Introduction

Many small businesses, whether restaurants or small shops, are presently closed, and many of their employees are laid off. Currently, the government is lending money to small businesses and unemployed workers for their sustenance then collects the payments from some of the borrowers and the rest from taxes.^[1] Given that not all, or perhaps only a few, small businesses own real estate, they sign notes to repay the loans but can offer no asset backing. Presumably, then, the nation’s financial deficit is growing.^[2] The government adds the aggregate of the loans to the country’s costs and tax collection. However, even though support and politics might rub shoulders, they often harm each other.

1. Is there any other way in which some, if not all, of these loans could be financed by investors? An imperfect model that was tried and succeeded for some time to some extent was the securitization of mortgages.^[3] The good and bad experiences of mortgage securitization could help design a better securitization system for the notes of small businesses and employees.^[4] To be sure, mortgages are more solid backing than notes. In addition, although we have a long track record of recessions, and therefore a good sense of what recovery looks like in the current case, we do not and cannot know what the aftermath of the pandemic will be like. It might well cause a fundamental change to our economy and—just as importantly—changes in people’s habits.

2. The securitization of the notes is not similar to that of mortgages and to mutual funds holding notes. The comparison of securitization of the proposed notes to the securitization of mortgages or to pools (mutual funds) of corporations’ notes is not precise. In fact, the first step of securitization was the pooling of notes, but they were offered by very large corporations.^[5] In addition, there are currently mutual funds that hold relatively small notes issued by corporations. They are fairly safe and help both parties.^[6] In addition, small business investment companies make equity and debt investments in small businesses, and business development companies generally invest in the debt of middle-market companies.^[7]

Small businesses during the pandemic era are different from mortgages during a market decline. Most small businesses do not own real estate, but rather rent their business space. The notes they issue are of relatively small amounts. They may already have outstanding loans. They may not reopen even after the virus is overcome. Supported employees might not return to work for health, age, or other reasons. In sum, the borrowers’ note obligations are fairly risky.

3. Would health recovery bring the same businesses to full life? Not necessarily. Restaurants, for example, may have to share their business with the rising food and cooking suppliers and services. Besides, unlike the quest for home rental or ownership, people may have changed their habits of meeting in restaurants.^[8] Habits take time to form, but once they do, they take time to change or revert to old or other habits. History demonstrates a similar result; for example, the “buggy whip” was necessary and highly used for transportation before cars took over.

4. In sum, the risks associated with loans to small businesses is different from the risks of loans in a traditional recession. To be sure, the government could substitute its direct lending by insuring some of the risk associated with the notes portfolio. That would give lending banks a measure of comfort in that should a wave of bankruptcies occur as a result of these general economic and habitual changes, they would not get caught holding all or most of the bad notes. Another possible support is the government’s guarantee of bank losses, although some of the notes will support not only the banks’ business, but also the small business.

5. What are the benefits in pooling such small notes and selling participations in the pool to investors? Why would investors buy such participations?

The Treasury may help. Let the Treasury give a discount from taxes to such investments. For some investors this might be sufficiently attractive to cover the risk of failures to pay the notes. The benefits of securitizing these notes are numerous not only for one participant, but also for many participants and the entire country.

The notes-issuers will not be worse off, except that they might be subject to bankruptcy rules rather than viewing their obligations as fully enforceable. There is some justification for this reaction, yet the law may offer the borrowers in this case some relaxation as relief, and if the issuers go through banks, the government may allow banks the type of relaxation that would help the borrowers. No law is necessary for these rules because the Treasury has the authority to offer it, provided it is offered to all banks in the same position. In fact, banks currently have some discretion to relax their requirements with respect to any borrower—that is, although banks ordinarily are reluctant to lend to borrowers that are close to bankruptcy, they may set different criteria for this type of borrower.

Investors may be somewhat worse off compared to lending to other businesses; however, (i) their investments are not a donation; (ii) the investment should be given the public recognition it deserves; (iii) the successful revival of any supported business should be publicized; and (iv) the recipients of the money should be given a platform to thank the anonymous buyers of the securitized notes. Pictures could show the opened restaurants and, if they so wish, their owners and workers. These are not and should not be financial rewards, yet they may be valued more than any money rewards. The satisfaction of helping while risking some of one’s money may balance the risk.

However, the donors’ names, whether personal or incorporated or in groups, should not be publicized. If pressure to publicize is great, then it would be allowed only if the donees’ group-members are joined. In sum, business and finance need not be drained of all humanity and the satisfaction of sharing.

In addition, banks should institute appropriate safeguards. The bank should be responsible for the quality of the manager of the pool. In addition, the cost of the pool should not be charged to any other mutual fund or pool.

The conclusion that applies to securitization generally seems to apply to the securitization of notes by workers who lost their jobs and small businesses that had to close down. “[S]ecuritization seems to be going in the right direction at this stage. It allows credit to more risky borrowers but reduces the risks from such borrowers. Securitization also contributes to increased debt by borrowers and intermediaries but reduces such risks to investors.”[9]

6. What is the effect of securitization on monetary controls? When dealing with mortgages, the conclusion was the following:

Securitization renders the Fed’s control over the money supply more complex. However, monetary controls are an art rather than a science. The captain at the helm both guides and is guided by a faulty compass. Since the captain never had a scientific compass, it is doubtful whether the country is worse off today than before the emergence of securitization [of mortgages], technology, and competition.[10]

Conclusion

The model of mortgage securitization is helpful in various ways.

First, it demonstrates how to securitize more complex instruments, such as mortgages. Pooling notes is simpler and has continued to be practiced, providing more experience.

Second, it suggests that the holders of the borrowers’ notes should be the institutions that have the most experience in this function, i.e., the banks, rather than the Treasury, which has some but not as much experience in this function and is charged with and focused on matters other than managing other people’s money and debts.

Third, it is important to manage securitized debts without political and other national pressures, such as the money supply. If we agree that those who need help should not be affected by the financial system’s politics, then let us focus on helping them without any political self-interested and conflicting national interests. We should help those who are suffering from this pandemic, respect them for avoiding a handout, and honor the borrowers who are expected to repay. Let those who are required to pay through taxes or give to charity give the needy ones in this case an equal status—they are parties in a financial deal.

[1] See Kelly Anne Smith, Congress Approved More Funding for the Paycheck Protection Program. Here’s What You Need to Know, Forbes, Apr. 22, 2020 (noting that loans will be forgiven if certain requirements are met).

[2] Cong. Budget Office, Monthly Budget Review for June 2020 (noting that estimated “federal budget deficit in June 2020 was $863 billion, compared with a deficit of $8 billion in the same month last year,” due to “economic disruption caused by the 2020 coronavirus pandemic” and the “federal government’s response to it”).

[3] See, e.g., Stephen L. Schwarcz, The Future of Securitization, 41 Conn. L. Rev. 1313 (2009) (identifying defects with use of securitization). For a detailed treatment of the subject in 2005, see Tamar Frankel, Securitization: Structured Financing, Financial Assets Pools, and Asset-Backed Securities (Ann Taylor Schwing ed., 2d ed. 2005).

[4] See Bd. of Governors of the Fed. Reserve Sys., Report to the Congress on the Availability of Credit to Small Businesses (Sept. 2017) (noting that “securitization of small business loans has the potential to substantially influence the availability of credit to small businesses” and “[p]otential benefits exist for lenders, borrowers, and investors”; “[h]owever, the obstacles to securitizing small business loans are large”).

[5] See What Is the Difference Between Factoring and Securitization?, Companeo (noting that securitization is “better suited to large companies”); see generally Tamar Frankel & Arthur B. Laby, The Regulation of Money Managers (Ann Taylor Schwing ed., 3d ed. 2015); Frankel, supra note 3.

Securitization by pooling involves five steps: (1) making loans; (2) transferring the loans to an entity (a special purpose vehicle or special purpose entity (SPV or SPE), (3) providing credit enhancement for investors, (4) distributing securities issued by the SPV, and (5) making a secondary market in the securities. Frankel, supra note 3, § 2.4, at 55. For a description of the pooling process see id. at 55–56. For a description of a prototype securitization by pooling see id. § 6.4, at 213–14.

The steps of securitization by pooling are subject to regulation. See id. §§ 7.1–12, 9.1 to 9.2.2, 9.6, 9.8–.14 (banking law); id. §§ 7.13–.14, 8.7, 9.18 (standards in the making of loans, including consumer protection and usury laws); id. §§ 7.15–.16, 9.5, 10.1–.16 (bankruptcy and commercial law); id. § 7.17 (regulation of the process of sale and purchase of the loans); id. § 7.18 (prohibitions on referral fees); id. § 7.20 (margin regulations); id. §§ 8.10–.18, 8.22 (tax law); id. § 8.20 (trust law); id. § 8.21 (Employee Retirement Income Security Act of 1974); id. §§ 8.22, 9.3–.4, 9.15–.19, 11.1–.36, 2 id. §§ 12.1 to 13.7 (federal securities laws).

[6]  See, e.g., Short-Term Debt Funds, Coverfox.com (describing short-term debt funds).

[7] FS Investments, Business Development Company (BDC); Andrew Weinberg, Private Equity Will Show Its True Colors in the Covid-19 Recovery, Forbes, July 8, 2020 (defining “middle-market” as firms with annual revenues of $25 million to $1 billion).

[8] See, e.g., Heather Lalley, How Will the COVID-19 Crisis Change Consumer Dining Behavior?, Restaurant Bus. Online, Apr. 10, 2020 (citing poll data suggesting that consumers may have adopted long-term changes in restaurant dining behavior).

[9] Frankel, supra note 3, § 3.12, at 133.

[10] Id. § 3.15, at 137.

North Carolina has a statute providing that the manager of an LLC doing business in North Carolina must on behalf of out-of-state members remit to the state the estimated tax obligations of those out-of-state members. A recent decision from a bankruptcy court, In re North Carolina Tobacco International, LLC, Case No. 17-51077, 2020 WL 4582282 (Bankr. M.D.N.C. Aug. 10, 2020), considered whether an LLC in bankruptcy is obligated to make those tax payments. Spoiler alert—the court said “no.”

North Carolina Tobacco International, LLC (NCTI) was organized in Missouri but did most if not all of its operations in North Carolina. At least two of its four members were not resident in North Carolina. That NCTI was classified as a partnership for purposes of federal and North Carolina state taxation was not in dispute. The North Carolina tax code requires that with respect to each member of an LLC taxed as a partnership, the LLC’s manager is obligated to remit the estimated taxes of the nonresident members.[1] This statute is far from unique; many states have similar mechanisms for collecting taxes on behalf of nonresident partners/members.[2]

In 2017, NCTI sought protection under chapter 11 of the Bankruptcy Code. In early 2018 the case was converted to a case under chapter 7. Thereafter, the chapter 7 trustee effected several sales of NCTI property. Due to the absence of reliable information as to basis, the entire proceeds of the transactions were treated as gain. The opinion does not lay out the path leading to the trustee’s Motion to Determine that the Estate Should Not Remit Pass-Through Taxes on Behalf of Out-of-State Members, and although North Carolina participated and argued against the motion, the individual members on whose behalf the payments would have been made did not.

North Carolina argued that the tax obligation was that of the LLC, not of its members, and that the LLC was obligated to remit the tax payment. “[T]he Department argues that, contrary to traditional principles of flow through taxation, North Carolina has chosen to place the burden of reporting and paying income tax liability of nonresident partners on the manager of the partnership instead of the nonresident members. Based on Personal Tax Bulletins issued by the Department, the Department argues that the obligation to pay nonresident members’ taxes itself creates a separate and distinct tax obligation on the partnership.”[3] The trustee argued that the tax obligation is that of the members and that the LLC may not under the North Carolina LLC Act nor the bankruptcy code expend its resources to satisfy their obligations.

According to Trustee, payment of income tax on behalf of Debtor’s equity interest holders from the assets of the estate would constitute a distribution to the members ahead of the creditors of the LLC, and therefore would violate the distribution priorities mandated in 11 U.S.C. § 726. Under § 726, creditors must be paid prior to any distribution to equity holders. [Footnote 4: This distribution priority does not differ from the winding up of an LLC under North Carolina law. See N.C. Gen. Stat. §§ 57D-6-07(d) and 57D-6-08(2) (2014).] Therefore, Trustee argues that, to the extent N.C. Gen. Stat. § 105-154(d) purports to require payment of member taxes prior to distributions to creditors, it is preempted by the distribution scheme under § 726.[4]

The court’s ultimate holding was not dependent upon either of these paradigms, but the trustee won the day. The court’s analysis focused upon 11 U.S.C. § 346, finding that it preempted the North Carolina statute in question. The decision recited subsection (b) and (c) of section 346, adding emphasis to a portion of (b) as follows:

(b) Whenever the Internal Revenue Code of 1986 provides that no separate taxable estate shall be created in a case concerning a debtor under this title, and the income, gain, loss, deductions, and credits of an estate shall be taxed to or claimed by the debtor, such income, gain, loss, deductions, and credits shall be taxed to or claimed by the debtor under a State or local law imposing a tax on or measured by income and may not be taxed to or claimed by the estate. The trustee shall make such tax returns of income of corporations and of partnerships as are required under any State or local law, but with respect to partnerships, shall make such returns only to the extent such returns are also required to be made under such Code. The estate shall be liable for any tax imposed on such corporation or partnership, but not for any tax imposed on partners or members.

(c) With respect to a partnership or any entity treated as a partnership under a State or local law imposing a tax on or measured by income that is a debtor in a case under this title, any gain or loss resulting from a distribution of property from such partnership, or any distributive share of any income, gain, loss, deduction, or credit of a partner or member that is distributed, or considered distributed, from such partnership, after the commencement of the case, is gain, loss, income, deduction, or credit, as the case may be, of the partner or member . . . . (emphasis and ellipses in original).[5]

Finding preemption, the court explained:

Under federal law, any taxes in this case are taxable to the members and are not imposed on the corporation or partnership. It is well settled that pass-through entities, such as LLCs like Debtor, are not subject to federal taxation at the entity level. As an LLC with more than one member, Debtor is treated as a partnership for federal taxation purposes unless it elects to be treated as a corporation. . . . Income taxes of a pass-through entity like an LLC or S corporation are liabilities of that entity’s members.[6]

From there the court concluded that:

Having determined that any taxes were imposed solely on the nonresident members rather than the LLC under federal law, § 346(b) dictates the result in this case. That section expressly prohibits such taxes from being a liability of the estate. 11 U.S.C. § 346(b) (“The estate shall be liable for any tax imposed on such corporation or partnership, but not for any tax imposed on partners or members.”). Furthermore, the North Carolina statutes and tax bulletins make it abundantly clear that the members at all times remain ultimately liable for the taxes, and the Department does not argue otherwise. Since the members are unquestionably liable for their respective tax obligations, the estate cannot also be liable. Section 346(b) expressly prohibits any dual tax obligation of the members and the estate, providing that the estate shall not be liable for any tax imposed on the members. For these reasons, the Court finds that the estate has no liability for the taxes imposed against the resident or non-resident members of the LLC.[7]

North Carolina is still owed taxes by the nonresident members of NCTI, but it will have to pursue them individually and cannot use the LLC in bankruptcy as its collection mechanism.

[1] See N.C. Gen. Stat. § 105-154(d).

[2] See generally Bruce P. Ely & William T. Thistle II, An Update on the State Tax Treatment of LLCs and LLPs, State Tax Notes (Oct. 28, 2019), at Table 1.

[3] 2020 WL 4582282, *3.

[4] Id. at *2.

[5] Id. at *4.

[6] Id. at *4 (citations omitted).

[7] Id. at *5 (footnote omitted).

Equity Will Not Suffer a Wrong Without a Remedy*

Two business “partners,” whether coshareholders, LLC members, or operating in partnership form, are like spouses in a marriage. At some point, a large percentage of both unions which began in happiness end in acrimonious divorce. Each “partner” in both has a parental claim to the “baby.” Hence, who retains custody becomes a critical issue. Judges with equitable jurisdiction are asked to exercise their broad discretion with as much flexibility as warranted to fashion an appropriate remedy.[1] Equity’s power to fashion a remedy to fit the circumstances is not limited by the express authority granted to courts in statutes that authorize relief for minority oppression or provide other dissolution authority.[2] The Revised Uniform Limited Liability Company Act explicitly provides that it is supplemented by principles of equity.[3]

Cases from different jurisdictions provide nonexclusive suggestions for remedies and lists of factors to be considered when fashioning relief. Trial judges, sitting through the testimony of credible and disingenuous witnesses, in addition to hearing the spoken words that later appear in the transcript, have the benefit of observing demeanor. The partner who comes off as “reprehensible,”[4] “obdurate,”[5] “imperious,”[6] or “entitled”[7] will not fare well with a dedicated judge striving to do the right thing. Conscious of the trial court’s ability to observe, and guided by the breadth of its equitable discretion, appellate courts approve sensible, but sometimes unusual, orders made below.

In a three-shareholder minority oppression case, the New Jersey Supreme Court upheld the “uncommon remedy” of the minority buying out the majority.[8] In another case, where a father and one son defrauded a second son out of his interest in two corporations they then stripped of all value, the trial court recognized that simply restoring the plaintiff to his interests in the corporations was not a meaningful remedy. The court ordered the defendants to buy out the plaintiff at a value determined as of the date of the complaint when the corporations still possessed their assets. The ruling was upheld even though there was no minority oppression to provide the statutory basis for a buy out.[9] The Missouri Supreme Court upheld the trial court’s exercise of discretion designed to avoid duplication of a plaintiff’s recovery when it affirmed valuation discounts applied in determining fair value and adjustment of the valuation date.[10]

Recently, however, the Mississippi Supreme Court appeared to stretch the bounds of equity.[11] Citing precedent approving the concept that issued stock could be cancelled or redeemed, it upheld the chancellor’s decision to transfer shares from the 51-percent majority shareholder to his 49-percent minority partner to achieve joint control. Dissolution, sought by both parties (at the same time as each sought control), was deemed not feasible because the corporation had only one significant asset: a subcontract from which its revenue derived. Although the possibility of deadlock was acknowledged, the chancellor viewed the equity shift as the only viable remedy to avoid continued oppression.

Whether equity’s authority extends to shifting ownership is one for scholars to debate. A practical question is whether it is better to separate two antagonists or force them to live together. One may speculate that the Mississippi chancellor envisioned joint control as a catalyst to facilitate agreement on a retirement plan for the older partner or one buying out the other. The fact that amicable resolution can be achieved with the aid of good business counsel may have prompted the chancellor to add to his order the unusual directive that the corporation retain a corporate attorney and an accountant.

Compelling warring parties to face reality and resolve their differences is not new. In a dispute between two members of an LLC, the Delaware vice chancellor rendered his opinion, but then afforded the two business partners a time to resolve their differences knowing what the court’s order would be.[12]

Unfortunately, separation is inevitable when either party (or his or her lawyer) is irrational or emotionally invested. Long before actions for minority oppression became common, an erudite New Jersey justice had opined that business divorce seems inevitable when the breakdown in the relationship between the partners is irremediable.[13] The quintessential illustration of this is where the actions and litigiousness of the parties made it clear that their relationship was so intractable and acrimonious as to be toxic, resulting in a majority of the Delaware Supreme Court upholding the appointment of a custodian to sell the company and divide the proceeds.[14]

* 2 Pomeroy, Equity Jurisprudence § 423 (5th ed. 1941).

[1] Matajek v. Watsun, 449 N.J. Super. 179 (App. Div. 2017).

[2] Brenner v Berkowitz, 134 N.J. 488 (1993).

[3] Uniform Limited Liability Company Act (2006) (harmonized) (last amended 2013).

[4] Boatright v. A&H Technologies, Inc., 276 So. 3d 687 (Miss. 2020).

[5] Musto v. Vidas, 281 N.J. Super. 548 (App. Div. 1995), cert. denied, 143 N.J. 328 (1996).

[6] Compton v. Paul K. Harding Realty Co., 285 N.E.2d 574, 581 (Ill. App. 1972).

[7] Sipko v. Kroger, Inc., 2020 WL 4811545 (N.J. App. Div. 2020), rem’d, 214 N.J. 364 (2013).

[8] Muellenberg. v. Bikon Corp., 143 N.J. 168 (1996).

[9] Sipko, 2020 WL 4811545.

[10]Robinson v. Langenbach, 599 S.W.3d 167 (Mo. 2020).

[11] Boatright, 276 So.3d 687.

[12] Haley v. Talcott, 864 A.2d 86 (Del. Ch. 2004).

[13] Stark v. Reingold, 18 N.J. 251, 266 (1955).

[14] Shawe v. Elting, 157 A.3d 152 (Del. 2017).

A whole lot has changed in the last seven months, but one thing that seems to remain constant is a common desire to do something—anything—to make a difference. Many lawyers, and all judges, are lucky enough still to have jobs and meaningful work, but we are surrounded by people who don’t. Many individuals and families in our communities that always expected to be able to pay their bills now find themselves unable to do so. Sometimes, those bills are the monthly rent. And sometimes landlords who no longer are able to collect the monthly rent are unable to pay their mortgage and real estate taxes, perhaps for the first time ever.

Of course, individuals and families are not the only ones who may not be able to keep up these days. Small businesses are also struggling; you can see it on a socially distanced walk through any downtown area, whether in my local neighborhood of Brooklyn Heights or a two-stoplight town in a rural community. Many businesses are struggling to hang on, navigating a complicated path to resuming operations safely. Others have shut down, at least temporarily. Some businesses are already lost, with their oval “OPEN” neon signs replaced by large “FOR RENT” signs.

What does any of this have to do with pro bono? The answer is, “a whole lot, in a lot of ways.” Pro bono representation of an individual or small business that otherwise would not have access to legal advice always makes a difference. Not just usually, but always. As we face a triple pandemic of a public health emergency, a significant economic downturn, and a historic national reckoning with the plague of institutional racism, it could not be more important for lawyers individually and the legal profession as a whole to step up to the challenge of providing adequate legal services to those who cannot find or afford them, for so many reasons. Here are just a few.

First, it seems likely that an unprecedented number of individuals won’t be able to pay their monthly bills, including their rent or mortgage. Many states, including New York, have adopted moratoriums on evictions, but these will soon expire. It’s bad enough not to be able to pay the rent or to miss a mortgage payment (or two). But it must be terrifying to face that situation and to have no one to help you identify your options, negotiate with your landlord or the bank, and find the best path forward. Pro bono counsel can help.

There’s another party to each of these relationships: large landlords and mortgage lenders who are well represented by legal counsel. I see many situations in my virtual courtroom where those counsel truly rise to the occasion and embrace a problem-solving approach. After all, a good tenant who has been furloughed, but has good future prospects, may well still be a fundamentally good tenant. The temporary disruption to that landlord-tenant relationship may well be a solvable problem.

However, not every landlord is a large, well-heeled (and well-represented) corporation. Some are family businesses. Much urban housing is small, perhaps a mixed-use building with a few residential and commercial units. Maybe the owners live downstairs and rent one or two floors upstairs, and have their own mortgage to pay, not to mention real estate taxes and utilities. And maybe the owners have never missed a payment or even considered how to respond to a tenant—and neighbor—who can’t pay the rent. Maybe that’s also a solvable problem. Again, pro bono counsel can help.

What about a job loss? News reports tell us that record numbers of individuals are seeking unemployment benefits. What access do they have to federal and other benefits programs designed to sustain businesses through these times? Access to these benefits may require fluency in legal language that comes naturally to lawyers, but not necessarily those who are in need. When a process is frustrating, those who need it most may just give up—and give up hope too. Here as well, pro bono counsel, fluent in the law and not likely to be intimidated by an administrative process, can help.

Perhaps most important, what about that intangible sense that someone—anyone—is on your side? That someone thinks that helping you is their job, and not the other way around? I recall representing pro bono clients in my practice days and seeing the transformative effect of simply greeting them at our firm’s fancy reception desk, walking them to a conference room, asking how they take their coffee or tea (and making a mental note to remember it for the refill), and listening to their narrative until they were done with the whole story, until the answer to the question, “can you tell me more about that?” was a smile and a shake of the head, just as if they were the senior investment banker on the big deal that was headed to litigation. Whatever else that client knew by the end of our meeting, they knew for sure that someone was absolutely in their corner and on their side. Pro bono counsel can do this, too, and so much more.

These are tough days and tough times. More than ever, lots of people and small businesses need recognition and assistance with solving their problems. Some of these problems are existential. Pro bono counsel can help. Please don’t wait—whether it will be your first or your hundred-and-first pro bono case, someone needs your help. Yes, yours. And soon.

The COVID-19 pandemic has made online dispute resolution (ODR) a mainstream feature of appropriate or alternative dispute resolution (ADR). Historically, ODR tended to be used for cases where the cost of in-person meetings or hearings was impractical, or by parties enthusiastic about the use of technology. Now, with the limited ability to travel and hold in-person meetings, ODR has become a necessity.

Parties reluctantly adopting ODR will find it has several benefits, such as being less expensive, greener, and more flexible and convenient for convening parties in disparate locales around the world. On the other hand, ODR results in the loss of in-person interaction that can be critical for building trust and rapport. In addition, some parties may have challenges using or accessing technology, and there is greater risk of unauthorized behaviors, such as attempts to record proceedings or include a third party without permission.

Although ODR can dramatically reduce the difficulty and cost of resolving international disputes, having a California-based neutral meet online with, say, Tokyo- and London-based parties comes with its own tribulations. Where multiple time zones are involved, there may be only a few hours of traditional business time available.

As neutrals with experience mediating and arbitrating with parties located abroad, we have put together this list of three tips to keep in mind.

1. Do More Asynchronously

Give serious consideration to whether an online meeting or hearing is really necessary, and if it is, how it might be made more time efficient. For example, getting the parties to agree to exchange mediation briefs with one another can help ensure that both sides are thinking about the same issues at an early stage. Holding premediation caucuses with each side can be particularly effective because it allows the mediator to master the factual and legal background in advance and identify information gaps that may need to be addressed prior to the main session.

A mediator may also stagger a mediation so that a first party joins online before the second. This can help to avoid the second party sitting around waiting for the mediator to complete an initial discussion with the first party. Of course, mediators should be cognizant that different parties may have different levels of sophistication and familiarity with the process, and should avoid the appearance of giving preference to one party as a result of staggered joining times.

In arbitration, ex parte discussions are generally not allowed, but it may still be possible to simplify or minimize hearings. For example, a live evidentiary hearing is not necessary in many cases, and discovery disputes and motions can often be heard solely on the documents—something to which parties based in civil law jurisdictions will be more accustomed. Another common time-saving device in international disputes is to submit all direct testimony in the form of witness statements and to reserve hearing time for cross-examination. Using a chess-clock system can also help the proceedings stay on track, especially given that countdown timers are more readily visible on a computer screen than in a hearing room.

2. Consider Physical Settings

Neutrals should discuss ODR environments with the parties in advance. This should not only include obvious points such as the prohibition on the presence of unauthorized parties or the recording of the meeting, but also the importance of having a stable internet connection and a home or work environment free of distraction to the extent possible. In the case of mediation, consider in advance whether you wish to speak with the lawyer separately from his or her client. Lawyers and clients often Zoom in together from the same physical space, but this makes it difficult to speak with the lawyer about client control or other issues that would best be discussed separately.

Due to pandemic-related restrictions on movement, a party may be forced to participate in an ODR proceeding with a less than ideal background; therefore, the neutral should make an effort to help resolve this in advance or discuss accommodations. Neutrals should lead by example and ensure they have a stable online connection together with a nondistracting background. Virtual backgrounds can sometimes be distracting, especially when combined with movement.

3. Be Sensitive to Local Conditions and Expectations

No one wants to start a meeting at 4 a.m. or 10 p.m., but that may be the unfortunate necessity of international ODR. Neutrals should be aware of the local times of all participants, and where meetings or hearings on multiple days cannot be held at a mutually convenient time, the time should rotate to avoid disadvantaging any particular party.

Consistent, high-quality internet service cannot be taken for granted in many countries. As a result, parties might experience difficulty accessing the meeting, or their connection might be compromised in ways that make it difficult for others to understand what they are saying. To the extent possible, conduct a test prior to a hearing and give parties the option of appearing by telephone or with their video turned off.

The neutral should also check with the parties in advance on their preferences and availability, being sensitive to local norms. We can think of examples, particularly in developing countries, where parties sometimes have unexpected flexibility to start early, or unusual requirements to end early, in order to avoid long commute times caused by infrastructure constraints. In addition, not all countries observe daylight savings time, and some switch to and from daylight savings time on different days. If the local time changes between when a meeting is set up and when it will occur, it is possible that a party (or the neutral) will show up an hour late. Applications like Outlook and Google Calendar can help prevent this outcome by automating an otherwise error-prone process of calculating time differences.

Systemic racism continues to be embedded in every fabric of our society and, in light of recent events, the world can no longer ignore the disproportionate impacts on African-American and Black communities stemming from systemic racism. In response to the deaths of George Floyd, Ahmaud Arbery, Breonna Taylor, and countless other African-Americans, the leadership of the Business Law Section (“Section”) of the American Bar Association issued a statement in support of Black Lives Matter and to stand, without presumption, in solidarity with the Black community and with all people seeking an end to racism and intolerance. The statement reaffirms the Section’s fundamental commitment to diversity, inclusion, and social justice, and names the Section’s commitment to redouble its efforts to eliminate systemic racism and to advocate for needed legal reforms through the power of business law, business lawyers, and business court judges.

Under Model Rule 8.4(g) of the American Bar Association Rules of Professional Conduct (the “Rule 8.4(g)”), it is professional misconduct for a lawyer to engage in conduct that the lawyer knows or reasonably should know is harassment or discrimination on the basis of race, sex, religion, national origin, ethnicity, disability, age, sexual orientation, gender identity, marital status, or socioeconomic status in conduct related to the practice of law.  

Before the adoption of Section (g), Rule 8.4 already prohibited misconduct related to the practice of law, including violating or attempting to violate the rules, committing certain criminal acts, engaging in dishonesty/fraud/deceit/misrepresentation, engaging in conduct prejudicial to the administration of justice, communicating an ability to influence improperly a government agency, or helping a judicial officer to engage in unethical conduct. Section (g) added to the concept of misconduct, but specifically states that it does not “limit the ability of a lawyer to accept, decline, or withdraw from a representation in accordance with Rule 1.16. This Paragraph does not preclude legitimate advice or advocacy consistent with these Rules.”

Section (g) helps the legal profession by helping with public perception. The community will benefit from a legal system that is fair and unbiased. A positive public perception of an unbiased system assists the operation of the courts and the practice of law. The section also helps lawyers by providing clear definitions and parameters of what is prohibited and setting out guidelines and comments to protect the operation of law practice and right to free speech, thought, association, and religious practice. Consistent rules from jurisdiction to jurisdiction also aid legal practitioners and their clients engaging in interstate business.

Despite the positive benefits of the Model Rule, in the two years following the rule, Vermont was the only state to officially adopt the rule. Several states had either formally or informally declined to adopt or consider adoption. The objections to the rules ranged from “religious liberty” objections to more academic and politically philosophical objections.

In light of current events, including the deaths of George Floyd, Ahmaud Arbery, Breonna Taylor, the push for states to adopt the Model Rule has resurfaced. On July 15, 2020, the Standing Committee on Ethics and Professional Responsibility issued (“Formal Opinion”) offering guidance on the purpose, scope, and application of Model Rule 8.4(g). The Formal Opinion addresses many objections to the adoption of the rule by outlining several representative situations for application of the rule. The Formal Opinion again encourages states to adopt the rule, stating, “Enforcement of Rule 8.4(g) is therefore critical to maintaining the public’s confidence in the impartiality of the legal system and its trust in the legal profession as a whole.”

Anti-racism is the active process of identifying and eliminating racism, and this is a call for action for the legal profession to not stay silent or passive in this movement when the Section has committed to advocate for the elimination of systemic racism. The legal profession must take action to combat the imbalances within the legal profession. The following are some actions that the legal profession can take to address racism and its effect:

• Education. Achieving equity requires understanding not only the current experience of marginalization and oppression but also the broader social structure and how a history of lost opportunities and disenfranchisement have widened the race gap. A lack of education and understanding contributes to bias, which in turn creates barriers and impedes the retention and advancement of diverse lawyers.
• Improving Systems to Reduce Bias. Unconscious bias training at regular intervals should be provided in the workplace. This training is especially important for those in interviewing and hiring positions and decision-making roles for promotions and advancement opportunities. Existing processes should be examined to see how bias affects staffing and advancement. For example, assessing whether the work allocation system is based on objective merits whereby technical skills, judgment, and work ethic will earn placement on challenging, high-profile, and career-advancing files, or whether the system leaves room for subjective preferences based on soft skills and who “fits” in with the team.
• Culture. Key support comes from top-down. Leadership in the workplace should commit to creating a culture where all members can be their authentic self and to taking active and meaningful action to address systemic racism within the legal profession.
• Assessing Data. In-house counsel who are decision-makers when selecting which law firms or service providers to retain can request data related to the demographics of the lawyers at the firm to assess whether the firms are meeting diversity benchmarks and metrics. In-house counsel can also engage in continuous review of existing relationships to determine whether diverse lawyers are billing on their files and in lead counsel roles.

Each of us in the legal profession has a role to play in eliminating systemic racism. Lawyers are advocates at the forefront of change, so let us all take steps in advocating for equity and justice within our profession.

Reopening a business during the pandemic is essential and inevitable, but it will certainly be a daunting process that will require consideration of how workers can be brought on board safely, how customer concerns will be addressed, and how everything can be done in a way that allows the company to survive financially.[1] Larger companies have been investing significant amounts of resources on designing and implementing their reopening plans; however, small businesses don’t have the same resources but still need to address all of the same challenges. In this article, we’re going to take a look at how recommended “big company” strategies can be retooled to meet the needs of your small business clients.

First of all, your clients need to have a reopening plan that takes into legal and regulatory requirements and the specific needs and expectation of their workers. While the owners should be responsible for collecting all the necessary information, creating the plan should be a “family affair” that includes representatives of all of the company’s departments and activities. It is essential to have input from a group of employees who can express the divergent concerns that will inevitably arise in the workforce including views on remote working and scheduling and concerns about preexisting health conditions that increase vulnerability to the virus and caring for family members. For the smallest of businesses, this means everyone can be involved. If that’s not feasible, make sure that the team members are well-connected to other employees and also make sure that there are other means for all employees to provide input and suggestions and submit concerns (e.g., an anonymous hotline).

Each plan will be different; however, reference should be made to guidelines released by federal governmental agencies such as the Centers for Disease Control and Prevention (e.g., CDC Guidance for Businesses and Employers), Occupational Safety and Health Administration and Equal Employment Opportunity Commission, state and local governmental bodies, and any industry-specific protocols and guidance issued by nonprofit and inter-governmental organizations such as the Business & Human Rights Resource Centre, the Institute for Human Rights & Business and the OECD Centre for Responsible Business Conduct. If one exists, the company should participate in any group of similar businesses that may have been formed to share best practices on how to respond to the virus. This can be particularly valuable for smaller businesses that lack the resources for creating a robust plan on their own, but care must be taken to implement suggestions in a manner that is reasonable given the size of the enterprise.

When developing and implementing the plan, the owners should not only involve you, as their attorney, to explain legal requirements and risks, but also secure guidance from workplace health and safety consultants who can assist on preparing the workplace. The plan needs to cover protecting the workspace and lay out the details of a new workplace that is configured to address and reduce the risks associated with the virus. Among the issues and questions that need to be considered are:

• The company’s policies regarding telecommuting, including how the company intends to monitor work hours and performance of employees while they are working outside the office
• Social distancing, personal hygiene, use of masks and other personal protective equipment, reconfiguring workspaces, and cleaning
• Managing and protecting common workspaces such as elevators and breakrooms
• Manipulating work schedules to reduce crowding in the workspace
• Health checks, which should be done by persons who have been properly trained and based on legal advice regarding the types of information that employers can collect from employees, how that information can be used, and how it should be protected to respect workers’ privacy rights
• Protecting employees against risks associated with third parties entering the workplace (e.g., providing that the company’s policies apply to all visitors and requiring that outside sanitation teams follow safety protocols)

In addition to protecting the workplace, consideration needs to be given how and when the available worker talents are deployed. Companies need to consider when they will reopen for business and what activities will be required in order to provide the services that will actually be purchased by customers and clients. The answers to these questions will dictate which of your client’s employees are absolutely necessary to conduct business. Once that group has been identified attention can turn to the best way to deploy them. Can some of them work remotely? Can the company offer flexibility in terms of timing to those employees who must be in the facility to carry out their job activities? Are there any known risks associated with likely worker commuting patterns, such as the need to take long trips on public transportation? Which of the employees have special issues that need to be considered, such as the need to care for children and other family members or legally-protected characteristics and conditions such as age or disability? The company needs to be prepared to comply with reasonable requests for accommodations in a consistent manner and assist workers with exercising their rights related to extended leaves and childcare obligations. When making decisions about which workers to bring back, care must be taken not to act in a manner that might be seen as discriminating against particular groups (e.g., women, workers from certain racial or ethnic groups, or people known to have pre-existing health problems).

The company also needs to have a plan in place in advance to respond to news that an employee has symptoms of the virus or that a member of an employee’s family has virus-related health issues that require that the employee take time off from work to assist with care and maintenance of the household. When these types of situations arise, the company must act carefully but compassionately and document the response following consultation with applicable federal and state laws and regulations related to maintaining confidentiality of an employee’s health situation and sick and family leave. The legal requirements for paid sick and family leave need to be understood, particularly exceptions for smaller employers and for certain types of employees; however, employers may decide to offer more generous benefits. Whatever approach is taken, the rules must be clear and transparent so that employees know when they can leave the workplace due to illness and what they can expect from the company in terms of pay, benefits, and criterion for returning to the workplace once the personal health crisis has passed.

Deliberation, communication, patience, flexibility, and compassion are the essential elements for any plan that your small business client has for reopening its workplace during the pandemic. Trust is essential during this whole process, and company leaders need to be committed to transparency and consistently communicating with workers, customers, and others impacted by the company’s decisions and operations. Assisting clients in reopening in ways that are compliant with laws and voluntary standards of social responsibility is both a challenge and an opportunity for you as a business counselor. Small business owners have been devastated by the economic and social impact of the pandemic and many have understandably lost faith in the ability of their elected officials to provide support and clear guidance.

Business attorneys can play a unique role in filling in the gaps for their clients, serving as advocates for their causes and providing resources that will be valuable to all members of the community. For example, lawyers can collaborate with local bar associations to provide tools and tips for small business owners in the online world such as compiling a list of frequently asked questions and answers for owners accompanied by links to government resources. Now is also the time to visit small business owners in their communities—safely of course—to be sure that the valuable information that you have gets to the people who need it. However, in order to that it is essential that you become and remain informed about developments and there are comprehensive resources available from sources such as Practical Law (Business Reopening and Return to Work Checklist) and FindLaw. This is not something that will simply “disappear”: it is a long-term issue that you will need to integrate into your overall approach to serving you small business clients.

[1] Alan S. Gutterman is the Founding Director of the Sustainable Entrepreneurship Project (www.seproject.org), a California nonprofit public benefit corporation with tax exempt status under IRC section 501(c)(3) formed to teach and support individuals and companies, both startups and mature firms, seeking to create and build sustainable businesses based on purpose, innovation, shared value and respect for people and planet. Alan is also currently a partner of GCA Law Partners LLP in Mountain View, CA and a prolific author of practical guidance and tools for legal and financial professionals, managers, entrepreneurs and investors on topics including sustainable entrepreneurship, leadership and management, business law and transactions, international law and business and technology management. He is the Co-Chair of GP Solo’s Business Law Committee and co-editor and contributing author of several books published by the ABA Business Law Section including The Lawyer’s Corporate Social Responsibility Deskbook, Emerging Companies Guide (3^rd Edition) and Business and Human Rights: A Practitioner’s Guide for Legal Professionals (Forthcoming Fall 2020). More information about Alan and his work is available at the Project’s website and his personal website. A longer version of this article was originally published on May 20, 2020 on the website of the Sustainable Entrepreneurship Project (which includes additional information on sources and other resources).

 The credit reporting system is an integral part of the fabric of consumer credit in the United States. Credit scores, derived from data provided to credit reporting agencies, from creditors of all shapes and sizes, dictate whether a consumer can obtain credit and how much that credit will cost. As such, there is a need for the data furnished to be accurate and complete to ensure the integrity of the system. Enter a global pandemic due to the new coronavirus (“COVID-19”) with businesses shuttered around the country. People have been furloughed, laid off, or otherwise left jobless and unable to pay their bills, circumstances that threaten to cripple the US credit market.

Congress acted by passing the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act” or the “Act”), billed in part as a comprehensive COVID-19 relief plan. Recognizing the importance of consumer credit reporting, the CARES Act included provisions which attempt to protect consumer credit if the consumer enters into an “accommodation” with a furnisher of consumer credit data. An “accommodation” is an agreement to defer one or more payments, make partial payments, forebear delinquent amounts, modify a loan or contract, or receive any other assistance or relief granted by a creditor, to a consumer affected by COVID-19 during the “covered period.” The “covered period” is the period beginning on January 31, 2020 and ending 120 days after the national emergency terminates. Different reporting requirements apply, depending on whether the consumer’s credit obligation is current or delinquent when the furnisher makes an accommodation.

For example, if a furnisher makes an accommodation with respect to one or more payments on a consumer’s credit obligation or account when it is not delinquent, and the consumer makes the payments or is not required to make one or more payments under the accommodation, then the furnisher must report the obligation as “current.” When reporting an account as “current,” a furnisher should consider all of the trade line information they furnish reflecting an account as current or delinquent and cannot simply use a special comment code to report a declared disaster or forbearance. If the obligation or account is delinquent before the accommodation (but not yet charged-off), the furnisher must maintain the delinquent status while the accommodation is in effect and, if the consumer brings the obligation or account current during the accommodation period, the furnisher must report it as current.

The Consumer Financial Protection Bureau (“CFPB” or the “Bureau”) provided the following example in its guidance: “If at the time of the accommodation the furnisher was reporting the consumer as 30 days past due, during the accommodation the furnisher may not report the account as 60 days past due. If during the accommodation the consumer brings the credit obligation or account current, the furnisher must report the credit obligation as current.” Once an accommodation ends, the furnisher must continue to report the time period covered by the accommodation in accordance with the CARES Act protections. For example, the furnisher may not report a consumer who they reported as current during the accommodation as delinquent post-accommodation if payments were made in accordance with the accommodation plan.

Furnishers, who may already be facing operational challenges as a result of remote work and loss of staffing, could face challenges when trying to comply with the Act. The CFPB responded with a policy statement and Frequently Asked Questions guide, indicating it would provide some “flexibility” in its enforcement approach to help furnishers manage these challenges. However, the CFPB warned furnishers that the Bureau still has an expectation of compliance, and that it would be appropriate to evaluate individually the circumstances of each furnisher and its “good faith” efforts to comply.

All of this regulation and guidance leads to a fundamental question, namely whether the CARES Act provisions on credit reporting truly protects the consumer’s credit, and, perhaps more importantly, the consumer’s credit score. Without question, this CARES Act provision should protect a consumer from having a delinquency show on their credit report when they enter into an accommodation. However, the consumer credit report may use a “special comment code,” which would show the debt being in an accommodation plan, such as payment deferral or forbearance. While the CFPB has emphasized that such a code may not fully satisfy the requirement, as the furnisher should look at other data fields to ensure they show the debt as “current,” there is no restriction from inputting an accurate description of the debtor’s current position with the loan. Such a description may in fact be required in order to fully and accurately show the status of the obligation. These descriptions can, and often will, lead to a decrease in a consumer’s credit score. Even if a decrease does not occur, the coding itself could lead to a consumer’s lack of ability to obtain credit, as some creditors will require a number of payments post forbearance, before they will lend new credit.

So, what should a furnisher do? The furnisher must balance their operational challenges, their staffing, and their desire to provide the best customer service they can with the enhanced reporting requirements required by the CARES Act. The furnisher should establish policies and procedures to ensure accommodation plans are appropriately flagged and thus reported correctly. The furnisher should establish a plan to answer a consumer who asks, “Will this accommodation hurt my credit?” so as to not create a false impression of the overall impact on a consumer’s credit health. Finally, the furnisher should document the steps they have taken to comply, and, just as importantly, the operational or technical roadblocks that could prevent full and absolute compliance. These steps will help furnishers mitigate the risks that may result, including litigation and regulatory action.

The Doctrine of Unforeseen Circumstances

The economic impact and uncertainties related to the spread of COVID-19 might put pressure on business agreements, especially M&A transactions nearing signing or closing. It comes as no surprise that actual and potential business repercussions of the COVID-19 pandemic have prompted parties to try to walk away from a deal that suddenly appears less appealing than before the pandemic. Aside from force majeure, the most commonly used argument to go back on existing deal terms has been unforeseen circumstances.

In the Netherlands, courts may modify or terminate a contract based on the doctrine of unforeseen circumstances (article 6:258 Dutch Civil Code). In essence, this doctrine contains the following elements:

• the occurrence of an unforeseen event;
• as a result of which continuation of the contract in its current form cannot reasonably be expected; and
• the risk related to the unforeseen event cannot be deemed to be borne by the party relying on the doctrine of unforeseen circumstances.

The burden of proof is high. As an example, Dutch courts considered the worldwide financial and economic crisis of 2008 an entrepreneurial risk, which did not justify the modification or termination of business agreements.

COVID-19 and Measures Taken in Response May Constitute an Unforeseen Event

An event qualifies as unforeseen if it has not been taken into account in the contract either expressly or implicitly. In addition, the event must occur after the parties entered into the agreement.

In the Netherlands, the World Health Organization (WHO) reported the first case of COVID-19 on February 27, 2020. On March 11, 2020, the WHO characterized COVID-19 as a pandemic. On March 15, 2020, the Dutch government declared a lock-down to curb the spread of the virus.

There is no general rule on the date up to which the pandemic would still be considered a future event. Similarly, parties can disagree on whether the impact of the pandemic  had been discounted in the contract, either implicitly or explicitly by, for example, inclusion of a material adverse effect clause (MAE). This is a question of contractual and contextual interpretation. In the Netherlands, the literal meaning of a contractual provision is not always decisive. Based on the specific circumstances of the case as put forward by the parties, the court will assess what the parties could reasonably understand a provision to mean and what they could reasonably expect from each other on that basis.

In general, Dutch courts accept that the spread of COVID-19 and the government measures taken in response could qualify as unforeseen circumstances.

Private Equity Firm Ordered to Execute SPA

In one of the first pandemic-related cases, Nordian v. J-Club, the Amsterdam District Court ordered the private equity firm Nordian to proceed with the signing of a share purchase agreement (SPA) and rejected the firm’s argument that it could not be expected to sign in view of the pandemic.

The buyer Nordian was selected through a controlled auction after the firm submitted a binding offer with fully committed financing. Nordian and the sellers entered into a signing protocol on February 28, 2020, which provided for the signing of an SPA in agreed form. The parties were obliged to sign the SPA as soon as Nordian obtained representations and warranties insurance.

On March 19, 2020, after the Dutch government declared a lock-down, Nordian tried to abandon the deal. The sellers brought summary proceedings to secure Nordian’s signing of the SPA.

Nordian cited “unforeseen circumstances” and argued that the sellers could not expect the SPA to be signed in its agreed form in view of the circumstances resulting from the pandemic. The court dismissed this defense. The potential consequences of the pandemic for the target had been discussed between the parties prior to execution of the signing protocol. In the context of this discussion, the purchaser had not opted to negotiate an MAE clause. Through the discussion and the decision not to include an MAE clause, the court found that the parties had taken into account the consequences of the pandemic. Therefore, in this case the pandemic was not an unforeseen event, and Nordian was ordered to sign the SPA.

The Contractual Allocation of Risk and the Pandemic

Another fundamental element of the doctrine of unforeseen circumstances is whether the unforeseen event is such that continuation of the original agreement cannot reasonably be expected. Circumstances that may give rise to judicial intervention include a severe disruption in the balance of the parties’ contractual obligations.

The Principle of Sharing the Pain

In Tennor v. McCourt Global Sports, the Netherlands Commercial Court ruled on the question of whether a break fee was payable despite the pandemic. A letter of intent (LOI) had been signed with respect to the acquisition of a 50-percent stake in an equestrian show-jumping business. The LOI contained a EUR 30 million break fee. The buyer decided not to pursue the transaction and argued that the break fee should be reduced in light of the pandemic.

The NCC noted that the parties had not discussed the impact of the pandemic. However, the LOI included a waiver of claims with respect to the fee. The NCC stated that “the COVID-19 circumstances, at least in the short term, are so exceptional and disruptive that it may be hard to say they were provided for.” The NCC nevertheless saw no need to answer this question and ruled that the pandemic did not make it “unacceptable for the claimant to demand strict performance by the defendant.”

The NCC reached this conclusion based on the principle of sharing the pain. This notion appears in Dutch literature as a possible solution to preserving the contractual balance. The NCC ruled that the break fee—despite the potential impact of the pandemic—should stand: “If the fee were to be reduced in any business downturn, the fee’s purpose—comfort and confidence to get the deal done—would not be accomplished.” Consequently, the allocation of risk provided for by the LOI withstood the pandemic-induced stress test.

Unsuccessful Buyer’s Remorse

A similar decision was reached in Coltavast v. Metroprop (only available in Dutch), which concerned a real estate transaction. Metroprop was supposed to acquire two properties in Coltavast’s real estate portfolio. The transfer was scheduled for March 31, 2020. The sales contract did not cover financing arrangements. Metroprop had difficulty arranging financing and requested that the transfer date be postponed, which Coltavast refused. The matter was brought before a judge in Amsterdam for injunctive relief.

Metroprop argued that it was unable to arrange financing due to the pandemic, and that the value of the properties had decreased as a result of the crisis. In this case, the court accepted the pandemic as an unforeseen circumstance but upheld the contractual allocation of risk. The court ruled that Metroprop—as a professional party—should have been aware of the financing risk and found that Metroprop had failed to act expeditiously with respect to procuring financing for the transaction. The court suspected that this was a case of buyer’s remorse and ordered Metroprop to pay the purchase price and proceed with the transfer.

In Municipality Enschede v. Real Estate Developer (only available in Dutch), a real estate developer tried to renege on its obligation to acquire several plots of land from the municipality of Enschede, citing unforeseen circumstances. The court noted that the pandemic arose after the developer had defaulted under the sales agreement, alluding to the artificial nature of the unforeseen-circumstances defense, and upheld the contractual allocation of risk.

Postponement of Closing Due to the Pandemic

So far, in only one instance did a court allow a minor modification of the contract. In Care v. Vision (only available in Dutch), the court ordered the closing date to be pushed back by two months.

The parties, both specialists in laser eye surgery, signed a sales agreement early March 2020 for the takeover by Vision of Care’s activities. Closing was scheduled for April 1, 2020. On March 17, 2020, the clinics of both parties had to close as part of government measures to contain the spread of the COVID-19 virus. On March 24, 2020, Vision tried to postpone closing by at least six months and renegotiate the sale terms, citing inter alia unforeseen circumstances. Care lodged summary proceedings to enforce the closing of the transaction.

During their negotiations, the parties did not discuss the pandemic, and Vision had not insisted on including an MAE clause in the sale agreement. In the opinion of the court, the pandemic as a whole was not unforeseen at the time of the signing of the agreement; however, the court found that the government measures related to the pandemic were. Noting that Care’s business was mandatorily closed at the time and that Vision was ineligible to receive financial relief from the government, the court ruled that Vision was not reasonably required to close the transaction at the initially scheduled date of April 1, 2020. The court continued, however, that because Care’s clinics had meanwhile reopened and its turnover recovered, Vision could be required to proceed with the closing of the transaction. The court ordered Vision to close the transaction by June 1, 2020. Given that the judgment was dated June 19, 2020, this meant in effect an order to close as soon as possible.

The reference in the court’s reasoning to Care’s recovered turnover after reopening appears to suggest that Vision perhaps could have had successfully avoided the closing if Care’s operations had not bounced back. However, even though the court allowed a minor modification of the SPA, it is unlikely that Vision would have been let off the hook entirely in a more unfavorable recovery scenario.

Conclusion

Deal and business certainty is key. Dutch courts are reluctant to terminate or modify a business contract based on the doctrine of unforeseen circumstances. If the parties discussed the pandemic or if the contract contains an MAE clause, the court will most likely find that the parties have taken the pandemic into account in the contract. In addition, the courts tend to uphold the contractual allocation of risk, despite the impact of the pandemic, and have no patience for buyer’s remorse. The one case in which a court allowed the contract to be modified is likely a one-off exception to the general rule.

This article reflects circumstances through mid-August 2020, when the article was submitted.

While the COVID-19 pandemic has had an effect on almost every aspect of employment, perhaps the biggest change for most employers (and the change that is most likely to have a lasting impact) is the transition of many employees to some form of remote work. Relatedly, many businesses have been forced to recruit and screen job applicants remotely, abandoning traditional in-person interviews and job assessments in favor of virtual meetings and online tools to measure, among other things, cognitive capabilities, emotional intelligence, personality traits, and skill sets. Even prior to the pandemic, many companies were beginning to migrate towards the use of artificial intelligence (“A.I.”) in screening applicants, in hopes that computers would speed up the hiring process, more accurately identify the right candidates for the position, and eliminate human bias and subjectivity in selecting candidates. Whether it was deploying machine learning to identify recruits based on the content of their online profiles, or using algorithms to sort through resumes, or even using face and voice analysis software to assess various competencies and characteristics, A.I. was touted by many companies as a hiring panacea. That drumbeat has only become louder among employers in an environment where live meetings and social interactions have become circumscribed. However, without proper vetting and analysis, these tools can actually introduce bias into the process and expose employers to liability under various federal, state, and local laws. This article explores the ways in which A.I. and machine learning are in use during the screening, interviewing, and hiring process, as well as the complicated (and expanding) legal framework in which these tools must operate, and identifies potential pitfalls for employers seeking to implement these technologies.

COVID-19 Has Accelerated the Move Towards a Work-From-Home Economy

Even prior to the COVID-19 pandemic, working from home was becoming an increasingly common practice. According to a 2012 study, the proportion of U.S. employees who primarily work from home nearly doubled from 2000 to 2010.[2] The number of employees regularly working from home grew 173% from 2005 to 2012, and, in 2016, 43% of employees reported working remotely with some frequency. This has been driven by a number of factors, including an increase in jobs that are performed mostly with computers, the improvement of remote work technology, and an increasing number of households with children in which all caregivers are working.

COVID-19 has obviously accelerated this shift to remote working exponentially. During COVID-19, more than 60% of U.S. employees reported that they have been primarily working from home due to the pandemic.[3] Even in cities and states where employers are not required to have non-essential personnel working remotely, many employers have voluntarily made the switch to prevent the potential spread of the virus within the workplace. While it is unlikely that more than one-half of the U.S. workforce will be working from home full time after the pandemic subsides, many employers are anticipating allowing some form of permanent flexibility in the workweek, even in a post-COVID world. A PwC survey of employers showed that 55% anticipated that most of their workers will be working from home at least one day a week following the pandemic.[4]

The current pandemic and the accelerated move towards a flexible workweek create obvious impediments to the interviewing process, as candidates cannot always be brought in for live conversations with existing employees. During the pandemic, employers have replaced some of these live meetings with video conferencing; however, Zoom meetings can remove some of the subtleties that emerge when individuals are face-to-face. One alternative that employers are increasingly exploring is A.I.

Companies Are Increasingly Using A.I. in All Stages of Screening, Interviewing and Hiring

The use of computer processing power in the screening and hiring process is not a new phenomenon. In fact, for several decades, employers and recruiting firms have been using simple text searches to cull through resumes submitted in response to job listings. These text searches have given way to more complex algorithms that do more than search for identified keywords. For example, Ideal, an “A.I.-powered talent screening and matching system,” has the ability to understand and compare experiences across resumes to determine which candidate’s work history more closely matches the requirements of an open position. Some companies, such as LinkedIn Recruiter and ZipRecruiter, bring A.I. into the equation even earlier in the process, searching the social media and public profiles of millions of individuals to determine whether a job posting is even advertised to a particular candidate.

Once a candidate has been identified, A.I., in the form of chat bots, can be used to automatically reach out to that individual and determine whether the person is available to start on the employer’s preferred timeline or whether the individual is open to commuting. Some companies have applicants play neuroscience computer games, which are then analyzed to predict candidates’ cognitive and personality traits.

A.I. is also utilized in the interview process. One tech company, HireVue, started in 2004 as a video interview platform that allowed candidates to record answers to questions and upload them to a database for recruiters to later review and compare to answers from other applicants.[5] Since then, HireVue has integrated A.I. into its platform. It now uses facial and voice recognition software to analyze body language, tone, and other factors to determine whether a candidate exhibits preferred traits.

The Pros and Cons of A.I. in Hiring

The technology companies developing these A.I. tools tout their ability to help recruiters and HR departments quickly sift through mountains of applicants and more efficiently identify qualified candidates from the outset. Companies might receive thousands of applications for a single job posting, leaving HR departments little choice but to find some way to cut down the number of resumes that have to be reviewed, or alternatively to speed-read resumes trying to weed out unqualified candidates. The use of an A.I. system could ensure that every resume is at least screened. Some A.I. services can also save time by analyzing publicly available data such as social media profiles, resumes, and other text-based data submitted by the applicant, eliminating the need for additional assessments.

Proponents of this technology also argue that A.I. systems can be fairer and more thorough than human recruiters can—some systems can consider upwards of 20 factors in each application in fractions of a second, and these automated systems can apply the same analysis to every applicant, whether it is the first resume reviewed for a position or the five hundredth. While human recruiters or interviewers might be impacted by whether they are having a particularly busy day or whether they were sleep-deprived the night before, facial and voice recognition software analyzes every candidate the same way. A.I. also, theoretically, can be used to avoid the unconscious preferences and biases of human recruiters by stripping out information relating to, among other things, name, age, and gender, all of which can color a person’s analysis of an applicant’s qualifications.

Those who are more cautious about the use of A.I. in recruiting point out that the systems are only as good as the programmers who write the algorithm and “feed the machine.” If an A.I. tool is fed resumes of people who have previously been hired by the company, and the recruiting departments making those hiring decisions harbored subconscious biases and preferences, those biases and preferences could be inherited by the A.I. tool. This could have effects that range from the bizarre—such as the resume screening company whose algorithm determined that the factors most indicative of job performance were having the name Jared and playing high school lacrosse[6]—to the more nefarious. Amazon reportedly scrapped an internally developed recruiting tool after it discovered that the algorithm was disfavoring resumes that included the word “women’s,” (for example, if a resume included information about the applicant’s participation on a college’s women’s ice hockey team) and candidates who graduated from two all-women’s colleges.[7] This occurred because the algorithm had been fed resumes from applicants who had previously been hired by Amazon, and those hires were overwhelmingly male.

Unintentional discrimination could also seep into A.I. systems in less direct ways. An algorithm trained to prefer employees within a certain commuting distance might result in applicants from poorer areas being disadvantaged. Even as recently as 2019, top facial recognition systems were shown to misidentify female black faces ten times more frequently than female white faces.[8] This suggests that A.I. programs might have issues analyzing the facial expressions of black applicants. Differences in speech patterns and vocabulary that correlate with race or ethnicity could complicate automated voice analysis. These are not biases that are being intentionally programmed into A.I. software, but they could nonetheless result in certain groups of applicants being unfairly disadvantaged, which opens employers up to potential claims under various anti-discrimination laws.

Use of A.I. Creates Potential Risks under Existing Employment Laws

Like any other recruiting or hiring practice, the use of A.I. systems to screen and interview candidates implicates Title VII of the Civil Rights Act of 1964 (“Title VII”), a federal law that protects employees and applicants against discrimination based on certain specified characteristics such as race, color, national origin, sex, and religion, as well as the Age Discrimination in Employment Act (“ADEA”). Both Title VII and the ADEA prohibit discrimination based on disparate treatment and/or disparate impact. While a claim of disparate treatment—i.e., intentional discrimination—might seem odd when talking about use of a computer program that by its nature necessarily lacks a discriminatory motive or intent, courts have upheld claims of disparate treatment based on allegations of unconscious or implicit bias.[9] As discussed above, unconscious bias can manifest in an A.I. system because of its programming and training. Thus, a court could find that an employer faces the same liability for a program exhibiting the unconscious bias of its programmer as it would if the programmer had made the hiring decision him or herself, based on that bias.

Alternatively, an employer could face a Title VII or ADEA disparate impact claim if use of a particular A.I.-driven program or algorithm adversely impacts members of a protected class, such as the female applicants who were being disfavored by Amazon’s recruiting tool. Courts analyzing such a claim could turn to a seminal line of cases that dealt with employers’ use of standardized tests in the application and promotion process. In its opinions in Griggs v. Duke Power Company[10] and Albemarle Paper Co. v. Moody[11], the Supreme Court established that if such tests are shown to have a disparate impact on protected groups of employees, employers must establish that the tests are both job-related and represent a reasonable measure of job performance. Courts could apply the same reasoning to A.I. programs and algorithms, whereby employers may be forced to establish how the factors considered by the programs relate to the specific job requirements for the position at issue. In some cases, such as analysis of relevant experience in a resume, an employer might be able to make such a showing easily. In cases where facial recognition software is prioritizing candidates who made eye contact during an automated interview, job-relatedness might be more difficult to establish. In addition, even if an employer shows that the A.I. tool is considering job-related factors, applicants could still succeed on a disparate impact claim by pointing to the existence of a less discriminatory practice that could serve the same job-related business interest.

An A.I.-hiring practice could also implicate the Americans with Disabilities Act (“ADA”) if an algorithm discerns an applicant’s physical disability, mental health, or clinical diagnosis, all of which are forbidden inquiries in pre-employment candidate assessments. The ADA Amendments Act of 2008 broadened the statutory definition of “disability,” increasing the scope of individuals whom the ADA protects. Similarly, the Equal Employment Opportunity Commission (“EEOC”) has issued guidance qualifying the expanded list of personality disorders identified in the psychiatric literature as protected mental impairments.[12] Consequently, the ADA may protect applicants who have significant concentration or communication problems, both of which A.I.-technology may identify as a disqualifying characteristic for employment.

The potential for A.I. recruiting practices to violate existing employment statutes is not hypothetical. In fact, the EEOC has already investigated at least two instances of alleged A.I. bias, and has made clear that employers using A.I. hiring practices could face liability for any unintended discrimination.[13] Furthermore, in September 2018, three U.S. Senators requested that the EEOC develop guidelines for employers’ use of facial analysis technologies to ensure they do not violate anti-discrimination laws.[14] Though the EEOC has not yet responded to the Senators’ request, the Commission’s recent enforcement activities demonstrate its focus on the growing use of new technologies. For example, the EEOC, in 2017, found reasonable cause to believe an employer violated the ADEA by advertising on Facebook for a position within its company and “limiting the audience for their advertisement to younger applicants.”[15]

In addition to laws focusing on discrimination, the use of certain A.I. recruiting tools could implicate state biometric laws. Illinois,[16] Texas,[17] and Washington[18] have laws regulating the collection of biometric identifiers including scans of hands, fingers, voices, faces, irises, and retinas. The laws generally require that businesses collecting biometric identifiers specify how they safeguard, handle, store, and destroy the data they collect, and provide individuals with prior notice and consent, including notice of how exactly the data will be collected and used. Furthermore, New York, California, Washington, and Arkansas have recently amended their existing state laws to include biometric data in the definition of protected personal information. To the extent that employers use facial or voice recognition software to analyze applicants’ video interviews, they may have to develop policies to ensure that their storage and use of that data complies with applicable state laws. Furthermore, the nature of an online application process means that employers may end up inadvertently collecting biometric data from individuals who reside outside of the states in which the company normally operates, which could expose the employer to additional legal requirements of which it might not be aware.

Many States Are Now Focused on Protecting Job Applicants Regarding the Use of A.I. in Hiring

While A.I. in recruiting is not regulated on a federal level, Illinois recently enacted a first-of-its-kind law called the Artificial Intelligence Video Interview Act. Effective January 1, 2020, the law imposes strict limitations on employers who use A.I. to analyze candidate video interviews.[19] Under the Act, employers must: a) notify applicants that A.I. will be used in their video interviews; b) obtain consent to use A.I. in each candidate’s evaluation; c) explain to applicants how the A.I. works and what characteristics the A.I. will track in relation to their fitness for the position; d) limit sharing of the video interview to those who have the requisite expertise to evaluate the candidate; and e) comply with an applicant’s request to destroy his or her video within 30 days.

New York currently is considering legislation to limit the discriminatory use of A.I. technology. If passed, the new law would prohibit the sale of “automated employment decision tools” unless the tools’ developers first conducted anti-bias audits to assess the tools’ predicted compliance with the provisions of Section 8-107 of the New York City Code, which sets forth the city’s employment discrimination laws, and prohibits, among other things, employment practices that disparately impact protected applicants or workers.[20] New Jersey and Washington state legislators introduced similar legislation in 2019.

Furthermore, beginning in 2018, New York, Vermont, and Alabama created task forces to begin studying the development and use of A.I. technologies. The states directed the task forces to assess the A.I.-tools for various benchmarks like discriminatory impact, fairness, accountability, and transparency, and to develop best practices for A.I. usage. These efforts to examine A.I. tools in depth could foreshadow upcoming state regulation of A.I.-driven pre-employment tools.

States legislatures are not the only ones scrutinizing A.I. usage in recruiting. Senate and House Congressional legislators introduced the Algorithmic Accountability Act (“AAA”) in April 2019.[21] The proposed AAA is the first federal law aimed at regulating the use of algorithms by private companies, and would task the Federal Trade Commission with creating regulations that require major employers to assess their A.I. tools for accuracy, fairness, bias, discrimination, privacy, and security and to implement timely corrections. As drafted, the AAA only applies to companies with revenues in excess of $50 million per year, that possess information relating to at least one million people or devices, or that act as data brokers who buy and sell consumer data. Commentators have stated that the proposed act provides clear notice that Congress believes A.I. should be regulated, and will step in.[22]

What Employers Should Be Aware of When Considering Using A.I. in Hiring

Just as COVID-19 has accelerated the transition of many employers to flexible work schedules, the nationwide move to more regular work-from-home arrangements is likely to accelerate the adoption of A.I. tools in the recruiting, interviewing, and hiring process. To the extent that employers are considering using such tools, either in-house or through a recruiting company, there are certain issues of which they should be cognizant:

• Employers should know the factors being considered by the program or algorithm. In much the same way that employers carefully develop and identify non-discriminatory and non-biased factors and considerations that are important to their traditional hiring decisions, they need to be equally as diligent in developing and modifying (where appropriate) the inputs that are fed into their recruiting programs and algorithms used to screen and evaluate potential candidates and applicants. Not only will this enhance the likelihood of recruiting success, but it will give employers the opportunity to assess whether the factors are, in fact, job-related, which is a lynchpin criterion under many employment laws.
• Employers should consider auditing automated tools on a regular basis. One of the main selling points for machine learning tools is that they can adapt on their own to feedback from the person making employment decisions, theoretically leading to better results the longer they are used. The downside of this constant adaptation is that employers cannot rely on an initial analysis of whether the program is returning results that may disadvantage one group or another. Employers should consider regularly auditing the results produced by these tools to ensure that the programs are not inadvertently “learning” illegal or improper lessons from the information that is input. Self-critical analysis of both the inputs and outputs is essential to minimize liability risk under the employment laws.
• Outsourcing does not eliminate risk to employers. Not all employers have the capability of internally developing A.I. tools for recruiting—many likely contract with outside vendors to handle parts of the recruiting process, particularly the initial vetting of applicants and/or the advertising to specific potential candidates. Using such an arrangement, however, does not exempt the employer from liability if the vendor is using tools that discriminate against protected groups. Similar to requests for salary history and background checks, employers may be held liable for violations of employment laws by recruiting companies. As such, employers—through appropriate contract language—should require their recruiters, or others acting on their behalf, to comply with all existing employment laws in connection with the screening and hiring of job applicants.

[1] Summer Associates Rund Khayyat and Kate Waterman assisted in the drafting of this article.

[2] Mateyka, Petr J., Melanie Rapino, and Liana Christin Landivar, ‘‘Home-Based Workers in the United States: 2010,’’ U.S. Census Bureau, Current Population Reports, 2012.

[3] See https://news.gallup.com/poll/306695/workers-discovering-affinity-remote-work.aspx.

[4] See https://www.pwc.com/us/en/library/covid-19/us-remote-work-survey.html.

[5] See https://www.businessinsider.com/hirevue-ai-powered-job-interview-platform-2017-8.

[6] See https://qz.com/1427621/companies-are-on-the-hook-if-their-hiring-algorithms-are-biased/.

[7] See https://www.reuters.com/article/us-amazon-com-jobs-automation-insight/amazon-scraps-secret-ai-recruiting-tool-that-showed-bias-against-women-idUSKCN1MK08G.

[8] See https://www.wired.com/story/best-algorithms-struggle-recognize-black-faces-equally/.

[9] See e. g., Arlington Heights v. Metropolitan Housing Dev. Corp., 429 U.S. 252, 265-266, 97 S.Ct. 555, 563-565, 50 L.Ed.2d 450; see also Kimble v. Wisconsin Dep’t of Workforce Dev., 690 F. Supp. 2d 765, 778 (E.D. Wis. 2010) (holding plaintiff established prima facie discrimination case by relying on evidence of employer’s implicit bias).

[10] 401 U.S. 424 (1971).

[11] 422 U.S. 405 (1975).

[12] Equal Employment Opportunity Commission (EEOC), Enforcement Guidance on the ADA and Psychiatric Disabilities, (1997), https://www.eeoc.gov/laws/guidance/‌enforcement-guidance-ada-and-psychiatric-disabilities.

[13] U.S. Equal Employment Opportunity Commission, Press Release: Use of Big Data Has Implications for Equal Employment Opportunity, Panel Tells EEOC (Oct. 13, 2016), https://www.eeoc.gov/eeoc/newsroom/release/10-13-16.cfm.

[14] Senators Kamala Harris, Patty Murray, Elizabeth Warren, Letter to the U.S. Equal Employment Opportunity Commission, https://www.scribd.com/embeds/388920670/content#from_embed.

[15] See Commc’ns Workers of Am. v. T-Mobile US Inc., 5:17-CV-07232 (N.D. Cal. 2017); see also Mindy Weinstein, U.S. Equal Employment Opportunity Commission Determination Letters, available at https://www.onlineagediscrimination.com/‌sites/default/files/documents/eeoc-determinations.pdf.

[16] Ill. Biometric Information Privacy Act, 740 ILCS 14/1 et seq. (2008).

[17] TX Bus. & Com. Code §503.001 (2009).

[18] Wash. Rev. Code Ann. §19.375.020 (2017) (prohibiting companies from entering biometric data into a database without prior notice and consent).

[19] 820 ILL. Comp. Stat. Ann. 42/1.

[20] Int 1894-2020 (N.Y. 2020).

[21] H.R.2231, 116^th Cong. (2019); S. 1108, 116^th Cong. (2019).

[22] See, e.g., Starner Tom, AI can Deliver Recruiting Rewards, but at What Legal Risk?, Human Resource Executive, Dec. 31 2019, https://hrexecutive.com/ai-can-deliver-recruiting-rewards-but-at-what-legal-risk/.