsoever (including, butnot limited to, controversies concerning any account, order ortransaction, or the continuation, performance, interpretation orbreach of this or any other agreement between you and us,whether entered into or arising before, on or after the date thisaccount is opened) shall be determined by arbitration throughthe Financial Industry Regulatory Authority (FINRA) or anyUnited States securities self-regulatory organization or UnitedStates securities exchange of which the person, entity or entitiesagainst whom the claim is made is a member, as you may desig-nate . . . .41

In this standard pre-dispute arbitration clause, the customer is firstadvised that the agreement contains a pre-dispute arbitrationclause. This warning is followed by a list of what the parties agreeto, such as giving up the right to sue each other in court. Theclause then specifies how the customer and the brokerage firm willresolve disputes. Here, the chosen method is arbitration throughFINRA or any other self-regulatory organization of which the firmis a member. This Note uses the language in this pre-dispute arbi-tration clause as an example for its analysis.

4. Negotiating the Pre-Dispute Arbitration Clause

Negotiation42 can be integral to the dispute resolution pro-cess.43 Bargaining is usually informal and self-regulated; that is,there are no procedural rules similar to those in arbitration.44 Ef-

41 FIDELITY ACCT.: CUSTOMER AGREEMENT & ADDITIONAL INFO., https://www.fidelity.com/bin-public/060_www_fidelity_com/documents/customer-agreement-cash-management-and-addi-tional-information.pdf (last visited Nov. 29, 2015).

42 Negotiation can be defined as a “consensual bargaining process in which the parties at-tempt to reach agreement on a disputed or potentially disputed matter.” Negotiation, BLACK’SLAW DICTIONARY 1200 (10th ed. 2014). From a functionalist perspective of negotiation, “1)bargaining is: indispensable to the functioning of society, 2) the fundamental purpose of bargain-ing is to achieve a valid agreement, 3) practices that threaten the validity of an agreement violatethe fundamental purpose of the process, 4) bargaining is an adversarial market process in whichwilling opponents use partisan strategic dealings (bargaining techniques) to arrive at accurateinformation and to obtain fair treatment . . . . These assumptions underlie the use of the internalresources of the process to achieve truthfulness and fairness in bargaining. The result is a mini-mal but functional ethic.” Eleanor Holmes Norton, Bargaining and the Ethic of Process, 64N.Y.U. L. REV. 493, 535 (1989).

43 Norton, supra note 42, at 495. R44 See Norton, supra note 42, at 526 (“Bargaining is a self-regulated process in which parties R

with different goals engage in strategic dealings until they agree upon an outcome, or until oneor more of them decides that agreement cannot be reached. However, this process has n[o]



fectively, adversarial/positional bargaining advances the interest ofthe parties.45 However, customers usually do not negotiate arbitra-tion agreements in the securities industry.46 Pre-dispute arbitrationclauses in Customer Agreements are often offered on a “take it orleave it”47 condition.48 Often, the customer does not receive theopportunity to bargain for the terms in the arbitration clause.49

prescribed form or rules. It is what the parties agree it is and may be conducted in any way thatthey decide. Bargaining, a self-directed market process, assumes that the parties will monitorthe truthfulness and fairness of that process.”).

45 See Norton, supra note 42, at 529–30 (“Like its market features, the adversarial posture in Rnegotiation is a structural characteristic. An adversarial posture is necessary in bargaining toprotect and advance the parties’ interests, including their interests in ethical treatment. How-ever, the viability of an adversarial setting depends on its ability to enforce ethical standardssuch as truthfulness and fairness.”). An alternative approach to positional bargaining is “princi-pled negotiation or negotiation on the merits.” See ROGER FISHER, WILLIAM L. URY, AND

BRUCE PATTON, GETTING TO YES: NEGOTIATING AGREEMENT WITHOUT GIVING IN 9–13(1991). This approach recommends that parties “1) separate the people from the problem, 2)focus on interests, not positions, 3) invent multiple options looking for mutual gain before decid-ing what to do, and 4) insist that the result be based on some objective standard.” Id.

46 See Macey & Novogrod, supra note 18, at 964–970. R47 For an analysis on negotiating mandatory arbitration clauses in employment contracts, see

Miriam A. Cherry, A Negotiation Analysis of Mandatory Arbitration Contracts Rosenberg v.Merrill Lynch, Pierce, Fenner & Smith, Inc., 170 F.3d 1 (1st Cir. 1999), 4 HARV. NEGOT. L. REV.269, 277 (1999).

48 The absence of negotiation over the terms of the arbitration clause does not mean that allCustomer Agreements are contracts of adhesion. See Trott v. Paciolla, 748 F. Supp. 305, 309(E.D. Pa. 1990) (citing Brokers Title Co. v. St. Paul Fire & Marine Ins. Co., 610 F.2d 1174, 1180(3d Cir.1979) (“In the typical contract of adhesion, economic necessity compels a weaker partyto accept an unfavorable contractual term, and ‘[t]he dominant party knows that the other wouldnot accept the term, and thus employs the practices of minute print, unintelligible legalese, orhigh pressure sales technique’”); Brokers Title Co., 610 F.2d at 1179 (“An adhesion contract hasbeen described as ‘one which is dictated by a predominant party to cover transactions with manypeople rather than with an individual, and which resembles an ultimatum or law rather than amutually negotiated contract.’”). See also Todd D. Rakoff, Contracts of Adhesion: An Essay inReconstruction, 96 HARV. L. REV. 1173, 1177 (1983) (defining a model of “contract of adhesion”as: “(1) The document whose legal validity is at issue is a printed form that contains many termsand clearly purports to be a contract. (2) The form has been drafted by, or on behalf of, oneparty to the transaction. (3) The drafting party participates in numerous transactions of the typerepresented by the form and enters into these transactions as a matter of routine. (4) The formis presented to the adhering party with the representation that, except perhaps for a few identi-fied items (such as the price term), the drafting party will enter into the transaction only on theterms contained in the document. This representation may be explicit or may be implicit in thesituation, but it is understood by the adherent. (5) After the parties have dickered overwhatever terms are open to bargaining, the document is signed by the adherent. (6) The adher-ing party enters into few transactions of the type represented by the form—few, at least, incomparison with the drafting party. (7) The principal obligation of the adhering party in thetransaction considered as a whole is the payment of money.”).

49 See Cherry, supra note 47, at 278. R



D. Broker-Dealer’s Use of Interpleader Instead of Arbitration

1. A Restraining Notice on the Customer’s Account

A broker-dealer might seek interpleader relief in response to arestraining notice on the customer’s account, even though there is apre-dispute arbitration clause in the customer agreement. The na-ture of the restraining notice is such that the broker-dealer is notrequired to take action with the property in the brokerage firm’spossession; it is simply a proscriptive, not prescriptive document.50

When the broker-dealer takes an action contrary to the notice,then she opens herself up to liability.51

A judgment creditor can obtain a restraining notice any timeafter a money judgment.52 A restraining notice can be defined as“a court order commanding its recipient to pay no debt to or trans-fer no property of a judgment debtor that might be levied pursuantto an execution.”53 The clerk of the court or “the attorney for thejudgment creditor as officer of the court” can issue a restrainingnotice.54

The N.Y. C.P.L.R. (“C.P.L.R.”) invokes a specific example ofhow restraining notices function. In New York, a judgment debtorserved with a restraining notice is “forbidden to make or suffer anysale, assignment, transfer or interference with any property inwhich he or she has an interest, except as set forth in subdivisions(h) and (i) of this section, and except upon direction of the sheriffor pursuant to an order of the court.”55 A restraining notice servedagainst a third person is effective when the brokerage firm has theproperty in its possession:

A restraining notice served upon a person other than the judg-ment debtor . . . is effective only if, at the time of service, he orshe owes a debt to the judgment debtor . . . or he or she is in thepossession or custody of property in which he or she knows orhas reason to believe the judgment debtor or obligor has an in-terest, or if the judgment creditor or support collection unit hasstated in the notice that a specified debt is owed by the personserved to the judgment debtor or obligor.56

50 See N.Y. C.P.L.R. § 5222(b) (McKinney 2014); see also David Gray Carlson, Critique ofMoney Judgment Part Three: Restraining Notices, 77(4) ALB. L. REV. 1490, 1499 (2014).

51 Id.52 See Carlson, supra note 50, at 1497–98. R53 Id. 54 N.Y. C.P.L.R. 5222(a) (McKinney 2014).55 N.Y. C.P.L.R. 5222(b) (McKinney 2014).56 Id.



The duration of the restraining notice is one year, so the broker-dealer is forbidden from transferring the funds in the customer’saccount for one year:

Such a person is forbidden to make or suffer any sale, assign-ment or transfer of, or any interference with, any such property,or pay over or otherwise dispose of any such debt, to any personother than the sheriff or the support collection unit, except asset forth in subdivisions (h) and (i) of this section, and exceptupon direction of the sheriff or pursuant to an order of thecourt, until the expiration of one year after the notice is servedupon him or her, or until the judgment or order is satisfied orvacated, whichever event first occurs.57

Any noncompliance with a restraining notice is punishable by con-tempt of court.58

The restraining notice anticipates a levy by writ of executionunder C.P.L.R. 5232(a).59 A judgment creditor could use C.P.L.R.5232(a) to obtain a levy and execution against the judgmentdebtor’s “property not capable of delivery.”60 This levy occurswhen the sheriff serves a copy of the execution on the garnishee,here, the brokerage firm.61 The brokerage firm, when served withthe execution, is required to transfer the levied property to thesheriff.62 The sheriff takes no further action against the firm afterthe execution is served.63 The broker-dealer and the brokeragefirm “[are] forbidden to make or suffer any sale, assignment ortransfer of, or any interference with, any such property, or pay overor otherwise dispose of any such debt, to any person other than thesheriff . . . .”64 The levy expires ninety days after execution andbecomes void unless the judgment creditor brings a turnoverproceeding:

57 Id.58 N.Y. C.P.L.R. 5222(a) (McKinney 2014); N.Y. C.P.L.R. 5251 (McKinney 2014).59 See Carlson, supra note 50, at 1497–500; see also David Gray Carlson, Critique of Money R

Judgment (Part Two: Liens on New York Personal Property), 83 ST. JOHN’S L. REV. 43, 87 (2009)(“[T]he levy is the equivalent of a restraining notice under CPLR 5222(b). The injunctive effect,however, lapses ninety days after the levy. The injunctive effect can be further extended bymotion beyond ninety days.”).

60 N.Y. C.P.L.R. 5232(a) (McKinney 2014). The customer’s account in the broker-dealer’spossession is considered to be property not capable of delivery. See Carlson, supra note 59, at R120.

61 N.Y. C.P.L.R. 5232(a) (McKinney 2014).62 Id.63 See Carlson, supra note 50, at 1500–01. R64 N.Y. C.P.L.R. 5232(a) (McKinney 2014).



At the expiration of ninety days after a levy is made by serviceof the execution, or of such further time as the court, upon mo-tion of the judgment creditor or support collection unit has pro-vided, the levy shall be void except as to property or debts whichhave been transferred or paid to the sheriff or to the supportcollection unit or as to which a proceeding under sections 5225or 5227 has been brought.65

Once the levy has expired, the broker-dealer is no longer forbiddenfrom transferring the customer’s property in the brokerage firm’spossession.66

If the broker-dealer does nothing67 on the account though, thejudgment creditor can commence a turnover proceeding underC.P.L.R. 5225(a) and (b), and C.P.L.R. 5227.68 The broker-dealer,as garnishee, is in possession of the funds subject to the judgment;accordingly, the judgment creditor could use C.P.L.R. 5225(b) tobring a turnover proceeding.69 The court permits the judgmentdebtor, here the customer, and any adverse claimant to intervenein the turnover proceeding.70 At this point, the customer will beable to present evidence to determine the rights in the property ordebt.71 The turnover order is different from the restraining noticebecause, “it forces the recipient to do something, whereas the re-straining notice admonishes the recipient to do nothing.”72 If thejudgment creditor is successful, the broker-dealer will be requiredto release the funds to satisfy the judgment to the judgmentcreditor.73

2. Interpleader Relief

A broker-dealer might seek interpleader relief in response to arestraining notice on his or her customer’s account, on the beliefthat there will be multiple claims to or double vexation over thefunds in the account.74 However, an interpleader action is prob-lematic because the broker-dealer and the customer agreed in the

65 N.Y. C.P.L.R. 5232(a) (McKinney 2014).66 See Carlson, supra note 50, at 1500–01. R67 See Carlson, supra note 50, at 1499–1500. R68 N.Y. C.P.L.R. 5225(a), (b) (McKinney 2014); N.Y. C.P.L.R. 5227 (McKinney 2014).69 N.Y. C.P.L.R. 5225(b) (McKinney 2014).70 Id.71 Id.; N.Y. C.P.L.R. 5239 (McKinney 2014).72 See Carlson, supra note 50, at 1499–500. R73 N.Y. C.P.L.R. 5225(b) (McKinney 2014).74 Caro, 2014 WL 3907920, at *1; Fid. Brokerage Servs., LLC v. Bank of China, 192 F. Supp.

2d 173, 174–75 (S.D.N.Y. 2002).



pre-dispute arbitration clause to arbitrate any dispute betweenthem.

Interpleader is a form of litigation, and not an alternative dis-pute resolution process like arbitration.75 Interpleader relief is in-tended to protect stakeholders from multiple claims, liability, anddouble vexation.76 Interpleader actions can be brought as a “statu-tory interpleader” under 28 U.S.C. § 1335 or as a “rule inter-pleader” under Rule 22 of the Federal Rules of Civil Procedure.77

An interpleader action is conducted in two stages. In the firststage, the court considers whether interpleader is appropriate; andif the stakeholder is entitled to bring the action, then the stake-holder deposits the funds with the clerk and could be dischargedfrom the action.78 During this first stage, the court will not con-sider the merits of each claim to the funds in the stakeholder’s pos-session.79 If interpleader is improper, the proceedings willdiscontinue and the court will not get to the second stage.80 In thesecond stage, the court considers the merits of who is entitled tothe funds.81 This Note is concerned with the first phase of the in-terpleader proceeding that focuses on the stakeholder’s right to in-terplead the claimants.

The primary test for determining the appropriateness of an in-terpleader action is whether the stakeholder fears that the fund inhis or her possession will bring about the vexation of litigatingmore than once and paying twice.82 Interpleader is inappropriatewhen the claims that will cause vexation to the stakeholder arespeculative.83 Nevertheless, the stakeholder’s vexatious claims or

75 For general information on Interpleader, see Geoffrey C. Hazard Jr. and Myron Mosko-vitz, An Historical and Critical Analysis of Interpleader, 52 CAL. L. REV. 706 (1964).

76 Fid. Brokerage Servs., 192 F. Supp. 2d at 174–75 (“Whether statutory or under Rule 22,interpleader is designed to protect stakeholders from undue harassment in the face of multipleclaims against the same fund, and to relieve the stakeholder from assessing which claim amongmany has merit.”) (citing Washington Elec. Coop. v. Paterson, Walke & Pratt, P.C., 985 F.2d 677,679 (2d Cir. 1993)).

77 28 U.S.C. § 1335 (2012); Fed. R. Civ. P. 22.78 Fid. Brokerage Servs., 192 F. Supp. 2d at 178, 183.79 Id. at 178.80 Id.81 Id.82 Id.83 See, e.g., E. Cascade Women’s Grp., P.C. v. Tutthill, 216 F. Supp. 2d 1159, 1163 (D. Or.

2002) (“A theoretical concern is an insufficient basis for the use of interpleader.”) (citing NewYork Life Ins. Co. v. Lee, 232 F.2d 811, 813–814 (9th Cir. 1956)); Pine Run Properties, Inc. v.Pine Run Ltd., No. 90 CIV. 6289 (PKL), 1991 WL 280719, at *10 (S.D.N.Y. Dec. 26, 1991)(finding that plaintiffs gave only barest speculation and did not meet the threshold level of sub-stantiality that the property in their possession is subject to adverse claims).



threat of claims must be real, and the stakeholder must have a rea-sonable fear of liability to such claims.84

III. DISCUSSION

Whether it is appropriate for a broker-dealer to commence aninterpleader action in response to a restraining notice on the cus-tomer’s account can be determined by analyzing, first, the argu-ments that interpleader relief is appropriate, and second, thearguments for compelling arbitration on an interpleader motion.

A. Broker-Dealers in favor of Interpleader Relief

1. Interpleader is Appropriate when the Dispute does not Arise“Between You and Us”

In Caro v. Fid. Brokerage Servs., the broker-dealer started aninterpleader action despite the existence of a pre-dispute arbitra-tion agreement.85 In Caro, the customer/petitioner had his own ac-count with Fidelity Brokerage Services (“Fidelity”), and hiscorporation had a separate account.86 Prior to the opening of hisaccount with Fidelity, a creditor had a money judgment enteredagainst the customer, but not against the customer’s corporation.87

Subsequently, Fidelity received a restraining notice from the judg-ment creditor on both the accounts of the customer and of the cor-poration.88 Fidelity made inaccessible the customer’s personalaccount and the corporation’s account.89 Fidelity then informedthe judgment creditor that it would lift the restraint on the corpora-tion’s account, as the corporation was not a judgment debtor, un-less it received a court order.90 In response, the creditorthreatened contempt proceedings if Fidelity did not put a restrainton the corporation’s account.91 But still, the customer wanted Fi-delity to lift the restraint.92 Fidelity then commenced an inter-

84 See Pine Run Properties, Inc., 1991 WL 280719, at *10.85 See Caro, 2014 WL 3907920.86 Id. at *1.87 Id.88 Id.89 Id.90 Id.91 See Caro, 2014 WL 3907920, at *2.92 Id.



pleader action.93 Interpleader relief was granted; however, shortlythereafter, the customer personally paid the debt owed to the judg-ment creditor.94 Consequently, the customer sought arbitrationfor, inter alia, Fidelity’s breach of the arbitration agreement.95 Anaward was entered in favor of Fidelity—this district court decisionwas made on cross-motions to vacate and confirm the arbitrationaward.96 Note, as it is difficult to vacate an arbitration award,97 theprocedural posture of this case should be considered as impactingthe outcome.

The customer argued, inter alia, that Fidelity breached the ar-bitration agreement when it brought an interpleader action in dis-trict court.98 Fidelity argued that the dispute at hand was notbetween petitioners and Fidelity, but between petitioners and an-other party outside the arbitration agreement.99 The district courtdenied the motion to vacate the arbitration award, holding that thisdispute was outside the scope of the arbitration provision becausethe contract on its face does not reference disputes involving thirdparties.100

The court relied on the following contractual language of theagreement: “[a]ll controversies that may arise between you and usconcerning any subject matter, issue or circumstance whatsoever. . . shall be determined by arbitration through [FINRA].”101 Thecourt only considered the four corners of Fidelity’s CustomerAgreement and found nothing to suggest that the arbitration provi-sion extended to disputes arising outside of Fidelity and its custom-ers.102 The court found the dispute over the funds was in factbetween the judgment creditor and the customer and did not in-volve Fidelity. Moreover, the arbitration agreement only appliedto disputes between Fidelity and its customers.103

93 Id.94 Id.95 Id. at *3.96 Caro, 2014 WL 3907920, at *1.97 GRANT, supra note 29, at 53. R98 Caro, 2014 WL 3907920, at *6.99 Id.

100 Id.101 Id.102 Id.103 Caro, 2014 WL 3907920 at *7.



i. The Insufficiency of Insurance Interpleader Case Law

Caro relied on Title v. Enron Corp., an insurance interpleadercase.104 In Title, the insurers were subject to an arbitration agree-ment; nevertheless, they sought interpleader relief from the courtto distribute the policy proceeds.105 The Fifth Circuit affirmed thedistrict court’s denial of the motion to compel arbitration and tostay the action pending arbitration; holding, the scope of the arbi-tration clause was limited in nature, and only applicable to disputesbetween the insurer and one or more insured.106 The court foundthat the dispute was amongst the insured themselves, and did notinvolve the insurers.107 The Fifth Circuit considered that when theinsurers tendered the policy proceeds to the district court, theywere no longer involved in the dispute, and remained neutral as tohow the funds should be distributed.108 The remaining dispute wasamongst the insured over how to distribute the policy proceeds,which the court concluded, is a dispute that is outside the scope ofthe arbitration clause.109

Insurance interpleader case law is insufficient when used toanalyze broker-dealer pre-dispute arbitration clauses on inter-pleader actions because broker-dealers are subject to FINRA’sCode of Arbitration.110 The standard pre-dispute arbitrationclause states that disputes “shall be determined by arbitrationthrough. . . (FINRA),”111 and, therefore, are subject to theFINRA’s Code of Arbitration. Moreover, insurance interpleadercase law does not consider: the language that must be included inpre-dispute arbitration clauses, the procedure by which arbitrationmust be enforced, and the requirement for broker-dealers to abideby these rules and procedures. FINRA broadly grants customersthe right to arbitrate any dispute with a broker-dealer regardingthe broker-dealer’s activities, with which the broker-dealer mustcomply.112 Because of this, the customer can arbitrate pursuant to

104 Id.; Title v. Enron Corp., 463 F.3d 410 (5th Cir. 2006).105 Title, 463 F.3d at 410, 414.106 Id. at 410107 Id. at 423.108 Id. at 423.109 Id.110 See FINRA RULE 0140, http://finra.complinet.com/en/display/display_main.html?rbid=24

03&element_id=5453, (last visited Mar. 8, 2016).111 FIDELITY ACCT., supra note 41. R112 See FINRA RULE 12200, supra note 1. R



an arbitration agreement or the customer can demandarbitration.113

Based on the analysis in Title, the court in Caro found that thecustomer had no claims or disputes against Fidelity only the judg-ment creditor, so the interpleader action was not in violation of theagreement to arbitrate.114 The customer’s argument in Caro wasweak because it did not explicitly locate the controversy regardingthe restraining notice within a customer-member dispute. Never-theless, the pre-dispute arbitration clause in Caro should be readbroadly, based on FINRA’s rules, to encompass restraining noticedisputes. The customer could have compelled arbitration by show-ing that there was a disagreement between the customer and Fidel-ity regarding Fidelity’s actions on its account. However, thedispute over whether or not Fidelity should continue or cease activ-ity on the account is a dispute that directly relates to the businessactivities of Fidelity. Therefore, insurance disputes should notweigh too heavily in the decision to compel arbitration; rathermore consideration should have been given to FINRA’s rules.

2. Interpleader is Appropriate when the Stakeholder FearsVexation from Multiple Claims

Some broker-dealers who use interpleader relief argue that in-terpleader is appropriate if there is a reasonable fear of vexationfrom multiple claims. For instance, in Citigroup Glob. Markets,Inc. v. KLCC Investments, LLC, the court stated that the stake-holder’s reasonable fear of multiple liability to the same fund,rather than actual multiple liability, is enough to sustain an inter-pleader action.115 In Prudential Inv. Mgmt. Servs. LLC v. Forde,the court agreed with the stakeholder that the focus of the inter-pleader action is whether or not there are potential competingclaims, and not on whether the competing claimants can actuallyrecover the assets in dispute.116

In Fid. Brokerage Servs., LLC v. Bank of China, Fidelity Bro-kerage Services (“Fidelity”) brought an interpleader action for thecourt to resolve adverse claims to the funds in brokerage accountsthat were restrained pursuant to an Order of Attachment (“Or-

113 Id.114 Caro, 2014 WL 390792, at *7.115 Citigroup Glob. Markets, Inc. v. KLCC Investments, LLC, No. 06 CIV. 5466 (LBS), 2007

WL 102128, at *6 (S.D.N.Y. Jan. 11, 2007).116 Prudential Inv. Mgmt. Servs. LLC v. Forde, No. 12 CIV. 5168 LAP, 2013 WL 3199098, at

*2 (S.D.N.Y. June 25, 2013).



der”).117 Defendants, customers of Fidelity, brought counter-claims, alleging bad faith and wrongful attachment.118 Fidelitymoved for dismissal of the counterclaims and to be dischargedfrom the action.119 The court converted the motion to dismiss intoa motion for summary judgment, and granted Fidelity’s motion.120

The district court found that Fidelity “faced a ‘real and reasonablefear of double liability or vexatious, conflicting claims’ arising outof its restraint of assets pursuant to the Order.”121 The court foundno evidence of bad faith conduct.122 The court did not construeadherence to the Order and commencement of the interpleader ac-tion as acting in bad faith.123 The allegation of acting in bad faith inenforcing the Order failed as a matter of law because “[a] bankserved with a restraining notice . . . has no discretion in decidingwhether to honor the notice and may be held liable for damages toa judgment creditor . . . for not complying with the notice.”124 Fi-delity was “legally required to comply with the Order and had nodiscretion in “determining to dishonor the objections of . . . defend-ants and in determining to honor” this Court’s mandate.”125 Thecourt did not find evidence that Fidelity acted in bad faith by at-taching assets beyond the scope of the Order. Fidelity’s belief thatthe assets were subject to the Order “was reasonable, even if mis-taken as a matter of law.”126

B. The Fear of Vexation from Multiple Claims is Unreasonable

The fear of these broker-dealers is unreasonable; after thebroker-dealers receive the restraining notice, the consequence ofdoing nothing127 on the customer’s account will not be multiple lia-bility and vexatious litigation. Under the C.P.L.R., the restraining

117 Fid. Brokerage Servs., LLC v. Bank of China, 192 F. Supp. 2d 173, 174–75 (S.D.N.Y.2002).

118 Id.119 Id.120 Id.121 Id. at 178.122 Fid. Brokerage Servs., LLC, 192 F. Supp. at 179.123 Id. at 180.124 Id.125 Id. at 181.126 Id.127 This Note uses the phrase “doing nothing” to mean that the broker-dealer ceases all activ-

ity on the customer’s account and does not transfer the funds. See Carlson, supra note 50, at R1499–500.



notice simply requires that the broker-dealer do nothing; that is,the broker-dealer should not “make or suffer any sale, assignmentor transfer of, or any interference” with the funds in the customer’saccount.128 Therefore, bringing an interpleader action isunjustified.

1. The Consequences of Doing Nothing in Caro

Even without assessing the merits of the customer’s claim andthe judgment creditor’s claim, the nature of restraining notices issuch that Fidelity faced speculative exposure to liability. The re-straining notice required Fidelity to do nothing.129 The conse-quence of doing nothing is that when the restraining notice expiresafter one year, the judgment creditor might levy the account.130

The sheriff would then serve a writ of execution on Fidelity totransfer the funds in the account to the sheriff.131 After the ac-count is levied, if Fidelity still does nothing for ninety days, therewill be a turnover proceeding brought by the judgment creditor.132

The customer would then intervene to stop the judgment creditor,and argue that the corporate veil should not be pierced.133 A re-straining notice being extended due to a turnover proceeding isspeculative; therefore, Fidelity faced minor liability if it had donenothing. The restraining notice only required Fidelity not to takeany action.134 The purpose of this is to keep the status quo.135

However, Fidelity did not maintain the status quo. Therefore, Fi-delity seeking an interpleader was inappropriate because it wasfiled under speculation136 that the restraining notice would haveled to multiple litigations.

2. The Consequences of Doing Nothing in Bank of China

The same analysis for a restraining notice applies to an Orderof Attachment under N.Y. C.P.L.R. 6214(b) since “[t]he levy underan order of attachment is, basically, nothing but a combined turno-ver order and a restraining order.”137 The levy by service of an

128 N.Y. C.P.L.R. 5222(b) (McKinney 2014).129 See supra Part II.D.1.130 See supra Part II.D.1.131 See supra Part II.D.1.132 N.Y. C.P.L.R. 5232(a) (McKinney 2014).133 N.Y. C.P.L.R. 5225(b) (McKinney 2014).134 See Carlson, supra note 50, at 1499–500. R135 Id.136 See Pine Run Properties, Inc., 1991 WL 280719, at *10.137 See Carlson, supra note 50, at 1501. R



Order of Attachment expires after ninety days, and beyond theninety days, the judgment creditor must bring turnover proceed-ings against Fidelity.138 The customers could have intervened topresent evidence why the Order should not be extended.139 More-over, the consequence of doing nothing is a turnover proceeding, inwhich case, the customers and not Fidelity are defending againstextending the Order.140 Therefore, Fidelity’s fear of multipleclaims and vexatious litigation is speculative and thereforeunreasonable.

C. Compelling Arbitration on an Interpleader Action

1. The Inquiry on a Motion to Compel

The customer can bring a motion to compel arbitration if he orshe believes that the dispute is subject to arbitration.141 On a mo-tion to compel arbitration, courts use a two-step inquiry to deter-mine whether the parties agreed to arbitrate the dispute.142 Thefirst consideration is whether a valid agreement to arbitrate existsand whether the dispute falls within the scope of that arbitrationagreement.143 The second consideration is whether the claims arearbitrable because of a federal statute or policy.144 The contestedissue, for purposes of this Note, is whether the dispute falls withinthe scope of the arbitration agreement. Furthermore, courts applystate-law contract principles when granting a motion to compel ar-bitration.145 The federal policy favoring arbitration is given due re-

138 N.Y. C.P.L.R. 5232(a) (McKinney 2014).139 N.Y. C.P.L.R. 5225(b) (McKinney 2014).140 N.Y. C.P.L.R. 6214(b) (McKinney 2014).141 Under § 4 of the F.A.A., a party may petition any United States district court “for an

order directing that such arbitration proceed in the manner provided for in such agreement.” 9U.S.C. § 4 (2012). See also Dean Witter Reynolds, Inc. v. Byrd, 470 U.S. 213, 217 (1985) (“[T]heArbitration Act requires district courts to compel arbitration of pendent arbitrable claims whenone of the parties files a motion to compel, even where the result would be the possibly ineffi-cient maintenance of separate proceedings in different forums.”).

142 See Webb v. Investacorp, Inc., 89 F.3d 252, 258 (5th Cir. 1996) (citing Mitsubishi MotorsCorp. v. Soler Chrysler-Plymouth, Inc., 473 U.S. 614, 626, 105 S. Ct. 3346, 3353–54 (1985)). Seealso JPMorgan Chase Bank, N.A. v. Oklahoma Oncology & Hematology, P.C., No. CIV.A.H 060645, 2007 WL 646372, at *3 (S.D. Tex. Feb. 26, 2007).

143 Id.144 Id.145 See Webb, 89 F.3d at 258 (citing First Options of Chicago, Inc. v. Kaplan, 514 U.S. 938,

944, 115 S. Ct. 1920, 1924 (1995)); see also Perry v. Thomas, 482 U.S. 483, 492–93, 107 S. Ct. 2520,2526–28 (1987).



gard when applying state law, and ambiguities in the scope ofarbitration should be resolved in favor of arbitration.146 Moreover,if the dispute is within the scope of the arbitration agreement, theninterpleader is inappropriate, and the court will compel arbitrationof that claim.

i. Reading the Pre-Dispute Arbitration Clause broadly todetermine the Scope of the Arbitration Agreement

In JPMorgan Chase Bank v. Oklahoma Oncology & Hematol-ogy, P.C., JPMorgan Chase Bank (“JPMorgan”) brought an inter-pleader action to resolve competing claims to the funds in anaccount within its possession.147 The defendants had an arbitrationagreement amongst themselves, and when a contractual disputearose, they sought arbitration.148 Despite the ongoing arbitration,one of the defendants continued to access funds in the JPMorganaccount, so another defendant responded by contacting JPMorganto challenge the access to the funds in the account.149 JPMorganplaced a hold on withdrawals on the account and continued accessfor depositing funds.150 When JPMorgan’s hold on the account waschallenged, it sought interpleader relief and deposited the funds inthe court.151 The defendants brought a motion to compel arbitra-tion.152 On the defendant’s motion to compel arbitration, the courtanalyzed whether the parties agreed to arbitrate the dispute andwhether the dispute fell within the scope of the agreement.153 Thecourt found the arbitration clause to be a valid agreement to arbi-trate.154 In order to determine whether the dispute fell within thescope of the agreement to arbitrate, the court sought to character-ize the arbitration clause as broad or narrow:

Broad arbitration clauses . . . embrace all disputes between theparties having a significant relationship to the contract, regard-less of the label attached to the dispute . . . . Narrow arbitrationclauses require arbitration only of disputes “arising out of” the

146 See Webb, 89 F.3d at 258 (citing Volt Info. Sciences, Inc. v. Board of Trustees of LelandStanford Jr. Univ., 489 U.S. 468, 475–76, 109 S. Ct. 1248, 1253–54 (1989)).

147 JPMorgan Chase Bank, 2007 WL 646372, at *1–2.148 Id. at *1.149 Id. at *2.150 Id.151 Id.152 Id. at *1.153 JPMorgan Chase Bank, 2007 WL 646372, at *1.154 Id. at *4.



contract, while broad clauses are those that cover all disputesthat “relate to” or “are connected with” the contract.155

The court concluded that the scope of the arbitration clause con-tained in the defendants’ Management Services Agreement isbroad, because it read, “any controversy, dispute, or disagreementarising out of or relating to this [MSA] or the breach of this[MSA].”156 The parties were in dispute over conduct that was cov-ered under the broad language of “arose out of and related to;”therefore, the court compelled arbitration.157

Under JPMorgan Chase Bank, if there is a valid arbitrationagreement and the dispute is within the scope of the arbitrationclause, arbitration should be compelled and interpleader is inap-propriate. The emphasis of the court’s analysis is that the partieswere in dispute over an issue subject to an arbitration agreement.

Similar to JPMorgan Chase Bank, the standard pre-dispute ar-bitration clause should be categorized as broad, because it does notlimit disputes to those arising out of the contract, but covers alldisputes between the broker-dealer and the customer in connec-tion with the contract. The standard pre-dispute arbitration clausereads in part “[a]ll controversies that may arise between you and usconcerning any subject matter, issue or circumstance whatso-ever.”158 Therefore, the contractual language should be readbroadly to cover all customer-member disputes relating to businessactivities of the broker-dealer.159

D. The Recalcitrant Broker-Dealer should beCompelled to Arbitrate

Disputes concerning restraining notices on a customer’s ac-count are improperly framed as occurring between the customerand a third-party.160 By framing the dispute in such a manner, bro-ker-dealers subvert the arbitration process. The analysis for com-pelling arbitration is also deficient because it does not take into

155 JPMorgan Chase Bank, 2007 WL 646372, at *5 (quoting Pennzoil Exploration & Produc-tion Co. v. Ramco Energy Ltd., 139 F.3d 1061, 1067 (5th Cir. 1998)). See also Prima Paint Corp.v. Flood & Conklin Mfg. Co., 388 U.S. 395, 398 (1967) (stating that “any controversy or claimarising out of or relating to this Agreement” is a broad arbitration clause).

156 JPMorgan Chase Bank, 2007 WL 646372, at *5.157 Id. at *7.158 FIDELITY ACCT., supra note 41. R159 See FINRA RULE 12200, supra note 1. R160 See supra Part III.A.1.



account FINRA’s Code of Arbitration.161 The recalcitrant broker-dealer should be compelled to arbitrate an interpleader actionwhen there is a pre-dispute arbitration clause or when the cus-tomer demands arbitration.

The arbitrability162 of restraining notice disputes should berecognized because: (a) the pre-dispute arbitration clause is a validarbitration agreement; (b) any customer dispute regarding the bro-ker-dealer’s actions on his account is a dispute within the scope ofthe arbitration clause; and (c) the customer has the right to de-mand arbitration. On recognizing restraining notice disputes as ar-bitrable,163 courts should compel arbitration on interpleaderactions brought by recalcitrant broker-dealers.

1. The Arbitration Agreement is Valid

The first prong of a court’s analysis is to determine whetherthere is a valid arbitration agreement.164 When there is a valid pre-dispute arbitration clause, the parties are bound to arbitrate thedispute between them.165 FINRA’s requirement for language thatshould precede the pre-dispute arbitration clause lends credence tothe argument that it is a valid agreement.166 Under FINRA Rule2268(a), the following language is required to precede a pre-dis-pute arbitration clause:

This agreement contains a predispute arbitration clause. Bysigning an arbitration agreement the parties agree as follows: (1)All parties to this agreement are giving up the right to sue eachother in court, including the right to a trial by jury, except asprovided by the rules of the arbitration forum in which a claim isfiled.167

As discussed previously in Part II, a pre-dispute arbitration clauseis ordinarily enforceable.168 Moreover, if there is a valid agreement

161 See supra Part III.A.1.i.162 Arbitrability can be defined as “the status, under applicable law, of a dispute’s being or

not being resolvable by arbitrators because of the subject matter.” Arbitrability, BLACK’S LAW

DICTIONARY 124 (10th ed. 2014).163 A claim is arbitrable if it is “subject to or suitable for arbitration.” Arbitrable, BLACK’S

LAW DICTIONARY 124 (10th ed. 2014).164 See JPMorgan Chase Bank, 2007 WL 646372.165 See supra Part II.C.166 FINRA RULE 2268, http://finra.complinet.com/en/display/display.html?rbid=2403&ele

ment_id=9955 (last visited Sept. 30, 2015).167 Id.168 See supra Part II.C.



in place, the broker-dealer is bound to follow it, and arbitrationshould be compelled.

2. The Dispute falls within the Scope of the Agreement

The second prong of the court’s analysis on a motion to com-pel arbitration is whether the dispute falls within the scope of thevalid arbitration agreement.169 The pre-dispute arbitration clauseshould be interpreted broadly under FINRA’s rules and Code ofArbitration, instead of being interpreted under insurance inter-pleader case analysis. Customer-member disputes are differentfrom disputes in the insurance industry. In the former, all arbitra-tion agreements with FINRA member firms are subject toFINRA’s Code of Arbitration. The language of the standard pre-dispute arbitration clause states that “[a]ll controversies that mayarise between you and us concerning any subject matter . . . shallbe determined by arbitration through . . . (FINRA).”170 Further-more, any controversy regarding restraining the customer’s ac-count is a customer-member dispute relating to the businessactivities of the members. The restraining notice dispute overwhether or not the broker-dealer should continue or cease activityon the account directly relates to his or her business activities.Therefore, arbitration should be compelled to resolve thesedisputes.

3. Customer Requests Arbitration

Customers have the authority to request arbitration without awritten agreement.171 Under FINRA Rule § 12200, parties mustarbitrate if the customer requests arbitration.172 Moreover, theFINRA Code of Arbitration requires broker-dealers to submitclaims to arbitration even if they have not signed a formal arbitra-tion agreement.173 Additionally, under FINRA Rule 2268(e), amember can compel arbitration of the customer’s claims that aresubject to arbitration:

[i]f a customer files a complaint in court against a member thatcontains claims that are subject to arbitration pursuant to apredispute arbitration agreement between the member and thecustomer, the member may seek to compel arbitration of the

169 JPMorgan Chase Bank, 2007 WL 646372.170 THE FIDELITY ACCOUNT, supra note 41. R171 See FINRA RULE 12200, supra note 1. R172 Id.173 Id.



claims that are subject to arbitration. If the member seeks tocompel arbitration of such claims, the member must agree toarbitrate all of the claims contained in the complaint if the cus-tomer so requests.174

It follows that a customer can compel arbitration for customer-member disputes arising in connection with the business activitiesof the member, and the member must agree to arbitrate all theclaims. As a member of FINRA, broker-dealers are aware thatthey must comply when a customer demands arbitration of a dis-pute that arises in connection with their business activities.175

IV. PROPOSAL

A. Mandatory Arbitration of Customer-MemberRestraining Notice Disputes

There should no longer be a grey area where broker-dealersmay or may not seek interpleader relief despite the existence of apre-dispute arbitration clause. Broker-dealers must be required touse arbitration to resolve restraining notice disputes with their cus-tomers. The best way to get recalcitrant broker-dealers to submitto arbitration is to add new language to the pre-dispute arbitrationclause. Therefore, customers should negotiate the language in thepre-dispute arbitration clause to require mandatory176 arbitrationfor disputes, such as restraining notice disputes, before inter-pleader relief can be obtained.

1. The Grey Area of Standard Pre-Dispute Arbitration Clauses

The parties agreed in the pre-dispute arbitration clause to ar-bitrate specific disputes.177 The current practice of recalcitrant bro-ker-dealers is to bypass the pre-dispute arbitration clause and toseek interpleader relief.178 Additionally, broker-dealers might notcomply with their customers’ demand to arbitrate the restraining

174 Id.175 Id. See also FINRA RULE 0140, supra note 38. R176 Mandatory arbitration is “arbitration required by law or a contractual agreement. [Also],

arbitration required by a predispute arbitration clause included in a contract of adhesion.”Mandatory Arbitration, BLACK’S LAW DICTIONARY 126 (10th ed. 2014).

177 See supra Part II.C.3.178 See supra Part III.A.



notice disputes.179 These behaviors by broker-dealers occupy agrey area where arguments could be made for and againstmandatory arbitration.180 Customers who do not wish to be joinedin an interpleader action and prefer arbitration will have to specifythis interest in the pre-dispute arbitration clause.

2. Customers Should Assume a New Role to Create Certainty

Negotiation can be integral to the arbitration process.181 Cus-tomers and broker-dealers are able to structure their arbitrationagreement, within the confines of FINRA’s Code of arbitration,“as they see fit.”182 The language of the arbitration agreementshould be negotiated during the contract formation process.183

When the parties are negotiating the terms of the overall CustomerAgreement, the customer should bargain for mandatory arbitrationover interpleader relief. Moreover, customers should assume anew role in the contract formation process; that is, they should ac-tively negotiate their pre-dispute arbitration clause as they wouldother provisions in the Customer Agreement.

3. Customers Negotiating the Terms of the Pre-DisputeArbitration Clause

i. Negotiating during Contract Formation

There are different negotiating styles and tactics,184 and thefocus of this Note is not on using one specific approach. Instead,the emphasis is on the use of negotiation during contract forma-tion, and using negotiation to aid the arbitration process that willfollow. Moreover, the strategy the customer chooses should openthe broker-dealer to negotiating before the contract is formed.

179 See supra Part III.A.1180 See supra Part III.A.181 See supra Part III.C.182 The FAA allows parties to structure their arbitration agreement. See Volt Info. Scis., Inc.

v. Bd. of Trustees of Leland Stanford Junior Univ., 489 U.S. 468, 479 (1989) (“But it does notfollow that the FAA prevents the enforcement of agreements to arbitrate under different rulesthan those set forth in the Act itself. Indeed, such a result would be quite inimical to the FAA’sprimary purpose of ensuring that private agreements to arbitrate are enforced according to theirterms. Arbitration under the Act is a matter of consent, not coercion, and parties are generallyfree to structure their arbitration agreements as they see fit. Just as they may limit by contractthe issues which they will arbitrate . . . so too may they specify by contract the rules under whichthat arbitration will be conducted.”).

183 Id.184 See Norton, supra note 45. See also FISHER, supra note 45. R



As previously mentioned, investors who open an account witha broker-dealer or brokerage firm will typically receive a CustomerAgreement containing a standard or boilerplate pre-dispute arbi-tration clause.185 The moment for negotiation can occur eitherwhen negotiating the terms of the entire Customer Agreement,before signing a standard agreement, or when revising the old Cus-tomer Agreement. There are no rules or procedures for negotia-tion,186 so customers could initiate the bargaining process when it ismost optimal.

The principled negotiation approach is useful because it fo-cuses on finding options for mutual gain.187 In order to achievemutual gains, customers have to identify shared interests with theirbroker-dealers.188 One shared interest is avoiding risk during re-straining notice disputes.189 For instance, neither the broker-dealernor the customer wants to improperly restrain the customer’s ac-count.190 Customers should stress this shared interest when negoti-ating.191 On the other hand, even though broker-dealers andcustomers have differing interests, customers can exploit this for abargain advantageous to both sides.192 One advantageous bargainthat arises from exploiting differing interests is to make arbitrationmandatory and only allow interpleader if the arbitrator deems itnecessary. Therefore, the principled negotiation approach demon-strates that broker-dealers and their customers could brainstormlanguage that benefits both sides.193

ii. The Language of the Agreement

Customers should negotiate a clause that states that broker-dealers cannot bring interpleader actions until the arbitrator orpanel of arbitrators first resolves the dispute.194 The specific lan-

185 See Macey & Novogrod, supra note 18, at 964–70. R186 See supra Part II.C.4.187 See FISHER, supra note 45, at 70–80. R188 Id.189 See FISHER, supra note 45, at 71–73. R190 See supra Part III.A.1.191 Id.192 See FISHER, supra note 45, at 74–75. R193 See FISHER, supra note 45, at 60–70. R194 This language is fashioned from “Scott v. Avery clauses” in English Law. Scott v. Avery

[1856] 5 HL Cas 811 (Eng.), [1843–1860] All E.R. Rep. 1 HL (Eng.). The Scott v. Avery Clauseallows for mandatory arbitration, but is distinguished because it makes arbitrating the dispute acondition precedent to the right of action that the parties arbitrated the dispute. See AndrewTweeddale and Keren Tweeddale, Scott v Avery Clauses: O’er Judges’ Fingers, Who StraightDream on Fees, SWEET & MAXWELL, http://corbett.co.uk/wpcontent/uploads/Arbitration-article-



guage that customers should use in the pre-dispute arbitrationclause should be negotiated. Most broker-dealers are arbitrating inFINRA’s arbitration forum;195 consequently the specific languageshould follow FINRA’s requirements for pre-dispute arbitrationclauses.196 Nevertheless, the substance and tone of the terms usedshould indicate that arbitration is mandatory.

If this is implemented, parties will first be required to seekarbitration for resolution of the issues. When resolving the issuesbetween the customer and the broker-dealer, the arbitrator(s) willthen decide whether court proceedings outside of the arbitrationforum are necessary. Moreover, as a result of this sequential struc-tural arrangement, the arbitrator(s) hear(s) the restraining noticedispute and issue(s) an award197 that includes a decision onwhether or not interpleader relief is necessary. Interpleader relief,which falls within the grey area, would then be made subject tomandatory arbitration.

For internal consistency, the mandatory language that ex-cludes interpleader until an arbitration award is sought will applyonly to those disputes within the scope of the arbitration agree-ment. The added language is only a replacement of the impliedrequirement for arbitration in existing pre-dispute arbitrationclauses. The customer and the broker-dealer did not agree to arbi-trate every kind of dispute; similarly, the exclusion of interpleadershould only be for those disputes covered by the entire clause. Anexample of an arbitrable dispute is a claim between the customerand member arising in connection with the business activities ofthe member.198 As argued previously, restraining notice disputesare arbitrable disputes.199 Moreover, the language added is an ex-press requirement that arbitrable disputes, such as restraining no-tice disputes, be subject to mandatory arbitration beforeinterpleader relief is sought.

Scott-v-Avery.pdf (last visited Mar. 9, 2016). The clause is used by in the commodities contractsof the Grain and Feed Trade Association (GAFTA) and the Federation of Oilseeds and FatsAssociations (FOSFA). Id. However, this Note does not advocate adding broad or generalcondition precedents to arbitration clauses as doing so might prevent the parties from seekinginterim relief that could aid the arbitral process.

195 See supra Part II.C.196 See e.g., FINRA RULE 12200, supra note 1; FINRA RULE 0140, supra note 9; and FINRA R

RULE 2268, supra note 166. R197 An arbitration award is “a final decision by an arbitrator or panel of arbitrators.” Arbitra-

tion Award, BLACK’S LAW DICTIONARY 126 (10th ed. 2014).198 See FINRA RULE 12200, supra note 1. See also supra Part III.D. R199 See supra Part III.D.



B. The Benefits of Negotiating for Express Terms

Both customers and broker-dealers benefit from negotiatingexpress terms. The language proposed is fair to broker-dealers be-cause their liability is diminished with a binding award and theirright to interpleader is not completely eliminated. Additionally,customers benefit from this language because they have the oppor-tunity to resolve restraining notice disputes before their funds aredeposited in the court registry. Finally, this sequence of arbitratingfirst fixes the haphazard structure of commencing an interpleaderaction, fighting in court to compel arbitration, and—whether or notinterpleader is granted—arbitrating over the restraining noticedispute.200

If broker-dealers are still recalcitrant, an express term will alsoinfluence the analysis of the courts,201 because courts use contractlaw to analyze arbitration agreements.202 When a customer movesto compel arbitration, he or she will need to show that the disputeis arbitrable.203 Adding an express term in the pre-dispute arbitra-tion clause is a strong indicator that the dispute falls within thescope of the arbitration agreement.204 On the other hand, wheninterpleader is not expressly mentioned, courts might deem inter-pleader appropriate.205 Therefore, the benefit of adding new lan-guage in the pre-dispute arbitration clause is that it will be a strongindicator of arbitrability.

C. The Benefits of Negotiating for Mandatory Arbitration

Arbitration should be mandatory because it is the appropriateforum to resolve the interests of both customers and broker-deal-ers. The parties’ interests, inferred from the cases previously dis-cussed in Part II, are fully addressed through arbitration. Even thebroker-dealer’s unreasonable fear can be mitigated througharbitration.

200 See supra Part III.A.1.201 See supra Part III.A.1.202 Arbitration agreements are considered equal to all other contracts. Dean Witter Reyn-

olds, Inc. v. Byrd, 470 U.S. 213, 219, 105 S. Ct. 1238, 1242, 84 L. Ed. 2d 158 (1985) (“The HouseReport accompanying the [FAA] makes clear that its purpose was to place an arbitration agree-ment ‘upon the same footing as other contracts, where it belongs . . .’”).

203 See supra Part III.C.204 See supra Part III.D.205 See supra Part III.A.1.



1. The Customer’s Interest

Customers do not want their broker-dealers to improperly re-strain the wrong accounts.206 The customer who challenges thejudgment creditor’s claim to his or her account might not want torisk having the funds in their account be given to someone else.207

Customers might not want mandatory arbitration. Mandatoryarbitration is often attacked because “the modern paradigm ofmandatory securities arbitration creates a paramount need for fair-ness.”208 Although customers might be apprehensive thatmandatory arbitration is unfair,209 they ultimately do not want theiraccounts liquidated and deposited with the court registry.210

2. The Broker-dealer’s Interests

Broker-dealers might start an interpleader action because oftheir fear of vexation from multiple claims to the funds in the cus-tomer’s account.211 Liability and costs are most likely to be themain concerns for broker-dealers.212 In contrast to their custom-ers, broker-dealers draft the pre-dispute arbitration clauses, andaccept mandatory arbitration as the method the securities industryuses to resolve disputes.213 Finally, broker-dealers are interested inpreserving the relationship with their customers.214 The broker-dealers’ concern could be that a bad relationship with a customerwill affect their business and reputation with other investors.

3. Arbitration Mutually Benefits both Parties

The interest of the broker-dealer and the customer can be ac-commodated through requiring mandatory arbitration before bro-ker-dealers can seek interpleader relief. First, mandatory securitiesarbitration is often regarded as unfair to customers, because theyhave arbitration agreements imposed on them when they open

206 See supra Part III.A.1.207 See supra Part III.A.1.208 See Jill I. Gross, Mcmahon Turns Twenty: The Regulation of Fairness in Securities Arbitra-

tion, 76 U. CIN. L. REV. 493, 499 (2008). See also Jill I. Gross & Barbara Black, When PerceptionChanges Reality: An Empirical Study of Investors’ Views of the Fairness of Securities Arbitration,2008 J. DISP. RESOL. 349, 350 (2008).

209 See Michael S. Barr, Mandatory Arbitration in Consumer Finance and Investor Contracts,11 N.Y.U. J. L. & BUS. 793, 805–06 (2015).

210 See supra Part III.A.1.211 See supra Part III.B.212 See supra Part III.B.213 See supra Part II.C.3.214 GRANT, supra note 29, at 13. R



their accounts.215 However, this Note now highlights how custom-ers could use mandatory arbitration to their own advantage and toprotect themselves against the detriment of having the funds intheir account liquidated and interpleaded. Customers will have theopportunity to resolve issues, such as what accounts are subject tothe restraining notice and how the broker-dealer should complywith the restraining notice. Arbitration will also allow the cus-tomer to keep the broker-dealer accountable for the cessation orcontinuance of activities on his or her account.

Simultaneously, arbitration can further alleviate the broker-dealer’s fear of liability. In that arbitration awards are final andbinding, an award will remove the broker-dealer from further lia-bility to the customer.216 In contrast, on an interpleader action, thebroker-dealer might still be subject to the counterclaims of the cus-tomer for negligence, tortious interference with contract, breach ofcontract, conversion, etc.217

Finally, a provision for mandatory arbitration before partiescould seek interpleader will most likely preserve the relationshipbetween the customer and the broker-dealer. The situation is lesshostile because the customer is not forced to join in a court pro-ceeding. Additionally, negotiation of the terms of the pre-disputearbitration agreement reduces the conflict at this stage, because thecustomers retained control over how the dispute would beresolved.

V. CONCLUSION

Customers, who are usually apprehensive about arbitrationbecause of a perceived bias of procedural unfairness,218 will preferresolving their disputes through arbitration rather than through aninterpleader action. The integrity of the arbitration process is dam-aged when broker-dealers do not adhere to the request of theircustomers to arbitrate. For the arbitration process to be perceivedas fair to customers, broker-dealers should not be allowed to opt-inand opt-out of arbitration when it is solely beneficial to them.

215 See Goss, supra note 208. See also Gross & Black, supra note 208. R216 See GRANT, supra note 29, at 53. R217 See, e.g., Citigroup Glob. Markets, Inc. v. KLCC Investments, LLC, No. 06 CIV. 5466

(LBS), 2007 WL 102128, at *8 (S.D.N.Y. Jan. 11, 2007) (finding interpleader appropriate, but notdismissing the stakeholder from the action).

218 See Barr, supra note 209. R



An express provision for mandatory arbitration of disputes toseek interpleader relief will be a mutual win for both customersand broker-dealers. Therefore, customers should negotiate withtheir broker-dealers as to the terms of the arbitration clause fortheir mutual benefit and advantage. Customers are rarely seen in aposition of control during the formation of the arbitration clause;however, through mandatory arbitration, they should assume thisrole.

reining in recalcitrant broker- dealers: customers ... › wp-content › uploads › 2016 › 11...

Documents