The ruling, by the U.S. Third Circuit Court of Appeals in Philadelphia, is a defeat for the largest U.S. mobile service provider, a joint venture of Verizon Communications Inc and Britain's Vodafone Group Plc.
Lawyers for the plaintiffs and for Verizon Wireless either had no comment or were not immediately available for comment.
Many consumer contracts require that disputes be arbitrated individually. Consumer advocates say this can unreasonably favor companies by making it prohibitively costly to arbitrate, especially small claims.
In the Verizon Wireless case, plaintiffs Keith Litman and Robert Wachtel sought to sue on behalf of a class over the imposition of administrative charges on cellphone contracts.
They said a contractual clause mandating individual arbitration of such low value claims was unconscionable under New Jersey law, and void under a 2006 New Jersey Supreme Court ruling. The Third Circuit includes that state.
U.S. District Judge Freda Wolfson in Trenton rejected the claim in 2008. She said the Federal Arbitration Act preempted the 2006 ruling and establishes a strong federal policy favoring arbitration absent fraud or misrepresentation.
The Third Circuit, however, concluded that the New Jersey ruling did not conflict with the federal act because it reflected no hostility toward arbitration clauses.
Writing for the court, Judge Kent Jordan also distinguished a 2007 Third Circuit ruling on which Wolfson relied, saying its application of the federal act to Pennsylvania law appears to be dicta, or not essential, and thus not binding.
The Third Circuit sent the Verizon Wireless case back to the district court for further proceedings.
The case is Litman et al v. Cellco Partnership d/b/a Verizon Wireless, U.S. Third Circuit Court of Appeals, No. 08-4103.
(Reporting by Jonathan Stempel; Editing by Steve Orlofsky)