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Materials in New Home Constitute Interstate Commerce, So Federal Arbitration Act Controls, California Court Holds
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July 7, 2008
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By Peter K. Zweighaft
Thelen Reid Brown Raysman & Steiner LLP
The buyer purchased a home from the seller pursuant to a real estate purchase agreement that contained an arbitration provision. The buyer ignored the arbitration clause and filed a lawsuit against the seller claiming that a leak from a negligently installed underground pipe damaged the home and caused personal injuries.
Relying on the agreement to arbitrate in the real estate purchase agreement, the seller filed a motion to compel arbitration. The buyer opposed the motion, citing California Code of Civil Procedure §1298.7, which provides that an arbitration agreement does not preclude a home buyer from pursuing a construction defect case against the developer in court. In response, the seller argued that the Federal Arbitration Act (FAA), which makes valid and enforceable an arbitration provision in a contract evidencing a transaction “involving commerce,” pre-empted the California anti-arbitration statute.
The FAA pre-empts conflicting state anti-arbitration statutes. Thus, the issue of whether the FAA pre-empted the California statute turned on the language of the FAA and the reach of the Commerce Clause of the U.S. Constitution. If the underlying transaction involved interstate commerce, the FAA would pre-empt the California anti-arbitration statute, and arbitration could be compelled. If, however, the transaction did not involve interstate commerce, Congress could not regulate the transaction, and the California anti-arbitration statute would be enforced.
The trial court denied the motion to compel arbitration, ruling that the seller failed to demonstrate that the transaction involved interstate commerce. The Court of Appeal reversed. Shepard v. Edward Mackay Enterprises, 148 Cal.App.4th 1092, 56 Cal.Rptr.3d 326 (2007).
The appeals court surveyed U.S. Supreme Court decisions that interpreted the phrase “involving commerce” in the FAA to be the functional equivalent of “affecting commerce,” giving the phrase the broadest permissible exercise of Congress’ commerce power. Congress may regulate three categories of activities under the commerce power: (1) the channels of interstate commerce; (2) the instrumentalities of interstate commerce; and (3) those activities having a substantial relation to interstate commerce.
There was no evidence that the parties were from out-of-state, that any of the businesses were from out-of-state, that the parties advertised out-of-state or that out-of-state professional services were used on the transaction.
However, in an effort to demonstrate that interstate commerce was involved on the project, the seller produced evidence from the carpet/vinyl flooring supplier, door and hardware supplier, truss supplier, door and window supplier, and the kitchen appliance supplier that their products were manufactured outside the State of California.
The Court of Appeal stated that “the number of building materials shown by [the seller] to have come from interstate commerce indicates this case is not one involving a merely ‘trivial’ impact on interstate commerce, which would be outside the limits of Congress’ power.”
Accordingly, the court held that the seller had demonstrated that the transaction substantially affected interstate commerce, and, therefore, the FAA pre-empted California’s anti-arbitration provision.
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For more information about the issues covered in this report, please contact Peter K. Zweighaft in our Los Angeles office at 213-576-8063 or at pzweighaft@thelen.com or contact your Thelen attorney. For more information about Thelen’s Construction and Government Contract's Department, click here.
©2008 Thelen Reid Brown Raysman & Steiner LLP
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