Formation, Essentials & Validity of Arbitration Agreement

Arbitration has emerged as a preferred method of dispute resolution in commercial and contractual
matters, offering a streamlined and cost-effective alternative to litigation. The arbitration
agreement is the backbone of this process, as it establishes the intent and framework for
arbitration. It serves as a binding contract between parties, ensuring that disputes are resolved
privately and efficiently without resorting to traditional courts.

This article provides a comprehensive analysis of the formation, essentials, and validity of an
arbitration agreement, particularly in the context of the Arbitration and Conciliation Act, 1996 in
India.

1. Formation of an Arbitration Agreement

The formation of an arbitration agreement occurs when two or more parties mutually decide to
submit their disputes to arbitration rather than litigation. This agreement may exist in different
forms:

1.1. Arbitration Clause in a Contract

 Most commercial contracts include an arbitration clause that predefines arbitration as the
dispute resolution mechanism.

 If a dispute arises during the execution of the contract, the parties must refer to the
arbitration clause rather than approach a court.

1.2. Separate Arbitration Agreement (Submission Agreement)

 If a contract does not originally contain an arbitration clause, the parties can still sign a
separate arbitration agreement once a dispute arises.

 This type of agreement is called a submission agreement and is legally binding if it meets the
required legal standards.

1.3. Implied Arbitration Agreement

 If parties exchange written communications indicating that they have agreed to arbitration
and neither party objects, such correspondence can be considered an arbitration agreement.

 The Supreme Court of India has upheld this principle in cases where arbitration agreements
were inferred from email exchanges and other documented communications.

2. Essentials of an Arbitration Agreement

For an arbitration agreement to be legally valid and enforceable, it must contain the following key
elements:

2.1. Existence of a Dispute

 Arbitration applies only when there is a genuine dispute between parties.

 The agreement cannot be used to contest already settled matters or undisputed issues.
2.2. Written Form (As per Section 7 of the Arbitration Act, 1996)

 Section 7(4) of the Arbitration and Conciliation Act, 1996, mandates that an arbitration
agreement must be in writing. It can be in any of the following forms:

o A contract signed by both parties.

o An exchange of letters, emails, or telegrams confirming the agreement.

o Statements of claim and defense where the existence of arbitration is

acknowledged.

2.3. Intention to Arbitrate

 The parties must have a clear intention to resolve disputes through arbitration.

 Even if terms like "arbitrator" or "arbitration" are not explicitly mentioned, the intention to
submit disputes to an impartial third party is crucial.

 Courts have ruled that vague dispute resolution clauses cannot be enforced as arbitration
agreements unless they clearly indicate arbitration.

2.4. Mutual Consent and Free Will

 The arbitration agreement must be voluntary and free from:

o Coercion

o Undue influence

o Fraud

o Misrepresentation

 Any agreement obtained through unfair means can be declared void under the Indian
Contract Act, 1872.

2.5. Signatures of the Parties

 The agreement should ideally be signed by both parties.

 However, even an electronic acceptance (such as email confirmation) may be valid under
the Information Technology Act, 2000.

2.6. Binding Nature of the Agreement

 The arbitration agreement should state that the decision of the arbitrator(s) is final and
binding.

 This ensures that neither party can unilaterally reject the arbitration process after agreeing
to it.

2.7. Appointment of Arbitrators

 The agreement should define the process for appointing arbitrators, specifying whether:

o Arbitrators will be mutually selected.

o A third-party institution (e.g., ICC, SIAC, LCIA) will handle the appointment.
 o Courts will appoint arbitrators in case of a dispute.

2.8. Language of Arbitration

 The agreement should specify the language in which the arbitration will be conducted.

 This avoids ambiguity and potential disputes over translation and interpretation.

2.9. Seat & Venue of Arbitration

 Seat of arbitration determines which country's legal system governs the arbitration process.

 Venue of arbitration is where the arbitration hearings physically take place.

3. Validity of an Arbitration Agreement

For an arbitration agreement to be valid and enforceable, it must meet the following legal criteria:

3.1. Competency of Parties

 As per the Indian Contract Act, 1872, only legally competent parties can enter into a valid
arbitration agreement.

 Minors, individuals of unsound mind, and corporations without proper authorization cannot
enter into arbitration agreements.

3.2. Arbitrability of Disputes

 Not all disputes are arbitrable. Courts have held that the following cannot be resolved
through arbitration:

o Criminal offenses

o Matrimonial disputes (divorce, child custody)

o Insolvency proceedings

o Testamentary matters (wills & succession)

o Public policy issues

3.3. Compliance with Statutory Provisions

 The arbitration agreement must comply with the Arbitration and Conciliation Act, 1996, and
other applicable laws.

 If the agreement violates any mandatory provisions of law, courts may declare it
unenforceable.

3.4. Specificity & Clarity

 The arbitration agreement must clearly define:

o The scope of disputes covered.

o The governing rules (e.g., UNCITRAL, ICC, SIAC).

o The arbitration procedure.

3.5. Enforceability under Indian Law

 Section 8 of the Arbitration Act mandates that if an arbitration clause exists, courts must
direct parties to arbitration and refuse to entertain a lawsuit.

 However, if the agreement is vague, ambiguous, or defective, courts may refuse to enforce
it.

4. Judicial Precedents on Validity of Arbitration Agreements

4.1. K.K. Modi v. K.N. Modi & Ors. (1998) 3 SCC 573

 The Supreme Court held that an arbitration agreement must be legally enforceable and
capable of binding parties to an arbitration award.

4.2. Trimex International FZE Ltd. v. Vedanta Aluminium Ltd. (2010) 3 SCC 1

 It was ruled that even email exchanges indicating acceptance of arbitration clauses can
constitute a binding arbitration agreement.

4.3. Vidya Drolia v. Durga Trading Corporation (2020) SCC OnLine SC 1018

 The Supreme Court clarified that arbitration agreements must be strictly interpreted in
favor of arbitration unless they are legally void.

5. Conclusion

The arbitration agreement is the foundation of arbitration as a dispute resolution mechanism. It

must be validly formed, satisfy essential legal criteria, and be enforceable under law.

 The agreement should be written, voluntary, and clear about arbitration procedures.

 It should outline the seat of arbitration, number of arbitrators, and governing law.

 A valid arbitration agreement ensures that disputes are resolved efficiently, confidentially,
and impartially.

By ensuring adherence to legal requirements, parties can create robust arbitration agreements that
facilitate smooth dispute resolution, minimizing delays and unnecessary litigation.

Rule of Severability & Effects of Death, Insolvency, etc., on an Arbitration

Agreement
An arbitration agreement plays a crucial role in ensuring that disputes are resolved outside
traditional courts. However, certain circumstances, such as partial invalidity, death of a party, or
insolvency, may impact its enforceability. Two important legal principles govern such situations:

1. Rule of Severability (Doctrine of Separability)

2. Effects of Death, Insolvency, etc., on an Arbitration Agreement

This article provides an in-depth analysis of both these aspects.

1. Rule of Severability (Doctrine of Separability)

1.1. Meaning & Concept

The doctrine of severability (also called the doctrine of separability) states that an arbitration
agreement is independent and separate from the main contract.

 Even if the main contract is found to be void, illegal, or unenforceable, the arbitration
agreement can still survive.

 This ensures that the resolution of disputes remains unaffected even if the primary contract
becomes invalid.

1.2. Legal Basis & Judicial Recognition

 Section 16(1) of the Arbitration and Conciliation Act, 1996 explicitly recognizes severability
by stating that an arbitration clause does not become invalid merely because the main
contract is challenged.

 In Heyman v. Darwins Ltd. (1942) AC 356, the House of Lords held that an arbitration clause
remains effective even if the contract is terminated due to breach.

 In N. Radhakrishnan v. Maestro Engineers (2010) 1 SCC 72, the Supreme Court of India
reaffirmed that arbitration clauses remain valid unless specifically declared void.

1.3. Implications of Severability

 Contracts containing illegal elements: If a contract contains illegal or void provisions, the
arbitration agreement may still be enforced if it is legally valid on its own.

 Contracts rescinded due to breach: Even if a contract is terminated due to breach, the
arbitration agreement continues to govern dispute resolution.

 Avoids delay in proceedings: This principle prevents one party from deliberately
invalidating the entire contract to avoid arbitration.

1.4. Limitations of Severability

 If the arbitration agreement itself is fraudulent, illegal, or unconscionable, courts can

invalidate it.

 If both the main contract and arbitration agreement suffer from fundamental defects,
severability cannot apply.

2. Effect of Death on an Arbitration Agreement

2.1. Survival of Arbitration Agreement After Death

As a general rule, the death of a party does not terminate an arbitration agreement. Instead, the
legal representatives of the deceased party step into their shoes and continue the arbitration
process.
  Section 40 of the Arbitration Act, 1996 states that arbitration agreements survive the death
of a party unless the agreement explicitly provides otherwise.

 The legal heirs or successors are bound by the arbitration agreement just as the deceased
party was.

2.2. Exceptions Where Arbitration Agreement Terminates

 If the contract is personal in nature (e.g., employment contracts, artistic work), then the
arbitration agreement may not be enforceable after death.

 If the arbitration agreement explicitly states that it is non-transferable or ends with the
death of a party.

2.3. Judicial Precedents on Effect of Death

 V.H. Patel & Co. v. Hirubhai Himabhai Patel (2000) 4 SCC 368: The Supreme Court held that
arbitration agreements are inheritable unless they are personal in nature.

 Prabhat General Agency v. Union of India, AIR 1971 SC 2298: The court ruled that
arbitration agreements are binding on successors unless specifically excluded.

2.4. Appointment of Legal Representatives in Arbitration

 If arbitration has already begun, the arbitrator may adjourn the proceedings to allow legal
representatives to participate.

 If the deceased party was a sole claimant/respondent, arbitration can still continue with
their heirs.

3. Effect of Insolvency on an Arbitration Agreement

3.1. What Happens When a Party Becomes Insolvent?

 When a party becomes insolvent (declared bankrupt), it may affect their ability to
participate in arbitration.

 The law allows arbitration to continue unless the nature of the claim requires court
supervision.

3.2. Indian Legal Provisions

 Section 34 of the Insolvency and Bankruptcy Code (IBC), 2016 states that once a party is
declared insolvent, legal proceedings against them are generally stayed.

 However, arbitration proceedings can continue if they relate to determining

claims/liabilities rather than asset distribution.

3.3. Judicial Approach on Arbitration & Insolvency

 M/s Indus Biotech Pvt Ltd v. Kotak India Venture Fund (2021) 6 SCC 281: The Supreme
Court ruled that arbitration can proceed unless it directly impacts the insolvency resolution
process.
  Swiss Ribbons Pvt Ltd v. Union of India (2019) 4 SCC 17: The Supreme Court clarified that
contractual disputes arising before insolvency proceedings can be settled via arbitration.

3.4. When Does Insolvency Terminate Arbitration?

 If arbitration relates to a claim that must be decided by the insolvency court (such as
distribution of assets).

 If the official liquidator or insolvency resolution professional (IRP) objects to arbitration

continuing.

 If the arbitration agreement explicitly states that insolvency terminates arbitration rights.

3.5. When Does Arbitration Continue Despite Insolvency?

 If arbitration deals with contractual disputes that do not impact insolvency resolution.

 If arbitration was already completed before insolvency proceedings were initiated.

 If the arbitration agreement provides for continuation despite insolvency.

4. Effect of Other Events on an Arbitration Agreement

4.1. Effect of Merger & Acquisition (M&A) on Arbitration

 If a company is merged or acquired, its arbitration agreements transfer to the new entity
unless explicitly terminated.

 The acquiring company assumes the obligations and rights of arbitration unless restricted by
contract.

4.2. Effect of Supervening Impossibility

 If a contract becomes impossible to perform due to war, government intervention, or force

majeure, arbitration may become unenforceable.

 However, arbitration agreements often include a force majeure clause, specifying how
disputes will be resolved in such cases.

4.3. Effect of Fraud or Misrepresentation

 If the arbitration agreement itself is found to be fraudulent or obtained by

misrepresentation, it becomes void.

 However, if fraud affects only the main contract (and not the arbitration agreement),
arbitration may still proceed.

5. Conclusion

The doctrine of severability ensures that an arbitration agreement remains valid even if the main
contract is void, preventing disputes from automatically falling under court jurisdiction.

 In case of death, arbitration agreements generally survive and bind legal heirs unless they
are personal in nature.
  Insolvency does not automatically terminate arbitration, but it may affect its enforceability
depending on the nature of the dispute.

 Other factors, such as mergers, force majeure, and fraud, may also impact the validity of
arbitration agreements.

Understanding these principles helps parties structure arbitration agreements effectively, ensuring
enforceability and continuity even in complex legal situations.

Jurisdiction of Courts in Arbitration

Under the Arbitration and Conciliation Act, 1996, courts have a limited but essential role in
arbitration, mainly to facilitate and supervise the process. Their jurisdiction depends on the stage of
arbitration.

1. Pre-Arbitration Jurisdiction

 Referral to Arbitration (Sections 8 & 45): If a dispute is filed in court despite an arbitration
agreement, the court must refer the parties to arbitration unless the agreement is invalid or
unenforceable.

 Interim Relief (Section 9): Courts can grant temporary injunctions, asset freezes, or
evidence preservation before or during arbitration.

2. Jurisdiction During Arbitration

 Appointment of Arbitrators (Section 11): If parties fail to agree on an arbitrator, the High
Court or Supreme Court appoints one.

 Challenging Arbitrators (Sections 13 & 14): Courts can remove arbitrators for bias,
incapacity, or failure to act.

3. Post-Arbitration Jurisdiction

 Setting Aside an Award (Section 34): Courts can annul an award if there is fraud, bias,
procedural unfairness, or public policy violation.

 Enforcement of Awards (Sections 36 & 48): Domestic awards are enforced as a decree,
while foreign awards are enforced under the New York Convention, subject to conditions.

4. Territorial & Subject-Matter Jurisdiction

 The seat of arbitration determines which court has jurisdiction (BALCO Case, 2012).

 Certain disputes (e.g., criminal, matrimonial, insolvency cases) are non-arbitrable.

5. Conclusion

Courts support arbitration by enforcing agreements, assisting in arbitrator appointments, and

ensuring fair proceedings. However, judicial interference is minimal, maintaining arbitration’s
efficiency and autonomy.