MALAYSIAN ARBITRATION ACT 2005

BY: Farhan Riyaz Khan

(G 1013361)

INTRODUCTION• As commercial parties become more sophisticated and aware of the

pitfalls of litigation, arbitration is quickly developing as the preferred method of alternative dispute resolution. This is because arbitration allows businesses to have a confidential, efficient and flexible method of resolving disputes, as opposed to potentially drawn out litigation in the civil courts that may be accompanied by undesirable media attention.

• However, parties, especially foreign parties, are often reluctant to settle their disputes by an arbitration governed under the laws of a country with which they are unfamiliar for the simple reason because they are unsure as to how effective the arbitration process would be.

• In Malaysia, under the previous lex arbitri, there was no distinction between domestic and international arbitration and hence judicial attitude towards ensuring domestic arbitrations met domestic legal standards was extended to all forms of arbitrations.

• It was only in 1980 that parliament first implemented a legislated curtail on judicial interference vide Section 34 but this was of a limited extent as it was only applicable to KLRCA arbitrations or those arbitrations that applied the UNCITRAL Rules as the lex arbitri or the lex fori.

• Reform finally took place with the enactment of the new Arbitration Act 2005 (Act 646) on 30 December 2005, which is based on the United Nations Commission on International Trade Law (UNCITRAL) Model Law on International Commercial Arbitration (“the Model Law”). The new Act repeals and replaces the previous Arbitration Act 1952 and the New York Convention enacted by Act 320 which dealt with the recognition and enforcement of international awards. It is applicable to all arbitrations proceedings which are commenced after 15 March 2006, while the old 1952 Act will continue to apply to arbitral proceedings commenced before the operative date of the new Act.

• To fulfill the need of ensuring domestic arbitration is to some extent in accordance with domestic standards, the Act provides for two distinct arbitral regimes, i.e. international arbitrations and domestic arbitrations. This is modeled on the New Zealand act. The main difference between the two regimes lies in the degree of interference from the Courts with arbitral awards but yet options are provided.

LEGISLATIVE HISTORY OF STATUTES PRIOR TO ARBITRATION ACT 2005

• The origins of Malaysian statutory law on arbitration can be traced to the Arbitration Ordinance XIII of 1809, of what were then the British India-controlled Straits Settlements, comprising Singapore, Malacca and Penang. That Ordinance stood undisturbed for nearly 150 years until it was replaced by the Arbitration Act 1952 (the 1952 Act), which was based on the United Kingdom’s Arbitration Act 1950.

• The 1952 Act drew no distinction between domestic and international arbitration, a divide which was subsequently to become critical in the consideration of the new Act. However, in 1980, a curious divide was created by a new s.34 of the 1952 Act based on the choice of regime dictated by the arbitration agreement.

• The 1980 amendment totally excludes the operation of the 1952 Act and any written law for two categories of arbitrations named above (see Klockner Industries-Anlagen CmbH v Kien Tat Sdn Bhd & Anor[1990] 3 MLJ 183; Soilchem Sdn Bhd v Standard-Elektrk Lorenz AG [1993] 3 MLJ 68; Sarawak Shell Bhd v PPES Oil & Gas Sdn Bhd & Ors[1998] 2 MLJ 20

• The only arbitrations protected from the court’s purview except for enforcement were therefore arbitrations held under the Convention on the Settlement of Investment Disputes Between States and Nationals of Other States 1965 (the ICSID Rules) or under the United Nations Commission on International Trade Law Arbitration Rules 1976 and the Rules of the Regional Centre for Arbitration (the KLRCA Rules). All other international arbitrations, whether conducted under other institutional rules such as the ICC, LCIA or ad hoc, remained subject to the full supervisory jurisdiction of the Malaysian courts under the 1952 Act.

OVERVIEW OF THE ARBITRATION ACT 2005

• The general workings of the Act is that it provides a gap filling function by providing default positions for various matters relating to the arbitration process. It is divided into 4 parts.

• In so far as the provisions in Parts 1, II, and IV are concerned, they are made mandatory provisions which apply to all arbitrations where the seat is in Malaysia.

• The provisions in Part III (which contains enabling provisions for judicial control) becomes the crucial consideration. For international arbitrations, Part III is made non-mandatory by the Act. As for domestic arbitration, Part III becomes automatically applicable.

• Part IV contains five sections which deal with miscellaneous provisions such as liability of arbitrators, immunity of arbitral institutions, bankruptcy, mode of application, repeal and savings. There is enforceability of arbitration agreements by the trustee, that is, the person having jurisdiction to administer the property of a bankrupt.

SALIENT FEATURES OF THE ACT• One important features of the Act is the “opting in” and “opting out” provisions.

Essentially, the opt out/opt in feature provides the parties with an option to modify their arbitration regime. Parties to a domestic arbitration are given power to opt out of the provisions in Part III, in whole or in part. This in effect allows the parties to bring the domestic arbitration regime closer to the international arbitration regime. The international arbitration structure also gives the parties freedom to opt in to all or any part of the provisions in Part III.

• The Act also gives parties the right to avoid the “default” positions as set out in the Act. It must be pointed out that the Act contains many default provisions which deal with specific powers of the arbitral tribunal and the Courts. As these default provisions apply in the absence of the parties’ agreement to the contrary, it is important for parties to direct their minds as to whether they wish the default provision to apply.

• In essence, the Act recognizes the right of contracting parties to define their chosen processes within the arbitration regime. In line with the underlying theme of the Model Law, the Act focuses on the doctrine of party autonomy- S. 8 Arbitration Act 2005. This is a restatement of Article 5 of the Model law

• The new Act recognizes that some distinctions between these domestic and international regimes are required in the local circumstances, but only for limited purposes, using the Model Law definition for international arbitrations as the yardstick for the distinction.

• The new Act further recognizes that there was no reason why the Model Law should not be used as the basis for domestic arbitrations. This was certainly the view taken by the UN Secretariat which in its explanatory note to the introduction to the Model Law

• Section 21 of the Act deals with the issue of procedures applicable in conducting arbitration proceeding. The previous Act was silent on the question of who was to determine the procedures to be adopted in the arbitration. Such omission is now remedied in the Act.

• The parties are free to determine the procedure, subject to overriding rules requiring fairness. The parties can agree on any procedural rules for an ad hoc arbitration process or they can agree on an institutional arbitration where generally the institution’s rules will apply. Where the parties do not make the determination for themselves, the decision on the procedural rules reverts to the arbitral tribunal. It is apparent that section 21 recognizes the need to allow parties freedom to choose and tailor the procedural rules that are applicable to the arbitral tribunal.

LIMITATIONS OF THE NEW ACT

• Despite its optimistic beginning, teething problems with the Act became apparent as disputes on the interpretation and applicability of the Act started unfolding. There appears to be some ambiguity/limitation that may lead to undesired results contrary to the intention of the Act. They are as follows:-

• Issue (a): What happens if the Seat of Arbitration is outside Malaysia?• It is important to bear in mind that the Act fixes the territorial limits on the

scope of the application of the Act. The Act applies only to arbitrations in which the “seat of arbitration” is in Malaysia. – Section 3

• The seat of arbitration is determined by the provisions in Section 22 of the Act. Section 22 provides for a two-tiered system which gives the parties freedom to choose the seat of arbitration (Section 22(1)). In cases where the parties fail to determine the seat of arbitration, the arbitral tribunal has a default power to determine the seat of arbitration by having regard to the circumstances of the case, including the convenience of the parties

• Reading Section 22 in conjunction with Section 3, it is clear that the Act will only apply if either the parties have expressly chosen Malaysia as the seat of arbitration or if the arbitral tribunal determines and concludes that the seat of arbitration is Malaysia by looking at the forum convenience and other matters involved in the particular case. The problem arises as to the extent of judicial interference or judicial assistance that will be offered by our Malaysian courts when the seat of arbitration is outside Malaysia.

• This point is highlighted in the recent case of Aras Jalinan Sdn Bhd v Tipco Asphalt Public Company Ltd & Ors [2008] 5 CLJ 654, where the High Court interpreted the Act in such a manner as to strip the Malaysian court of its jurisdiction, whether inherent or otherwise, to grant any interim relief or order to aid arbitration proceedings where the seat of arbitration is outside Malaysia.

• The High Court’s rationale in that case was, among other things, that the express words of the Act have limited its applicability only to domestic and international arbitrations where the seat of arbitration is in Malaysia.

• This decision indicates an unsettling departure from the previous judicial position which was to hold parties to their agreement to arbitrate, regardless of the chosen seat of arbitration.

• The resulting situation is one where, in order to fully preserve their rights, foreign entities transacting with Malaysian entities may be “forced” to agree on the seat of arbitration being in Malaysia, although it may not be the desired seat for a variety of reasons. This can hardly be said to be conducive of Malaysia’s stance as an international arbitration friendly country.

• The Act also provides a mechanism for arbitral awards, upon an application in writing to the High Court, to be recognized and enforced in Malaysia as if they were a judgment obtained in terms of the award. In another peculiarity, the Act seems to confine this procedure only to awards made in respect of domestic arbitration, or awards from a foreign state. There is no reference to international arbitration awards made in Malaysia in the Act’s enforcement provisions.

• Pursuant to the Act’s definition, an “international arbitration” could therefore include, for example, one which involves a foreign party and a Malaysian party, with an agreed seat of arbitration in Malaysia.This leaves a question mark over how an international arbitration award made in Malaysia is to be enforced in the event of non-compliance.

• Based on a strict interpretation of the Act, however, foreign parties dealing with Malaysian parties may find themselves in a Catch-22 position: choose a seat of arbitration outside Malaysia and lose the right to seek relief from the Malaysian courts in aid of the foreign arbitration, or choose a seat of arbitration in Malaysia and face uncertainty in the manner of enforcement of the award.

• Under article 1(2) of the Model Law, this problem is in fact prevented. Under the Model Law, there are four other provisions that survive despite the seat being outside the territory in question.

• The equivalent provisions in the new Act are: a. Article 8, Arbitration agreement and substantive claim before court b. Article 9, Arbitration agreement and interim measures by High Court c. Article 35, Recognition and enforcement of awards d. Article 36, Grounds for refusing recognition or enforcement

• The particular Model Law approach has been adopted in various other jurisdictions such as England namely through Section 2(2) English Arbitration Act 1996. It is uncertain as to why the Arbitration Act 2005 did not incorporate the approach taken by Article 1(2) of the Model Law.

• Issue (b): the likelihood of further disputes- the Opt in/Opt out rights and the default provisions

• It must be remembered that the power to “opt in/opt out” is only exercisable vis-à-vis provisions in Part III of the Act. There are also many default provisions that apply unless parties agree.

• There are 2 serious problems that can arise from this freedom to contract:-

• Does a party know whether it would fall within the international or domestic regimes in order to decide whether it has to opt in or opt out? • When drafting the opt in or opt out provisions in addition to any other term that may otherwise attract a default provision, ambiguity is created and disputes arise as to the true intention of the parties on the lex arbitri

• On the first problem as to whether a party falls within the international or domestic regimes, at first blush, it would seem pretty straightforward based on the definitions provided in the Act- Section 2 (1) & 2 (2)

• The difficulty however arises when the parties have more than one place of business and at least one of its places of business is also in Malaysia. The Act then refers to a second test that is to apply namely “the place of business in that which has the closest relationship to the arbitration agreement”.

• An ambiguity is created by this term “closest relationship to the arbitration agreement” which is an identical wording to that used in Article 1 (4) (a) of the Model Law. The ambiguity becomes clear when the disputes that have already arisen in other jurisdiction are considered.

• Jurisdictions of Singapore and Hong Kong have already interpreted the definition to mean that the place of performance or the place of dispute is the place with the closest relationship to the arbitration agreement

• Will the Malaysian Courts interpret it the same way? Can such an interpretation be taken when it clearly does stretch the imagination that “closest relationship to arbitration agreement” can be construed as being “closest relationship to the substantive agreement” especially when the Model Law and S.18 (2) of the Malaysian Arbitration Act 2005 has taken great efforts in ensuring that the arbitration agreement is to be construed as independent from the substantive agreement.

• Where does this leave companies that are not Malaysian but yet are carrying out business in Malaysia but are executing the agreement in their own countries? Do they opt in or do they opt out? The resolution to this problem may lie in Section 2 (1) (c) of the definition of international arbitration where parties may have to then expressly agree that the subject matter of the arbitration agreement relates to a foreign state as well. However, how can this done if the subject matter of the dispute can only be in Malaysia and the seat of arbitration is Malaysia?

CONCLUSION• After more than 50 years steps were finally taken to revise the law in relation

to arbitration in Malaysia. The introduction of the Arbitration Act 2005 was seen as a unique opportunity to address the problems that have plagued the arbitration process in Malaysia. The problem that needed to be addressed mainly revolved around the delays and increasing judicial interference in the arbitration process.

Dual regime• One of the main differences between the 2005 Act and the earlier legislation

(the 1952 Act) is that the 2005 Act draws a distinction between an international and domestic arbitration.

• By drawing a distinction between a domestic and international arbitration, the legislation has taken specific steps to encourage international arbitration in Malaysia. It gives the parties the opportunity of deciding whether they want an award subject to review by the Malaysian courts. In an international arbitration, Malaysian courts are automatically excluded from reviewing the arbitrator’s award. The only ground for challenging an arbitration award from an international arbitration is set out in section 37 of the 2005 Act.

Enforcement of an award • In relation to enforcement, the 2005 Act has sought to streamline the

process and various legislations that previously applied. Section 38 sets out the formal requirements that a party needs to comply with when seeking an arbitration award to be recognized as binding and enforceable by entry as a judgment in terms of the award. Section 39 sets forth the grounds for refusing recognition or enforcement. The grounds are similar to the New York Convention. Given that the 2005 Act now contains the relevant provisions for the enforcement of awards from convention states, this has resulted in the Convention on the recognition and Enforcement of Foreign Arbitral Awards Act 1985 being repealed.

• However, it appears that the recognition and enforcement provisions set out in section 38 and section 39 only apply to domestic arbitration and an award from a foreign state. There is no specific reference to an international arbitration in section 38. This gives rise to issue of whether an award from an international arbitration that is made in Malaysia can be enforced in Malaysia.

Reducing delays and possible problems• As stated above, one of the considerations that the legislature took into

account to ensure that the arbitration process is not derailed was to ensure that the parties did not use the court mechanism to delay the arbitration process. An example of this is reflected in section 10. It provides that an action that is filed in court despite there being an arbitration agreement, maybe stayed by the courts. However, interestingly, Section 10(3) provides that the arbitration process may be commenced and continued despite the fact that there is an appeal pending against the decision to allow a stay of proceedings pending arbitration.