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The Texas Court of Appeals held that a party raising an unconscionability challenge to an arbitration agreement must prove both procedural and substantive unconscionability. Based on that holding, the parties' failure to prove procedural unconscionability was fatal to their unconscionability challenge.
In TMI, Inc. v. Brooks, No. No. 14-05-00604-CV2007, WL 43814 (Tex. Ct. App. Jan. 9, 2007), Brooks and eighteen other homeowners sued TMI, the homebuilder, for failing to disclose that the area where the homes are located was once the site of oil and gas operations.
TMI filed a motion to compel arbitration pursuant to an arbitration clause in each purchase agreement. The arbitration clause applied to all disputes "arising out of or relating to th[e] agreement or to any alleged defects relating to the Property." The trial court denied the motion on the ground that the arbitration agreement was unconscionable and therefore unenforceable.
The sole issue on appeal was whether the homeowners had proven that the arbitration agreement was unconscionable. As the Court explained, under Texas law, the doctrine of unconscionability requires a party to prove both procedural and substantive unconscionability. Accordingly, the Court first examined whether the homeowners had proven that the arbitration agreement was procedurally unconscionable.
In arguing procedural unconscionability, the homeowners relied on their allegation that TMI fraudulently induced their assent to the arbitration agreement by representing that the agreement applied only to structural defects in their houses. The arbitration agreement was not limited as such because environmental contamination constitutes an "alleged defect[] relating to the Property."
The Court rejected TMI's procedural unconscionability argument based on the rule that in the absence of fraud, "a party to a contract may not successfully claim he believed the provisions of a contract were different from those plainly set out in the contract." The homeowners failed to prove fraud because "reliance upon an oral representation that is directly contradicted by the express, unambiguous terms of a written agreement between the parties is not justified as a matter of law."
Since the homeowners failed to prove procedural unconscionability, it was unnecessary for the Court to reach the issue of substantive unconscionability. Rather, the Court reversed the trial court order denying TMI's motion to compel arbitration and remanded the case for further proceedings.
There are three approaches to the doctrine of unconscionability. Most jurisdictions, including Texas, require both procedural and substantive unconscionability. See, e.g., Strand v. U.S. Bank Nat. Ass'n ND, 693 N.W.2d 918, 924 (N.D. 2005). Other jurisdictions use a sliding scale approach whereby "[t]he more substantive unconscionability present, the less procedural unconscionability is required, and vice versa." Wisconsin Auto Title Loans, Inc. v. Jones, 714 N.W.2d 155, 165 (Wis. 2006). Finally, some jurisdictions require only one form of unconscionability. See, e.g., Spann v. American Express Travel Related Services Co., No. M2004-02786-COA-R3-CV, 2006 WL 2516431, *10 (Tenn. Ct. App. Aug. 30, 2006) (applying Utah law).
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