Insights & Research

Why include an Arbitration clause in commercial contracts?

Why include an Arbitration clause in commercial contracts?

Why include an Arbitration clause in commercial contracts?

“The courts of this country should not be the places where resolution of disputes begins. They should be the places where the disputes end after alternative methods of resolving disputes have been considered and tried.”

— Justice Sandra Day O’Connor


Arbitration is one of the most popular, widely recognized and practiced forms of Alternative Dispute Resolution. Arbitration is generally the most effective and efficient mechanism for settling disputes among the parties. This is because it does not require any lengthy procedures, unlike the other judicial processes, hence making it cost-effective and less time-consuming. Since it is a consensual mode of dispute resolution by a private tribunal, parties are free to structure and customize the procedure to be followed to their transaction, eliminate the technicalities of court proceedings, while maintaining due process in the proceedings. Arbitration Law in India is primarily contained in the Arbitration and Conciliation Act of 1996, which was passed to consolidate the laws relating to domestic, international arbitration and its enforcement.


The consent of parties for arbitration is contained within an arbitration agreement. An arbitration agreement is a written agreement between the parties to submit their existing or future disputes or differences to arbitration. In other words, the parties clearly note that in the event of a dispute between them they would not go to court, instead, they will proceed to arbitrate their dispute. This agreement takes the form of a binding contract. As per section 7 of the Act, "arbitration agreement" means an agreement by the parties to submit to arbitration all or certain disputes which have arisen or which may arise between them in respect of a defined legal relationship, whether contractual or not. The Arbitration agreement may be contained in the form of a separate agreement or in the form of an arbitration clause in the substantive contract which creates the rights and obligations for the parties who signed it. The two most essential features of an arbitration agreement is that, (i) it should be in writing, (ii) it should show the clear intention of the parties to resolve their disputes through arbitration.


The Authority adjudicating the dispute is better known as the arbitral tribunal. It is similar to a judge that presides over a court of law. The presiding authority is known as the arbitrator, who is in charge of deciding the disputes between the parties. Just like the judge an arbitrator also has several responsibilities set out and has the obligation to perform their duties. According to the nature of the case, the parties have an option to choose their own arbitrator depending upon the abilities to decide the case as per their expertise. The jurisdiction of the arbitrator will depend upon the construction of the arbitration clause and acts as a legislative clause. It may be an unconditional one with the clause worded to include all disputes, controversies or differences arising from the agreement and also exclude certain disputes. While parties cannot by contract oust the jurisdiction of the courts, they can agree that no right of action shall accrue in respect of any differences, which may arise between them until an arbitrator has adjudicated upon such differences. Such a provision is often termed a Scott v. Avery clause.


Through the arbitration agreement the parties are free to choose the seat of arbitration, which determines the courts, which would exercise jurisdiction over the arbitration proceedings. The parties have the autonomy to choose the applicable law, which is rather important in an international commercial arbitration. Moreover, the parties may tailor-make the procedure that shall be applicable for their disputes. The Rules of the arbitration can be self-governed; however, the said rules have to be in the spirit of Public Interest of India and Natural Justice.


There are many misconceptions regarding the finality of the outcome of arbitration proceedings. It has to be noted that no appeal lies against an arbitral award; however, an arbitral award can only be set aside if the said award suffers from as invalid arbitration agreement, party's incapacity to enter into an agreement, independence and impartiality of an arbitrator, unfair procedure, etc., the grounds of which is clearly set forth in the Act of 1996. Thus, from a business point of view, an arbitration clause in commercial contracts can save one from unnecessary loss of time and money.   




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