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Rules of Evidence in Arbitration

While it is well known that the rules of evidence do not apply in FINRA arbitrations, most panel Chairs and arbitrators in general are attorneys and will often find it hard to discard those rules completely. There are certain circumstances where the rules of evidence can provide guidance for practitioners. The highest federal court in New York - the Second Circuit Court of Appeals - has spoken to the issue of the rules of evidence in arbitration.

In LJL 33rd Street Associates, LLC v. Pitcairn Properties Inc.,[1] the Second Circuit reversed a Southern District Court of New York decision that had vacated an American Arbitration Association ("AAA") Award after the lower court held that the arbitration had been rendered fundamentally unfair when the arbitrator excluded certain hearsay evidence, making it harder for a party to prove its case.[2] The District Court held that the arbitrator's decision to exclude certain evidence constituted illegal "misconduct" under the Federal Arbitration Act, which provides that an Award may be vacated "where the arbitrators were guilty of misconduct in . . . refusing to hear evidence pertinent and material to the controversy."[3]

The Second Circuit stated:

· While it is indisputably correct that arbitrators are not bound by the rules of evidence and may consider hearsay, it does not follow that arbitrators are prohibited from excluding hearsay evidence, especially when (a) the evidence could be presented without reliance on hearsay and (b) its hearsay nature is unfairly prejudicial to the adversary.

· While the party that sought to admit the evidence may well have been harmed by the exclusion of its exhibits, it is not clear that this harm can be considered unfair since that party could have cured the problem in another procedural manner.

· The exclusions in this case did not impair the "fundamental fairness" of the proceeding.[4] It was within the bounds of the arbitrator's permissible discretion to exclude the exhibits.

What follows are examples of how a securities arbitration practitioner can utilize the rules of evidence during hearings.

1. Leading Questions

A leading question is one in which the wording of the question suggests what the expected answer should be. At arbitration hearings, they sneak up on you and often become a pattern until you make an objection. Whenever arbitrators believe that attorneys are attempting to use the informality of the proceedings to their advantage, arbitrators should intervene and bring the offending practice to a halt, even if there is no objection to the leading questions.

2. Narratives

The authors of Federal Rules of Evidence with Objections[5] wrote that: "This objection seeks to prevent the situation where counsel is not provided with notice by the question of potential objectionable testimony by a witness. At the first instance when the witness testifies to inadmissible evidence during the narrative, opposing counsel should move to strike, approach the bench, and ask the judge to reconsider the objection to testimony in a narrative form." How can you apply that advice to arbitration? If the question is so general as to elicit a narrative answer, object to the question before the witness begins to testify.

3. Relevance Generally

Under Federal Rule 401, evidence is relevant if:

a. It has any tendency to make a fact more or less probable than it would be without the evidence; and

b. The fact is of consequence in determining the action.

The authors of Federal Rules of Evidence with Objections draw a distinction between materiality and relevance. "Materiality has a more precise meaning than relevance and can be seen as being a term that is within the meaning of relevance. [It] is the relationship between the proposition for which the evidence is offered and the issues in the case. If the evidence is offered to prove a proposition that is not a matter in issue, the evidence is said to be immaterial. Relevancy includes both the test of materiality and something more. Relevancy is the tendency of the evidence in question to establish a material proposition."

While arbitrators tend to allow "kitchen sinks" into evidence, they may sustain objections on relevance grounds when the witness' answers go astray from the questions, from what the attorneys wrote in the Statement of Claim or Answer or from the categories of damages sought by the Claimant. When this happens, object and then be prepared to explain to the Chair of the arbitration panel why the testimony is neither material to a matter in issue nor likely to establish a material proposition.

Conclusion

While the Rules of Evidence may not directly apply to arbitrations, courts have supported an arbitrator's choice whether or not to apply them during hearings. With this knowledge, a savvy securities arbitration practitioner can utilize this flexibility to present his or her best case to the arbitration panel.


[1]2013 U.S. App. LEXIS 15625 (2d Cir. July 2013).

[2]LJL 33rd St. Assocs., LLC v. Pitcairn Props., 2012 U.S. Dist. LEXIS 24986 (S.D.N.Y., Feb. 14, 2012).

[3]9 U.S.C. §19 10(a)(3)

[4] See Tempo Shain Corp. v. Bertek, Inc., 120 F.3d 16, 20 (2d Cir. 1997).

[5] 10th Ed. 2011 http://www.lexisnexis.com/store/catalog/booktemplate/productdetail.jsp?pageName=relatedProducts&catId=cat-US-NITA-180&prodId=prod-US-NITA-FBA1078

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