Rights of Disability Insurance Claimants Boosted with Decision

A recent decision of the U.S. Court of Appeals for the Second Circuit has provided important guidance on several issues that have confronted and divided the federal district courts for years. As more fully discussed below, in Locher v. UNUM Life Insurance Company of America, No. 03-9229, 2004 WL 2567952 (2nd Cir. Nov. 12, 2004), the Second Circuit clarified “the standard to be applied by district courts in determining whether to consider evidence outside the administrative record upon a de novo review of factual issues bearing on an administrator's denial of ERISA [disability] benefits.” Id. at *3. The court also took the opportunity to address a number of other important issues, including whether an employee can qualify for total disability benefits even if she works full time through the date she quit her job, the effect of the insurance company's failure to promulgate procedures for claims review, and the award of attorneys' fees to the prevailing claimant.

ERISA and Standards of Review

Pursuant to ERISA, before insured employees may bring an action in federal district court to challenge a denial of benefits, they must participate in an administrative review of their claim. This usually involves an initial determination of the claim by the insurance company and an administrative “appeal” process before an appeals committee created by the administrator of the plan. For disability claims situations, usually the insurance company providing the disability benefit is the administrator of the plan. The standard of review to be applied by the district court in determining the insured's legal challenge to any administrative denial of the claim is quite important and could often be determinative.

The competing standards for the court's review of claims denials are the “arbitrary and capricious” standard and de novo review. The seminal case regarding which standard of review should apply under ERISA is Firestone Tire & Rubber Company v. Bruch, 489 US 101 (1989). In Firestone, the U.S. Supreme Court held that de novo review is appropriate “unless the benefit plan gives the administrator or fiduciary discretionary authority to determine eligibility for benefits or to construe the terms of the plan.” Id. at 115. In the Second Circuit, the Court of Appeals has added that all issues regarding a termination or denial of benefits are subject to the de novo standard unless the plan at issue includes a “clear reservation of discretion to the plan administrator.” See Kinstler v. First Reliance Standard Life Insurance Co., 181 F3d 243, 245 (2nd Cir. 1999). Although there are no “magic words” that confer discretionary authority as a matter of law, the courts address this issue on a case-by-case basis by closely scrutinizing the language of a given policy. Kinstler, 181 F3d at 251.

Even if the insurance company establishes that it reserved such discretionary authority to determine claims, however, that does not end the analysis with respect to which standard of review to apply. In the Second Circuit, if the plan administrator is found to have been operating under a conflict of interest that affected its decision making process, then the de novo standard should apply. See Sullivan v. LTV Aerospace and Defense Co., 82 F3d 1251, 1255-1256 (2nd Cir. 1996); see also Turay v. Aetna U.S. Healthcare, 160 FSupp2d 557, 560-561 (SDNY 2001); Pulvers v. First UNUM Life Insurance Co., 210 F3d 89, 92 (2nd Cir. 2000).

The primary distinction between the two standards is the deference the courts must give to the administrative determination of the claim. Insofar as the “arbitrary and capricious” standard is deferential to the administrative determination, a court applying this standard will overturn the decision to terminate benefits if it is found to be “'without reason, unsupported by substantial evidence or erroneous as a matter of law.'” See Pagan v. NYNEX Pension Plan, 52 F3d 438, 442 (2nd Cir. 1995) (quoting Abnathya v. Hoffman-LaRoche, Inc., 2 F3d 40, 45 (3rd Cir. 1993). On the other hand, under de novo review, the court has wider latitude in its review of the insurance company's decision to terminate benefits and will substitute its own judgment for that of the plan administrator.

Scope of Review

A further characteristic of the deference afforded the administrative proceedings under the “arbitrary and capricious” standard is the scope of the court's review of the determination to deny benefits. Plan administrators and insurance companies have argued that under the “arbitrary and capricious” standard, the court's review is limited to the “administrative record” of the claims process – the documents compiled and relied upon by the administrator to deny the claim. See Miller v. United Welfare Fund, 72 F3d 1066, 1071 (2nd Cir. 1995); but see Turay v. Aetna U.S. Healthcare, 160 FSupp2d 557, 564 (SDNY 2001). Under de novo review, on the other hand, with respect to issues of plan interpretation, it is firmly established that the court is empowered to review evidence outside the administrative record. Masella v. Blue Cross & Blue Shield of Conn., Inc., 936 F2d 98, 103-105 (2nd Cir. 1991). For a review of factual issues under the de novo standard, the Second Circuit has held that the evidentiary record can be expanded if there is “good cause” for doing so. DeFelice v. American International Life Assurance Company of New York, 112 F3d 61, 66 (2nd Cir. 1997).

In DeFelice, the Court of Appeals found that there was a conflict of interest because the insurer that was ultimately responsible for paying the benefits was the same company that was making the decision as to whether or not to terminate the benefits. The court concluded that, under the circumstances of that case, there was “good cause” to expand the record to review factual matters decided by the administrator. It was unclear, however, whether DeFelice established a bright-line rule that a conflicted administrator, in and of itself, constituted per se “good cause” to expand the record.

Subsequent to DeFelice, the federal district courts differed as to just what constitutes “good cause” to expand the review outside the administrative record. For example, while some courts held that a per se rule had been established under DeFelice, see Keiser v. CDC Investment Management Corp., No. 99 Civ. 12101, 2003 WL 1733729, at *10 (SDNY March 25, 2003); Parker v. Reliance Standard Life Insurance Co., No. 99 Civ. 1822, 2000 WL 97362, at *3 (SDNY Jan. 27, 2000), others held that it had not, and that the referenced conflict of interest, along with other deficiencies in the evidence in the administrative record, justified expanding the record before the court. See Suozzo v. Bergreen, No. 00 Civ. 9649, 2003 WL 22387083 at * 4 (SDNY Oct. 20, 2003); see also Kaus-Rogers v. UNUM Life Insurance Company of America, No. 01 CV 709S, 2004 WL 1166640, at *5 (WDNY April 4, 2004). See Locher, 2004 WL 2567952 at *5.

Locher

The Locher case presented the Second Circuit with several interesting factual and procedural issues, including an opportunity for the court to clarify its decision in DeFelice. The action arose out of a claim for long-term disability benefits made by a legal secretary for Katten Muchin and Zavis (KMZ) under an insurance policy provided by defendant UNUM covered by ERISA. Interestingly, over a year before she began her employment with KMZ, the employee was diagnosed with chronic fatigue syndrome (CFS). About 6 months after she started working, her health began to decline. Although the employee requested that her classification be changed from full-time to part-time status, she never submitted the medical certification requested by KMZ and therefore never received the change in status. Nevertheless, in her continued full-time status, she apparently missed work on several occasions and was often late in arriving to work. The employee finally resigned from KMZ effective April 8, 1993.

It was not for another 3 months after her resignation that the employee submitted an application for disability benefits to UNUM, claiming that the CFS had rendered her unable to work at KMZ on the effective date of her termination. UNUM denied her claim, maintaining that she was ineligible for benefits because she worked up to the day she resigned and was only absent three days in the three months prior to her resignation. UNUM upheld that denial of the claim during the administrative appeal process.

In the employee's action in the U.S. District Court for the Southern District of New York, after both parties' motions for summary judgment were denied, UNUM sought to limit the evidence at trial to the “administrative record.” The district court rejected UNUM's application, holding that because all of the individuals who reviewed the claim were UNUM employees, UNUM had a conflict of interest, which was per se good cause for allowing additional evidence outside the administrative record. The district court also observed that UNUM had insufficient written procedures for reviewing claims. After a 3-day bench trial, in which six witnesses testified, including a physician who had not even seen the employee while she was employed by KMZ, the district court found that the employee was disabled under the policy and awarded her benefits and attorney's fees.

On UNUM's appeal, the Second Circuit first took the “opportunity to clarify [its] holding in DeFelice and make plain that a conflict of interest does not per se constitute 'good cause' to consider evidence outside the administrative record upon a de novo review of factual issues bearing on an administrator's denial of ERISA benefits.” Locher, 2004 WL 2567952, at *6. The court found that “claims reviewers and payors are almost always either the same entity or financially connected in some other way,” so to hold that the existence of this relationship was per se “good cause” to expand the record for factual issues would effectively eliminate the “good cause” standard altogether and undermine the policy goals of ERISA to promptly and fairly settle claims and reduce costs. Id.

Seemingly Advantageous

While at first blush the decision may seem advantageous to disability insurance companies, the Court of Appeals went on to affirm the district court's decision in favor of the employee, making several significant findings that are certainly favorable to disability insurance claimants. Significantly, the Court of Appeals in Locher noted that although the district court erroneously found that UNUM's conflict was sufficient in itself to expand the record, the district court nevertheless cited and relied upon testimony from a senior UNUM benefits analyst that UNUM maintained “no written procedures, other than the terms of the Disability Plan and the summary description … for evaluating and processing appeals.” Id. at *7. The Second Circuit noted that in DeFelice, the decision to expand the record was not based solely on the fact that the conflict existed, but was also a result of the court's finding of “procedural problems with the plan administrator's appeals process” — namely a failure to maintain written procedures for reviewing claims. The Locher court continued: “Where sufficient procedures for initial or appellate review of a claim are lacking, there exist greater opportunities for conflicts of interest to be exacerbated and, in such a case, the fairness of the ERISA appeals process cannot be established using only the record before the administrator. In such circumstances, as we stated in DeFelice, the district court may assume an active role in order to ensure a comprehensive and impartial review of the case.” Id. at *7. Thus, the Court of Appeals found that the district court correctly considered evidence beyond the administrative record.

Scrutinizing Denials Easier

In view of the Second Circuit's opinion in Locher, disability insurance claimants have a ripe and fertile area to scrutinize the insurance company's denial of claims. Claimants should delve deeply into any and all procedures that the insurance company has for the initial and appeals review process so that the court can ultimately determine whether those procedures provide proper protection to claimants. Moreover, if the insurance companies do not have such procedures at all, claimants can show a clear procedural defect in the process, which would not only serve to open the evidence to be considered by the courts, but to attack the validity of the insurance company's underlying decision to deny benefits itself.

The Court of Appeals in Locher also bolstered the rights of claimants by affirming the district court's finding of disability and the award of benefits and attorney's fees. Significantly, the court: 1) approved of the district court's relying upon the testimony of a physician who had been retained by the claimant to assist her “litigation position,” had not seen her during the period of her employment with KMZ and had not been part of the administrative review; 2) rejected UNUM's argument that there is any precedent that dictates that a claimant cannot prove she was disabled simply because she worked full time during the period of the alleged disability, finding that evidence of “unscheduled absences and medical appointments” during the day can be considered evidence of the disability; 3) held that the district court was authorized to include in the award benefits that accrued after the employment terminated and through the date of judgment; and 4) affirmed the award of attorneys' fees to the claimant although all of the factors set forth in Chambless v. Masters, Mates & Pilots Pension Plan, 815 F2d 869, 871 (2d Cir. 1987) did not point decidedly in claimant's favor.

Conclusion

Although the Locher decision has decisively settled that a conflicted administrator is not per se “good cause” to expand the record regarding factual issues under de novo review, the decision should serve as significant precedent for claimants seeking to enforce their rights to disability insurance benefits under ERISA. Locher should provide claimants with additional bases: 1) for discovery rights against insurance companies, such as detailed information concerning the procedures for review and determination of claims; 2) for expanding the evidence to be considered by the courts in actions challenging benefit denials; and 3) for obtaining an award of full benefits and attorney's fees upon a successful conclusion.

There are significant differences in the rights afforded to an insured under a disability insurance policy depending upon whether the insurance is provided pursuant to an individual policy or under an employer-sponsored plan covered by the Employee Retirement Income Security Act of 1974 (ERISA), 29 USC ' 1001 et seq.

While individual policies are traditionally governed by applicable state common law contract principles, ERISA preempts any and all state laws “insofar as they may now or hereafter relate to” a covered disability plan, and such state laws encompass “all laws, decisions, rules, regulations, or other state actions having the affect of law, of any State” as well as statutory provisions and common law claims. See 29 USC '' 1144(a) & 1144(c)(1). Thus, disability insurance encompassed within ERISA carries with it a mass array of federal statutory and decisional law.

Important Guidance

A recent decision of the U.S. Court of Appeals for the Second Circuit has provided important guidance on several issues that have confronted and divided the federal district courts for years. As more fully discussed below, in Locher v. UNUM Life Insurance Company of America, No. 03-9229, 2004 WL 2567952 (2nd Cir. Nov. 12, 2004), the Second Circuit clarified “the standard to be applied by district courts in determining whether to consider evidence outside the administrative record upon a de novo review of factual issues bearing on an administrator's denial of ERISA [disability] benefits.” Id. at *3. The court also took the opportunity to address a number of other important issues, including whether an employee can qualify for total disability benefits even if she works full time through the date she quit her job, the effect of the insurance company's failure to promulgate procedures for claims review, and the award of attorneys' fees to the prevailing claimant.

ERISA and Standards of Review

Pursuant to ERISA, before insured employees may bring an action in federal district court to challenge a denial of benefits, they must participate in an administrative review of their claim. This usually involves an initial determination of the claim by the insurance company and an administrative “appeal” process before an appeals committee created by the administrator of the plan. For disability claims situations, usually the insurance company providing the disability benefit is the administrator of the plan. The standard of review to be applied by the district court in determining the insured's legal challenge to any administrative denial of the claim is quite important and could often be determinative.

The competing standards for the court's review of claims denials are the “arbitrary and capricious” standard and de novo review. The seminal case regarding which standard of review should apply under ERISA is Firestone Tire & Rubber Company v. Bruch , 489 US 101 (1989). In Firestone, the U.S. Supreme Court held that de novo review is appropriate “unless the benefit plan gives the administrator or fiduciary discretionary authority to determine eligibility for benefits or to construe the terms of the plan.” Id. at 115. In the Second Circuit, the Court of Appeals has added that all issues regarding a termination or denial of benefits are subject to the de novo standard unless the plan at issue includes a “clear reservation of discretion to the plan administrator.” See Kinstler v. First Reliance Standard Life Insurance Co. , 181 F3d 243, 245 (2nd Cir. 1999). Although there are no “magic words” that confer discretionary authority as a matter of law, the courts address this issue on a case-by-case basis by closely scrutinizing the language of a given policy. Kinstler, 181 F3d at 251.

Even if the insurance company establishes that it reserved such discretionary authority to determine claims, however, that does not end the analysis with respect to which standard of review to apply. In the Second Circuit, if the plan administrator is found to have been operating under a conflict of interest that affected its decision making process, then the de novo standard should apply. See Sullivan v. LTV Aerospace and Defense Co. , 82 F3d 1251, 1255-1256 (2nd Cir. 1996); see also Turay v. Aetna U.S. Healthcare , 160 FSupp2d 557, 560-561 (SDNY 2001); Pulvers v. First UNUM Life Insurance Co. , 210 F3d 89, 92 (2nd Cir. 2000).

The primary distinction between the two standards is the deference the courts must give to the administrative determination of the claim. Insofar as the “arbitrary and capricious” standard is deferential to the administrative determination, a court applying this standard will overturn the decision to terminate benefits if it is found to be “'without reason, unsupported by substantial evidence or erroneous as a matter of law.'” See Pagan v. NYNEX Pension Plan , 52 F3d 438, 442 (2nd Cir. 1995) (quoting Abnathya v. Hoffman-LaRoche, Inc. , 2 F3d 40, 45 (3rd Cir. 1993). On the other hand, under de novo review, the court has wider latitude in its review of the insurance company's decision to terminate benefits and will substitute its own judgment for that of the plan administrator.

Scope of Review

A further characteristic of the deference afforded the administrative proceedings under the “arbitrary and capricious” standard is the scope of the court's review of the determination to deny benefits. Plan administrators and insurance companies have argued that under the “arbitrary and capricious” standard, the court's review is limited to the “administrative record” of the claims process – the documents compiled and relied upon by the administrator to deny the claim. See Miller v. United Welfare Fund , 72 F3d 1066, 1071 (2nd Cir. 1995); but see Turay v. Aetna U.S. Healthcare , 160 FSupp2d 557, 564 (SDNY 2001). Under de novo review, on the other hand, with respect to issues of plan interpretation, it is firmly established that the court is empowered to review evidence outside the administrative record. Masella v. Blue Cross & Blue Shield of Conn., Inc. , 936 F2d 98, 103-105 (2nd Cir. 1991). For a review of factual issues under the de novo standard, the Second Circuit has held that the evidentiary record can be expanded if there is “good cause” for doing so. DeFelice v. American International Life Assurance Company of New York , 112 F3d 61, 66 (2nd Cir. 1997).

In DeFelice, the Court of Appeals found that there was a conflict of interest because the insurer that was ultimately responsible for paying the benefits was the same company that was making the decision as to whether or not to terminate the benefits. The court concluded that, under the circumstances of that case, there was “good cause” to expand the record to review factual matters decided by the administrator. It was unclear, however, whether DeFelice established a bright-line rule that a conflicted administrator, in and of itself, constituted per se “good cause” to expand the record.

Subsequent to DeFelice, the federal district courts differed as to just what constitutes “good cause” to expand the review outside the administrative record. For example, while some courts held that a per se rule had been established under DeFelice, see Keiser v. CDC Investment Management Corp., No. 99 Civ. 12101, 2003 WL 1733729, at *10 (SDNY March 25, 2003); Parker v. Reliance Standard Life Insurance Co., No. 99 Civ. 1822, 2000 WL 97362, at *3 (SDNY Jan. 27, 2000), others held that it had not, and that the referenced conflict of interest, along with other deficiencies in the evidence in the administrative record, justified expanding the record before the court. See Suozzo v. Bergreen, No. 00 Civ. 9649, 2003 WL 22387083 at * 4 (SDNY Oct. 20, 2003); see also Kaus-Rogers v. UNUM Life Insurance Company of America, No. 01 CV 709S, 2004 WL 1166640, at *5 (WDNY April 4, 2004). See Locher, 2004 WL 2567952 at *5.

Locher

The Locher case presented the Second Circuit with several interesting factual and procedural issues, including an opportunity for the court to clarify its decision in DeFelice. The action arose out of a claim for long-term disability benefits made by a legal secretary for Katten Muchin and Zavis (KMZ) under an insurance policy provided by defendant UNUM covered by ERISA. Interestingly, over a year before she began her employment with KMZ, the employee was diagnosed with chronic fatigue syndrome (CFS). About 6 months after she started working, her health began to decline. Although the employee requested that her classification be changed from full-time to part-time status, she never submitted the medical certification requested by KMZ and therefore never received the change in status. Nevertheless, in her continued full-time status, she apparently missed work on several occasions and was often late in arriving to work. The employee finally resigned from KMZ effective April 8, 1993.

It was not for another 3 months after her resignation that the employee submitted an application for disability benefits to UNUM, claiming that the CFS had rendered her unable to work at KMZ on the effective date of her termination. UNUM denied her claim, maintaining that she was ineligible for benefits because she worked up to the day she resigned and was only absent three days in the three months prior to her resignation. UNUM upheld that denial of the claim during the administrative appeal process.

In the employee's action in the U.S. District Court for the Southern District of New York, after both parties' motions for summary judgment were denied, UNUM sought to limit the evidence at trial to the “administrative record.” The district court rejected UNUM's application, holding that because all of the individuals who reviewed the claim were UNUM employees, UNUM had a conflict of interest, which was per se good cause for allowing additional evidence outside the administrative record. The district court also observed that UNUM had insufficient written procedures for reviewing claims. After a 3-day bench trial, in which six witnesses testified, including a physician who had not even seen the employee while she was employed by KMZ, the district court found that the employee was disabled under the policy and awarded her benefits and attorney's fees.

On UNUM's appeal, the Second Circuit first took the “opportunity to clarify [its] holding in DeFelice and make plain that a conflict of interest does not per se constitute 'good cause' to consider evidence outside the administrative record upon a de novo review of factual issues bearing on an administrator's denial of ERISA benefits.” Locher, 2004 WL 2567952, at *6. The court found that “claims reviewers and payors are almost always either the same entity or financially connected in some other way,” so to hold that the existence of this relationship was per se “good cause” to expand the record for factual issues would effectively eliminate the “good cause” standard altogether and undermine the policy goals of ERISA to promptly and fairly settle claims and reduce costs. Id.

Seemingly Advantageous

While at first blush the decision may seem advantageous to disability insurance companies, the Court of Appeals went on to affirm the district court's decision in favor of the employee, making several significant findings that are certainly favorable to disability insurance claimants. Significantly, the Court of Appeals in Locher noted that although the district court erroneously found that UNUM's conflict was sufficient in itself to expand the record, the district court nevertheless cited and relied upon testimony from a senior UNUM benefits analyst that UNUM maintained “no written procedures, other than the terms of the Disability Plan and the summary description … for evaluating and processing appeals.” Id. at *7. The Second Circuit noted that in DeFelice, the decision to expand the record was not based solely on the fact that the conflict existed, but was also a result of the court's finding of “procedural problems with the plan administrator's appeals process” — namely a failure to maintain written procedures for reviewing claims. The Locher court continued: “Where sufficient procedures for initial or appellate review of a claim are lacking, there exist greater opportunities for conflicts of interest to be exacerbated and, in such a case, the fairness of the ERISA appeals process cannot be established using only the record before the administrator. In such circumstances, as we stated in DeFelice, the district court may assume an active role in order to ensure a comprehensive and impartial review of the case.” Id. at *7. Thus, the Court of Appeals found that the district court correctly considered evidence beyond the administrative record.

Scrutinizing Denials Easier

In view of the Second Circuit's opinion in Locher, disability insurance claimants have a ripe and fertile area to scrutinize the insurance company's denial of claims. Claimants should delve deeply into any and all procedures that the insurance company has for the initial and appeals review process so that the court can ultimately determine whether those procedures provide proper protection to claimants. Moreover, if the insurance companies do not have such procedures at all, claimants can show a clear procedural defect in the process, which would not only serve to open the evidence to be considered by the courts, but to attack the validity of the insurance company's underlying decision to deny benefits itself.

The Court of Appeals in Locher also bolstered the rights of claimants by affirming the district court's finding of disability and the award of benefits and attorney's fees. Significantly, the court: 1) approved of the district court's relying upon the testimony of a physician who had been retained by the claimant to assist her “litigation position,” had not seen her during the period of her employment with KMZ and had not been part of the administrative review; 2) rejected UNUM's argument that there is any precedent that dictates that a claimant cannot prove she was disabled simply because she worked full time during the period of the alleged disability, finding that evidence of “unscheduled absences and medical appointments” during the day can be considered evidence of the disability; 3) held that the district court was authorized to include in the award benefits that accrued after the employment terminated and through the date of judgment; and 4) affirmed the award of attorneys' fees to the claimant although all of the factors set forth in Chambless v. Masters, Mates & Pilots Pension Plan , 815 F2d 869, 871 (2d Cir. 1987) did not point decidedly in claimant's favor.

Conclusion

Although the Locher decision has decisively settled that a conflicted administrator is not per se “good cause” to expand the record regarding factual issues under de novo review, the decision should serve as significant precedent for claimants seeking to enforce their rights to disability insurance benefits under ERISA. Locher should provide claimants with additional bases: 1) for discovery rights against insurance companies, such as detailed information concerning the procedures for review and determination of claims; 2) for expanding the evidence to be considered by the courts in actions challenging benefit denials; and 3) for obtaining an award of full benefits and attorney's fees upon a successful conclusion.