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Small Business Tips

The Difference Between a Lawsuit, Mediation and Arbitration

Stephen Fishman
Tax expert and contributor MileIQ

Sooner or later, most small business owners will face a legal dispute.  The best way to handle these disputes is usually through informal negotiations. Yet, this doesn't always work. You may face legal actions.

Learn the differences between a lawsuit, mediation and arbitration. 

Mediation and arbitration

Mediation and arbitration are two methods for settling disputes without resorting to expensive lawsuits. These often lumped together under the term "alternative dispute resolution" or ADR. People often confuse the two, but they are in fact very different.

Mediation is never binding on the participants, whereas arbitration usually is binding and often takes the place of a court action.

No one can be forced into arbitration or mediation, you must agree to it. Business contracts today commonly include an arbitration provision. Many also require mediation. This is primarily because of two factors: speed and cost.

Mediation and arbitration are usually much faster than lawsuits in court. Most arbitrations and mediations are concluded in less than six months. Court litigation often takes years. Arbitration and mediation are usually far cheaper than a lawsuit.


In mediation, a neutral third person meets with the people involved in the dispute and makes suggestions on how to resolve the dispute. Typically, the mediator sits both sides down together and tries to provide an objective view of their dispute. Or, they shuttle between them as a hopefully cool conduit for what may be hot opinions.

When the underlying problem is actually a personality conflict or simple lack of communication, a good mediator can often help those involved in the dispute find their own compromise settlement. When the argument is more serious, a mediator may at least be able to lead them to a mutually satisfactory ending of both the dispute and their relationship that will obviate time-consuming and expensive litigation.

Mediation is nonbinding, which means that if either person involved in the dispute doesn't like the outcome of the mediation, he or she does not have to agree and can ask for binding arbitration or go to court.

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If those involved in a dispute cannot resolve it by mediation, they often submit it to arbitration. The arbitrator, again, a neutral third person, is either selected directly by those involved in the dispute or is designated by an arbitration agency.

An arbitrator's role is very different from that of a mediator. Unlike a mediator, who seeks to help the parties resolve their dispute themselves, an arbitrator decides on and imposes a solution him- or herself.

The arbitrator normally hears both sides at an informal hearing. You can be represented by a lawyer at the hearing, but it's not required. The arbitrator acts as both judge and jury. After the hearing, he or she issues a decision called an "award." The arbitrator follows the same legal rules a judge or jury would follow in deciding whether you or the other side has a valid legal claim and should be awarded money, but can usually hear more evidence than a court would allow.

Arbitration can be either binding or nonbinding. If arbitration is nonbinding, either person named in the award can take the matter to court if he or she doesn't like the outcome. Binding arbitration is usually final. You cannot go to court and try the dispute again if you don't like the arbitrator's decision, except in unusual cases where you can show the arbitrator was guilty of fraud, misconduct or bias. In effect, binding arbitration takes the place of a court trial.

If the losing party to a binding arbitration doesn't pay the money required by an arbitration award, the winner can easily convert the award into a court judgment that can be enforced just like any other court judgment. In other words, a binding arbitration award is just as good as a judgment you could get from a court.

Finding a mediator or arbitrator

It is usually up to you and the hiring firm to decide who should serve as a mediator or an arbitrator. You can normally choose anyone you want unless your contract restricts your choice.

You can choose a professional mediator or arbitrator, or just someone you both respect. A professional organization may be able to refer you to a good mediator or arbitrator. Businesses often use private dispute resolution services that maintain rosters of mediators and arbitrators, often retired judges, attorneys or business people with expertise in a particular field.

The best known of these services is the American Arbitration Association. This is the oldest and largest private dispute resolution service, with offices in most major cities. It handles both mediations and arbitrations. The American Arbitration Association also has a very informative website at

Filing a lawsuit

If your attempts to settle the dispute through informal negotiations or mediation fail and the client won't agree to binding arbitration, your remaining alternative is to sue the client in court. Or you or the client may choose to skip informal negotiations or arbitration altogether and immediately go to court.

Most small business suits are filed in state court. All states have a special court specially designed to handle disputes where only a small amount of money is involved, called "small claims courts." The amount for which you can sue in small claims court varies from state to state but usually ranges from $2,500 to $15,000.

Small claims court has the same advantages as arbitration: It's usually fast and inexpensive. You don't need a lawyer to go to small claims court. Indeed, some states don't allow lawyers to represent people in small claims court. Also, small claims courts are less formal than regular courts.

Small claims court is particularly well suited to help you collect against clients who fail to pay you, provided the amount is relatively small.

If your claim exceeds the small claims court limit for your state, you'll need to file your lawsuit in another court. Most business lawsuits are handled in state courts. Every state has its own trial court system with one or more courts that deal with legal disputes between people and businesses. These courts are more formal than small claims courts and the process usually takes longer. You may be represented by a lawyer, but you don't have to be. Many people have successfully handled their own cases in state trial courts.

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