This article has been published in "The Advocate", a monthly publication of the Arizona Association for Justice/Arizona Trial Lawyers Association, August 2006 issue, @2006 by Steven J. Bruzonsky, Esq.
ERISA Lien Claims in Light of the U.S. Supreme Court Decision in Sereboff
On May 15, 2006, the U.S. Supreme Court issued a landmark decision, Sereboff v. Mid Atlantic Medical Services (No. 05-260, May 15, 2006) which expands ERISA lien claims. We need to review caselaw to hopefully better understand where Sereboff takes us in this regard. The law remains that if an ERISA plan pays a premium and purchases traditional health insurance, then ERISA doesn't preempt any state law anti-subrogation law or caselaw. United Food & Commercial Workers & Employers Arizona Health and Welfare Trust v. Pacyga, 801 F.2d 1157 (9th Cir. (Ariz.), 1986); and F.M.C. v. Holliday, 498 U.S. 52, 111 S.Ct. 403 (1990).
Accordingly, Arizona anti-subrogation caselaw applies and health insurers can't subrogate against personal injury settlements. The common law rule long followed in Arizona is that, absent a statute, an assignment of a cause of action for personal injuries against a third party tortfeasor is void and unenforceable. Harleysville Mutual Ins. Co. v. Lea, 2 Ariz. App. 538, 410 P.2d 495 (App. Div. 1 1966) (auto medical payments); State Farm Fire and Casualty Co. v. Knapp, 107 Ariz. 184, 484 P.2d 180 (1971) (auto medical payments); Allstate Ins. Co. v. Druke, 118 Ariz. 301, 576 P.2d 49 (1978) (auto medical payments); Gallego v. Strickland, 121 Ariz. 160, 589 P.2d 34 (App. Div. 2 1978) (uninsured motorist) (prior to statutory amendment providing for uninsured motorist subrogation); Brockman v. Metropolitan Life Ins. Co., 125 Ariz. 246, 609 P. 2d 61 (1980) (group health insurance); Karp v. Speizer, 132 Ariz. 599, 647 P.2d 1197 (App. Div. 1 1982) (assignment to judgement creditor by judgement debtor of proceeds expected to be recovered from personal injury action) ; Piano v. Hunter, 173 Ariz. 172, 840 P.2d 1037 (App. Div. 1 1992) (same rule applies to local school district health trust fund); and Lingel v. Olbin, 198 Ariz. 249, 8 P3d 1163 (App. 2000) (prohibition against assignment of personal injury claims is based on public policy).
Prior to 2002, ERISA as federal law preempted Arizona anti-subrogation caselaw, and an ERISA plan could file a lawsuit in federal court to enforce the lien provision of its benefits plan when it had self-paid accident-related medical benefits. Pacyga, supra and Holliday, supra. However, after Great West v. Knudson, 534 U.S. 204, 122 S.Ct. 708 (2002), the Ninth Circuit basically held that there was no federal jurisdiction for such lawsuits by ERISA plans against plan participants. In Knudson, supra, plan provisions and a written subrogation agreement signed by the injured party required reimbursement from settlement. By the time suit was brought, the case was settled and settlement funds were already distributed by the attorney, and a Special Needs Trust had been set up under California law as part of the settlement. The U.S. Supreme Court held that there was no federal court equitable jurisdiction under Section 502(a)(3) of ERISA.
Section 502(e)(1)ERISA (Employee Retirement Income Security Act of 1974), 29 U.S.C. § 1132(e)(1), gives the federal district courts exclusive jurisdiction of civil actions under this subchapter brought by ... [a] fiduciary." Section 502(a)(3), 29 U.S.C. § 1132(a)(3), of ERISA provides that a fiduciary may bring a civil action "to enjoin any act or practice which violates - - - the terms of the plan" or "to obtain other appropriate equitable relief (i) to redress such violations or (ii) to enforce - - - the terms of the plan."
Although some other courts interpreted Knudson narrowly to permit equitable federal court jurisdiction by ERISA plans against plan participants seeking reimbursement from specific funds such as settlement funds held in the attorney's Trust Account, the Ninth Circuit interpreted Knudson broadly that there is no federal court jurisdiction for such lawsuits, even though the funds are held in escrow or in an attorney's trust account, Westaff (USA) Inc. v. Arce, 298 F.3d 1164 (C.A. 9, 2002); Great West v. Berlin, 45 Fed.Appx. 750, 2002 WL 2017076 (C.A.9, 200_); Great West v. Unger, 2002 WL 2012528 (D. Ariz.).
Note that there is Ninth Circuit authority which indicates that the "made-whole" rule is the default interpretation under federal common law, unless the plan language is directly inconsistent with it. Barnes v. Independent Auto Dealers' Assoc., 64 F.3d 1389 (9th Cir. 1995).
The Sereboff Case:
A. FACTS: The "Acts of Third Parties" plan provision provides for a lien for accident-related medical benefits paid against the settlement, and that "[Mid-Atlantic's] share of the recovery will not be reduced because [the beneficiary] has not received the full damages claimed, unless [Mid-Atlantic] agrees in writing to a reduction." The plan paid $74,869.37 medical benefits. The case was settled for $750,000.00 and the funds were distributed by the attorney to the Sereboffs. The plan filed suit in Federal District Court under Section 502(a)(3) of ERISA, seeking to collect from the Sereboffs the medical expenses, and also seeking a temporary restraining order and preliminary injunction requiring the couple to retain and set aside $74,869.37 of the settlement funds in an investment account until the court ruled and all appeals were exhausted. The District Court approved a stipulation by the parties under which the Sereboff's agreed to preserve the $74,869.37 claimed by the ERISA plan in an investment account until the court ruled and all appeals were exhausted. The District Court ordered the Sereboffs to pay the plan $74,869.37, plus interest, with a deduction for the plan's share of attorney's fees and court costs. The Fourth Circuit Court of Appeals affirmed in relevant part. [Note that the express plan provisions provided for a prorated deduction for reasonable attorneys fees and costs incurred by beneficiaries in securing the third-party payments. Mid Atlantic Medical Services, LLC v. Sereboff, 407 F.3d 212 (4th Cir., 2005).]
B. HELD: That the ERISA plan properly sought equitable relief under Section 502(a)(3) of ERISA and that the judgment of the Fourth Circuit is affirmed in relevant part.
The Court distinguished its holding in Knudson: One feature of equitable restitution was that it sought to impose a constructive trust or equitable lien on "particular funds or property in the defendant's possession." That requirement wasn't met in Knudson because the funds were not in Knudson's possession but had been placed in a Special Needs Trust under California law; and in that case "Great-West did not seek to recover a particular fund from the defendant." "There was no need in Knudson to catalog all the circumstances in which equitable liens were available in equity; Great-West claimed a right of recovery in restitution, and the Court concluded only that equitable restitution was unavailable because the funds sought were not in Knudson's possession."
The Court states that there is no tracing requirement for the funds in this case. Citing Barnes v. Alexander, 232 U.S. 117 (1914), Justice Holmes recited "the familiar rul[e] of equity that a contract to convey a specific object even before it is acquired will make the contractor a trustee as soon as it gets a title to the thing." Id., at 121. The Sereboffs' ERISA plan provisions "specifically identified a particular fund, distinct from the Sereboff's general assets", and "This rule allowed them to "follow" a portion of the recovery "into the [Sereboffs'] hands" "as soon as [the settlement fund] was identified," and impose on that portion a constructive trust or equitable lien." The Court stated that "Barnes confirms that no tracing requirement of the sort asserted by the Sereboffs applies to equitable liens by agreement or assignment."
The Court held that the lower courts did not err in enforcing the third party liability provision of the ERISA plan (that the plan's share of the recovery will not be reduced because the beneficiary has not received the full damages claimed, unless the plan agrees in writing to a reduction) and in refusing to apply the "made-whole doctrine" (that the plan has no right of reimbursement until the plaintiff has been made whole for his other injuries) and other limitations or defenses that apply to "truly equitable relief grounded in principles of subrogation".
The Court states that the plan's claim is not considered equitable (for the purpose of applying equitable defenses) because it is a subrogation claim established by agreement as in Barnes, supra, as opposed to a subrogation lien equitably imposed without agreement on the ground that funds ought to go to the insurer. The plan's claim claim qualifies as an equitable remedy because it is indistinguishable from an action to enforce an equitable lien established by agreement The Court in footnote 2 states that it declined to consider the "made-whole doctrine" because the issue wasn't considered in the lower courts.
ERISA Liens To Be Litigated Post-Sereboff?
The following issues are likely to be litigated in the Ninth Circuit and then perhaps the U.S. Supreme Court in coming years:
1. To the extent that they haven't already, continue to modify tighten plan language to ensure that their claimed lien applies to all injury settlements or medical payments/no fault (first and third party); that the lien applies to the entire settlement and not just the medical portion thereof; that the "made-whole" or any other doctrine to reduce the lien for any equitable circumstances or attorney's fees and costs does not apply; and that future benefits may be reduced or terminated for nonpayment, etc.
2. Expansion of the equitable jurisdiction facts in Sereboff (the Sereboff's preserved the $74,869.37 claimed by the ERISA plan in an investment account until the court ruled and all appeals were exhausted). I think certainly if the funds are preserved in the attorney's Trust Account that Sereboff applies. But what if the attorney has fully distributed the settlement funds, and the client has put the money in a bank/cd/investment account, paid a mortgage payment using the funds, paid off a credit card debt using the funds, etc.? Plans will argue language from Sereboff that under equitable agreement the plan provision creates the lien/fund and the money doesn't have to be traced and that the plan language creates the lien regardless of whether a subrogation agreement is signed. Plaintiffs will attempt to limit equitable court jurisdiction to no more than funds in the attorney's Trust Account or funds specifically set aside while the lien is litigated on the basis that Sereboff failed to overrule Knudson.
3. The Court did state in Sereboff that a plan's lien claim is a subrogation claim established by agreement and not subject to equitable defenses, although in footnote 2 the Court declined to consider the "made-whole doctrine" because the issue wasn't raised in the lower courts. This at least leaves plaintiffs some room to argue that the "made-whole doctrine" applies, and plaintiffs will continue to try to distinguish Sereboff and argue that other equitable defenses apply, especially if the plan provisions are not tightly written in this regard.
What About ER 1.15?
"Upon receiving funds or other property in which a client or third person has an interest, a lawyer shall promptly notify the client or third person." ER 1.15(d). "When - - - a lawyer possesses property in which two or more persons - - - claim interests, the property shall be kept separate by the lawyer until the dispute is resolved." ER 1.15(e).
The Comments state: "[Effective December 1, 2004] The Rule also recognizes that third parties may have just claims against specific funds - - - such as a - - - lien on funds recovered in a personal injury action. A lawyer may have a duty under applicable law to protect such third-party claims against wrongful interference by the client. In such cases, when the third-party claim has become a matured legal or equitable claim, the lawyer must refuse to surrender the property to the client until the claims are resolved. A lawyer should not unilaterally assume to arbitrate a dispute between the client and third party, but, when there are substantial grounds for dispute as to the person entitled to the funds, the lawyer may file an action to have a court resolve the dispute."
The State Bar Committee on the Rules of Professional Conduct states that in their advisory opinion an attorney must have actual knowledge of "matured legal or equitable" claim to all or part of the settlement funds for the special duties of ER 1.15 to be invoked. Also, if the attorney had any "good faith doubt as to who is entitled to receive the funds," the attorney should hold and interplead the funds. Ariz. Formal Op. No. 98-06. The Committee has also advised that ERISA healthplan lien claims are a "matured" claim when the settlement funds are received. Formal Op. No. 97-02. However, this was prior to Knudson, supra which still hasn't been technically overruled.
In my opinion: An attorney must review the facts of the specific ERISA lien claim and determine whether he/she has actual knowledge of a "matured legal or equitable" claim by the ERISA plan. We can cross out "legal" obligation because there is no federal court "legal" jurisdiction, only "equitable" jurisdiction. So at least in my opinion, the question becomes whether the attorney has any "good faith doubt" regarding whether there is a "matured - - - equitable" claim by the ERISA plan? Also, ER 1.15, as amended in December 2004, no longer specifically states that the attorney must file an interpleader to resolve a "matured legal or equitable" claim. This arguably gives the attorney discretion to give the ERISA plan claimant a reasonable time limit to file suit or otherwise the attorney will distribute the funds to the client. However, there remains concern that an ERISA plan may at some point sue the attorney for an ethics violation under a constructive trust and breach of fiduciary duty.
Concern re Plan Provisions to Withhold or Terminate Payment of Future Health Benefits:
Some ERISA plans include provision that they may withhold or terminate payment of future health benefits due to nonpayment of the claimed ERISA plan lien. So regardless of how the attorney determines the requirements of ER 1.15, there remains a concern to discuss with the client regarding the potential that the plan may enforce such provisions. The U.S. Supreme Court held in Pilot Life Insurance Company v. Dedeaux, 481 U.S. 41, 107 S.Ct. 1549 (1987) that ERISA pre-empts state law insurance bad faith causes of action, although a plan participant may under ERISA sue in federal court to recover plan benefits. That case involved Mississippi common law claims for improper processing or "bad faith" handling of a disability benefits claim by a disability insurer from whom the employer had purchased group insurance. However, several years ago as part of HMO reform, A.R.S. § 20-3152 et seq. was passed to codify Arizona bad faith common law. Arguably this statute is saved from pre-emption as a "law which regulates insurance" under Section 1144 of ERISA, but there is no caselaw yet regarding whether this Arizona statute is pre-empted.