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May 20, 2016

Via electronic mail (david.mattax@tdi.state.tx.us) & First-Class mail (USPS)
Commissioner David Mattax
Texas Department of Insurance
P.O. Box 149104
Austin, TX 78714-9104
Re:

Prohibition of pre-dispute mandatory binding arbitration clauses in residential

insurance contracts

Dear Commissioner Mattax:

Texas Watch is a statewide, non-partisan, non-profit consumer research and advocacy
organization representing over 20,000 people. As you know, a large portion of our work concerns
the protection of policyholders. It has come to our attention that at least one homeowners carrier
has filed a form with the Texas Department of Insurance (TDI) seeking the inclusion of a
mandatory binding pre-dispute arbitration clause in their policy by way of endorsement. This is an
alarming development for families all across this state. Approval of such an endorsement would
inevitably lead to a race to the bottom, stripping millions of people of their constitutional right to
trial by jury, the most important consumer protection available to them.
We write to respectfully request that you follow the long-standing policy of TDI and continue to
prohibit the inclusion of mandatory binding pre-dispute arbitration clauses in residential insurance
contracts. TDIs policy review guidelines wisely reflect this policy.1 Previous commissioners,
through many administrations, have resisted the pressure of industry, understanding that
mandatory binding pre-dispute arbitration clauses have no place in personal lines policies. They
have protected consumers in this way. We ask that you receive the wisdom of your predecessors
and do the same.
As set out more fully below, nine other states, primarily in the South and West, have already taken
action to eliminate arbitration in insurance contracts. Moreover, Texas courts have already
underscored the states authority to regulate the use of arbitration by insurance carriers.
Insurance consumers, and especially personal lines policyholders, occupy a uniquely vulnerable
position. Presented with non-negotiable, take-it-or-leave-it contracts of adhesion written in
1

See Review Requirements Checklist Residential Property, TDI,

http://www.tdi.texas.gov/commercial/pcckhome.html.

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opaque legalese, forced to part with their dollars up front in exchange for a promise of
performance in the future should a peril occur, and required to purchase insurance products, they
have no leverage over or bargaining power with their insurance carrier for at least two reasons.
First, the coverage they must purchase is much more of a necessity than a commodity, as they
effectively cannot choose to go without. In the case of personal automobile coverage, our laws
require insurance in recognition of the need for financial responsibility while navigating our shared
roadways. Lending practices require that the homeowner maintain residential property insurance
in order to protect the banks collateral. As such, normal market forces are skewed in the personal
lines because the demand curve is basically set for these products. Because industry actors do not
face the prospect of a reduction in demand for their products, and the attendant pressures that
falling demand would bring to improve both goods and services, the need for close oversight of
the industry is heightened.
Second, even if policyholders are presented with a so-called optional endorsement, they did not
write a single word of that clause. If policyholders are enticed to accept the endorsement in
exchange for a discount, they have not bargained or negotiated in any real sense. Consider how
often insurers petition you for a rate reduction. Faced with habitually-high premiums across the
board in this state, Texans are making these so-called choices under duress. Having seen their
coverage drastically scaled back through rising deductibles and the move to national forms over
the last decade and a half, Texas families have no real choice at all. Their options consist of bad
and worst. As we have discussed, they often stay with the devil they know or shop on price alone
out of desperation, which can lead to disastrous consequences. This is why TDI, and the
commissioner specifically, must protect policyholders from sharp dealing and industry abuse.
To put it bluntly, industry holds the cards. Coupling industrys power with arbitration would mean
that they hold the entire deck. Indeed, the New York Times has recently and deeply reported
on how this private process amounts to stacking the deck of justice against consumers.2 We
would encourage you to read this series in its entirety.
The last and most direct line of defense that policyholders possess against abuse by the insurance
industry are the rights and remedies provided by Texas common and statutory law, including
Chapters 541 and 542 of the Texas Insurance Code. These carefully-considered and long-standing
statutes protect policyholders from unfair insurance practices and deliberate delays in the
payment of legitimate claims. For policyholders who have been beset by rising premiums and
shrinking coverage, the last thing these consumers need is for industry to eviscerate their
remaining legal protections through the imposition of pre-dispute mandatory binding arbitration
clauses. If you allowed industry to do so through the approval of an arbitration clause, you would
2

See Arbitration Everywhere, Stacking the Deck of Justice, Jessica Silver-Greenberg and Robert Gebeloff, New York
Times, 10/31/15, http://www.nytimes.com/2015/11/01/business/dealbook/arbitration-everywhere-stacking-thedeck-of-justice.html?_r=1; see also In Arbitration, a Privatization of the Justice System, Jessica Silver-Greenberg
and Michael Corkery, New York Times, 11/1/15, http://www.nytimes.com/2015/11/02/business/dealbook/inarbitration-a-privatization-of-the-justice-system.html?version=meter+at+1&module=meterLinks&pgtype=article&contentId=&mediaId=&referrer=&priority=true&action=click&contentCollection=meter-linksclick.

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both imperil consumers and violate the will of the Legislature, which has been expressed through
the passage and maintenance of these important statutes.
To approve arbitration, in any form, through any mechanism, within personal lines policies would
be unconscionable and would violate public policy, which, as we would hope you would agree, is
most appropriately set by the Texas Legislature and not the executive branch. A recent example of
the Legislature setting public policy in the area of personal lines policies is the passage of SB 1567
in 2013,3 concerning limitations on the use of named-driver automobile policies. The Legislature
has given direction that it wants more not fewer protections for consumers in the insurance
marketplace. It spoke again and loudly last session with the sound rejection of SB 1628, which
would have eviscerated policyholders legal rights.4 The public policy of this state is clear:
insurance consumers are to be protected when it comes to coverage and their procedural and
substantive legal rights.
To the extent that you are authorized to consider public policy on coverage matters, you are
allowed to do so in one instance the disapproval or withdrawal of forms, not the approval of new
forms or endorsements.5 Section 2301.007 of the Texas Insurance Code reads, in pertinent part,
The commissioner may disapprove a form or withdraw approval of a form if the form contains
a provision that is unjust or deceptive, encourages misrepresentation, or violates public policy.6
The Legislature further states that the purpose of this law is to regulate the insurance forms used
for lines of insurance to which this subchapter applies to ensure that the forms are not unjust,
unfair, inequitable, misleading, or deceptive (emphasis added).7 The Legislature has clearly
directed you to protect policyholders by disapproving forms that would hurt the public, not
approving forms that are written by and for the benefit of industry.
While arbitration may be a suitable forum if two sophisticated businesses of comparable
bargaining power voluntarily elect to settle their commercial disputes in this manner, it is wildly
inappropriate for resolving consumer disputes, especially those related to insurance where the
bargaining power is so asymmetrical.
As your predecessors have recognized, consumer arbitration especially in the insurance context
is unfair, inequitable, misleading, and deceptive. The problems with consumer arbitration,
which cause it to be so, are myriad and set forth below:

SB 1567, 83rd Legislature, Regular Session, effective 9/1/13,

http://www.capitol.state.tx.us/BillLookup/history.aspx?LegSess=83R&Bill=SB1567.
4
SB 1628, 84th Legislature, Regular Session,
http://www.capitol.state.tx.us/BillLookup/history.aspx?LegSess=84R&Bill=SB1628.
5
See TEX. INS. CODE 2301.007 (http://www.statutes.legis.state.tx.us/SOTWDocs/IN/htm/IN.2301.htm).
6
TEX. INS. CODE 2301.007 (a)(2).
7
TEX. INS. CODE 2301.001 (2).

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Repeat Player Effect

When one party or industry routinely engages arbitrators and another litigant does not, a
perverse dynamic can be created, known as the repeat player effect.8 Arbitrators are
often selected from a panel, often comprised of those who have been professionallyaligned with industry interests, and they know which party is buttering their bread when
they are selected time and again. If an arbitrator starts ruling too often against that side,
they will risk disfavor with that industry and will not enjoy selection to arbitrate future
cases. The arbitrators paycheck depends upon staying in the repeat players good graces.
At base, the industry and the arbitrator give one another preferential treatment, which is
to their mutual benefit but has nothing to do with justice.
This prejudice would undoubtedly arise in the insurance context. If pre-dispute mandatory
binding arbitration clauses were allowed given the volume of disputes arising from their
many customers insurers would routinely engage arbitrators while an individual
homeowner would be roped into selecting an arbitrator just once. It is not difficult to
imagine where the arbitrators allegiance would lie in short order. This is exacerbated even
more so if the insurer is paying the arbitrators fees. This species of selection bias
completely undermines our long-held values of impartial and independent justice and
should be resisted at every turn.

Process Defects: Cost & Limited Discovery

Consumer arbitration suffers from other process-oriented defects. Arbitration requires the
parties to essentially hire a private judge (or attorney), who typically has a high hourly rate,
meaning the fees incurred are often prohibitively expensive for many individuals.9
Discovery is often limited if not eliminated altogether in arbitration, making it difficult for
the aggrieved party to determine the full extent of the wrongdoing committed against it.10
As noted above, if industry pays the arbitrators fees, he who pays the fiddler calls the
tune. Contrast this with our courts, with which you are well acquainted professionally,
where each party is afforded the benefit of full discovery under well-established rules. Each
party likewise pays modest fees to access the system, with the larger costs borne by the
citizenry in support of a crucial and co-equal branch of a functioning government,
maintaining a civil, peaceful, orderly society in the process. Stated simply, we already have
a dispute resolution solution, for which we have all paid, free of these defects. It is called
our courts. Alternatives are not required for consumers.

See, e.g., What are the differences between a judge and a private arbitrator hearing a case? Arbitration Q&A,
Public Citizen, http://www.citizen.org/congress/article_redirect.cfm?ID=7490; The Arbitration Trap, Public Citizen,
September 2007, http://www.citizen.org/publications/publicationredirect.cfm?ID=7545; Lisa B. Bingham,
Employment Arbitration: The Repeat Player Effect, 1 Emp. Rts. & Emp. Poly J. 189 (1997) (finding employees recover a
lower percentage of their claims in repeat player cases as compared to non-repeat player cases); David S. Schwartz,
Enforcing Small Print to Protect Big Business: Employee and Consumer Rights Claims in an Age of Compelled
Arbitration, 1997 Wis. L. Rev. 33, 60, 61, http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1499953.
9
See Harry T. Edwards, Where Are We Headed With Mandatory Arbitration of Statutory Claims in Employment?, 16
Ga. St. U. L. Rev. 293, 306-307 (1999) (demonstrating how employment arbitration is neither efficient nor cost
effective), http://readingroom.law.gsu.edu/gsulr/vol16/iss2/2/.
10
See Mark E. Budnitz, Arbitration of Disputes Between Consumers and Financial Institutions: A Serious Threat to
Consumer Protection, 10 Ohio St. J. on Disp. Resol. 267, 283, 284 (1995).

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Consumer Confusion: Lack of Meaningful Consent

Consumers fundamentally do not understand arbitration and the effect it has on their
constitutional rights. In our experience, many confuse arbitration with mediation, which, as
you know, is a negotiation facilitated by a neutral third party that is non-binding unless the
parties reach a mutually-satisfactory agreement. Pre-dispute mandatory binding
arbitration is, of course, different in every meaningful respect, but the catch-all term
alternative dispute resolution, pushed by its proponents, can understandably create
confusion among a busy public concerned with pressing needs like finding work,
maintaining a roof over their heads, keeping food in their mouths, and providing an
education for their children.
Even when the public is stopped and made to read and consider a typical arbitration clause
carefully, the process is so far removed from their experience and their expectations of
justice that it precludes comprehension. Researchers at St. Johns School of Law recently
conducted an extensive empirical study of arbitration concerning the extent to which
consumers are aware of and understand the effect of arbitration clauses in consumer
contracts.11 Their findings demonstrate that meaningful consent is not given in the
consumer arbitration context. After being shown a typical consumer contract containing an
arbitration clause which was printed in bold with portions in italics and capital letters
and questioned about their own experiences with actual consumer contracts: 43% of
respondents recognized that the sample contract included an arbitration clause, 61% of
those believed that consumers would, nevertheless, have a right to have a court decide a
dispute too large for a small claims court. Less than 9% realized both that the contract had
an arbitration clause and that it would prevent consumers from proceeding in court. 12
Ultimately, of the more than 5,000 answers recorded to questions that offered right and
wrong answers, only a quarter were correct.13
The authors study involved a credit card contract. One can imagine how consumer
comprehension would drop even lower when endorsements are appended to insurance
contracts, which are so complicated and full of legalese that an entire subspecialty of
lawyers (i.e., coverage attorneys) are handsomely compensated to interpret them. Faced
with the results of this important study, we must understand that meaningful consumer
consent to an arbitration clause in the insurance context is a fiction.

Secrecy: Confidential & Unappealable

Arbitration typically takes place behind a veil of secrecy, where the parties are bound by
confidentiality agreements to keep facts about the dispute and the arbitrators decision
quiet. This defeats the public justice component of our judicial system, which enables

11

Sovern, Jeff and Greenberg, Elayne E. and Kirgis, Paul F. and Liu, Yuxiang, 'Whimsy Little Contracts' with Unexpected
Consequences: An Empirical Analysis of Consumer Understanding of Arbitration Agreements (February 19, 2015). 75
Maryland Law Review 1 (2015); St. John's Legal Studies Research Paper No. 14-0009. Available at SSRN:
http://ssrn.com/abstract=2516432 or http://dx.doi.org/10.2139/ssrn.2516432.
12
Id. at abstract.
13
Id.

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society to learn of dangers, allows market actors to make rational decisions, rewards safe
conduct, and deters corner-cutting that puts lives at risk. Public justice is integral to public
safety and insurance is integral to financial security and economic development, meaning
insurance arbitration would imperil not just individuals but entire communities.
At the end of the process, arbitrators have no obligation to the court to give their reasons
for an award,14 and consumers are severely limited in their ability to appeal an arbitrators
erroneous decision, requiring a showing of manifest disregard of the law, 15 which is a
hurdle that is often impossibly high to clear. When the law is not followed with fidelity, the
reality is that the less powerful party is most often made to suffer. Furthermore, through
secret proceedings, the common law withers on the vine, doing violence to the judiciary
and eroding the rules that we all agree to live by.
Transparency promotes honesty. Sunshine is the best disinfectant. And arbitration is
conducted in the dark.
While the Federal Arbitration Act (FAA)16 casts a long shadow over this area of the law, the
McCarran-Ferguson Act,17 which largely delegates regulation of the business of insurance to the
states, casts a longer shadow. Even in cases where interstate commerce is at issue, bringing the
FAA into play, state laws may restrict the arbitration of insurance-related disputes. Where there is
a state statute regulating the business of insurance that limits the enforceability of an arbitration
clause, a conflict is created between the state statute and the FAA, leading to reverse
preemption of the FAA, meaning the state law, not the FAA, determines whether or not the
arbitration provision may be enforced.18 The reflexive thought that the FAA automatically trumps
all does not hold in the insurance context. Given McCarran-Ferguson, states clearly have the
power to prevent the arbitration of insurance disputes.
Texas has its own statute pertaining to arbitration,19 and the First Court of Appeals in Houston
found in Stewart Title Guar. Co. v. Mack20 that a dispute over a title insurance policy was not
arbitrable under the Texas Arbitration Act because it was fundamentally a contract for personal
property, the consideration paid was under $50,000 (a premium of $1,670), and the arbitration
agreement was not signed by counsel as required by the statute (emphasis added). This case
underscores the fact that we, at the state level, have the power to protect policyholders by
banning insurance arbitration clauses.

14

United Steelworkers of Am. v. Enter. Wheel & Car Corp., 363 U.S. 593, 598, 4 L. Ed. 2d 1424, 80 S. Ct. 1358 (1960).
First Options of Chicago, Inc. v. Kaplan, 514 U.S. 938, 942, 115 S. Ct. 1920, 131 L. Ed. 2d 985 (1995) (citing Wilko v.
Swan, 346 U.S. 427, 436, 74 S. Ct. 182, 98 L. Ed. 168 (1953)).
16
9 USC 1, et seq.
17
15 USC 1011-1015.
18
See, e.g., Munich Am. Reinsurance Co. v. Crawford, 141 F.3d 585 (5th Cir. 1998) (holding the FAA was reverse preempted by Oklahoma law under the McCarran-Ferguson Act).
19
TEX. CIV. PRAC. & REM. CODE 171.001, et seq.
20
945 S.W.2d 330, 332 (Tex. App-Houston [1st Dist.] 1997, writ dismd).
15

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Texas should follow the lead of states like South Dakota, which flatly voids all insurance arbitration
clauses,21 as well as Arkansas, Georgia, Kansas, Missouri, Montana, Nebraska, Oklahoma, and
South Carolina, which have amended their Uniform Arbitration Act to except arbitration
agreements that relate to insurance claims.22
TDIs duty to the public calls for a continued prohibition on the use of forced arbitration by
residential insurance carriers. Failure to do so would encourage a race to the bottom by carriers,
as each market competitor would inevitably seek to escape the full weight of our laws through
arbitration to further fatten their bottom lines. This would only devalue insurance coverage to an
even greater extent and endanger the millions of Texas families who count on their regulator as
the first line of defense against predatory practices. If deserving Texans cannot recover the full
measure of their damages, they cannot rebuild after disaster strikes. And when Texans cannot
rebuild, businesses cannot prosper.
We respectfully urge you to follow the example of those who have held this important position
over many years, heard the same arguments industry offers today, and rejected them in full. We
ask that you disapprove any carriers request for pre-dispute mandatory binding arbitration
without delay. It is the right thing to do for the people of this state, whom you are entrusted to
protect. Texas families are looking to you, Commissioner Mattax.
Sincerely,

N. Alex Winslow
Executive Director

Ware V. Wendell
Deputy Director

21

S.D. Codified Laws 21-25A-3 (excepting contractual provisions for arbitration entered into between insurance
companies), http://legis.state.sd.us/statutes/DisplayStatute.aspx?Type=Statute&Statute=21-25A-3.
22
See Ark. Code Ann 16-108-201; Ga. Code Ann. 9-9-1; Kan. Stat. Ann. 5-401; Mo. Rev. Stat. 435.350; Mont.
Code Ann. 27-5-111; Neb. Rev. Stat. 25-2601; Okla. Stat. tit. 15, 802; S.C. Code Ann. 15-48-10(b)(4).

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