United States: U.S. Supreme Court Holds That ERISA Preempts State Law Claims Against HMOs

Last Updated: June 25 2004
Article by Amy B. Bergner and Michael B. Richman

On June 21, 2004, the U.S. Supreme Court held that ERISA preempts state law claims against health maintenance organizations ("HMOs") for denial of health care coverage. This ruling, which is widely perceived as a significant victory for the managed care industry, is the latest round in a long-running struggle by health plan participants to impose additional liabilities on managed care organizations for denying benefits.

ERISA Preemption of State Law Remedies

Many HMOs and other managed care organizations serve as the providers or administrators of health care benefits for private employer health plans, which are governed by the federal Employee Retirement Income Security Act of 1974 ("ERISA"). Section 502(a)(1)(B) of ERISA provides a cause of action for the denial of benefits due under a plan. As interpreted by the courts over the past 29 years, this cause of action permits recovery only of the denied benefits. As such, it does not provide for recovery of consequential damages—such as for the additional harm suffered as a result of the denial—or for punitive damages. This limitation has frustrated many plan participants who seek to recover damages for the consequences resulting from denials of coverage on the grounds that the managed care plan does not cover the service or product on which the claim is based, or of the coverage not being "medically necessary."

Because of the limited scope of recovery for benefits claims under ERISA, ERISA health plan participants have sought other means by which to hold a managed care organization liable for the consequences of a denial of benefits. One approach has been to cast the denial of benefits as a fiduciary breach in the administration of the plan. However, the courts have generally not favored this approach. In Pegram v. Herdrich, decided in June 2000, the Supreme Court rejected the use of an ERISA fiduciary breach claim to challenge what it described as "mixed" eligibility and treatment decisions by a managed care organization, finding such matters more properly subject to state malpractice law. Subsequent plaintiffs have used the Pegram distinction between eligibility decisions, which are clearly subject to ERISA, and "mixed" eligibility and treatment decisions, which may not be, to argue that where a managed care organization’s denial of coverage had elements of a treatment decision, state law claims for that denial should not be preempted by ERISA.

Davila Case

The Davila case is actually a consolidated appeal of two cases brought under the Texas Health Care Liability Act, which provides a cause of action against a managed care organization for failure to exercise ordinary care in making health care treatment decisions.

One case involved denial of coverage of a prescribed treatment, causing the patient to use an alternative treatment that led to a severe reaction. The other involved premature discharge from a hospital after major surgery contrary to the recommendation of the treating physician, leading to serious complications. The district courts found that both claims were preempted by ERISA, as involving "quantity" rather than "quality" of care—the courts did not view them as involving health treatment decisions.

These cases were overturned in a consolidated appeal to the U.S. Court of Appeals for the 5th Circuit. The 5th Circuit characterized the claims brought under the Texas Health Care Liability Act as tort claims against the HMO for failure to exercise ordinary care, rather than breach of contract claims against the plan administrator. As such, they did not duplicate causes of action listed in ERISA, the court found, so that they were not preempted.

In deciding this case on appeal, the Supreme Court, in a unanimous decision, rejected the distinction drawn by the 5th Circuit, and came down squarely on the side of preemption.

The Court found that if a claim could be brought by a participant as a claim for benefits under section 502(a)(1)(B) of ERISA, and where no other legal duty independent of ERISA is implicated, the cause of action is "completely pre-empted" by ERISA. In these cases, said the Court, the "duty of ordinary care" claim brought under the Texas Health Care Liability Act did not arise independently of ERISA or the plan terms, because the issue was that of injury stemming from the denial of coverage. The preemptive force of section 502 of ERISA is not limited to state causes of action that precisely duplicate an ERISA cause of action, it found.

The Court rejected the plan participants’ arguments that the state law claims were tort claims that should survive preemption, and their arguments that the Texas law should be covered by an exception to ERISA preemption for state laws that regulate insurance. The Court also addressed arguments based on its statements in Pegram regarding "mixed" eligibility and treatment decisions. The concept described in Pegram was not implicated here, it said, because the coverage decisions at issue were pure eligibility decisions within the scope of ERISA, a result not affected by the benefit determination being infused with medical judgments.

A concurring opinion by two justices called for Congress and the Court to revisit the "unjust and increasingly tangled ERISA regime," to deal with the "regulatory vacuum" created by an approach that, the concurrence stated, preempts virtually all state law remedies but provides few federal law substitutes.

Implications

The Davila decision has the effect of precluding claims under the Texas law, and several similar state laws enacted over the past several years, alleging malpractice or negligence on the part of persons who make claims decisions for managed care organizations. This limits the health plan participants to the remedies available for a denial of claims under ERISA.

Rather than provide additional remedies against managed care organizations, another approach, adopted by 40 states, has been to require external review of a managed care entity’s adverse benefit determinations. In 2002, the Supreme Court found one such law not to be preempted, holding in Rush Prudential HMO Inc. v. Moran that an external review law that provides a right to review of medical necessity determinations is saved from ERISA preemption as a law regulating insurance. These laws provide only a procedural remedy, however, and would not permit liability claims of the type at issue in Davila.

The decision also sets out the Supreme Court’s view that an HMO, in administering ERISA benefit plans, is making discretionary decisions about benefit eligibility and in this regard must be treated as a plan fiduciary. Further, the ultimate decisionmaker in a plan regarding eligibility for benefits must be a fiduciary and acts as such when determining a benefit claim. These holdings have implications for the drafting and negotiating of Administrative Services Agreements between managed care organizations and employers.

For the foreseeable future, the focus is likely to turn to Congress. Several initial reactions to the Davila decision raised the prospect of pursuing enactment of a so-called "Patients’ Bill of Rights," as a means to provide greater remedies for health plan participants against managed care organizations. The prospects for enactment are uncertain, however, as such legislation has failed to move forward in prior sessions of Congress.

This article is presented for informational purposes only and is not intended to constitute legal advice.

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