SCOTUS to Employers: ERISA Doesn’t Let You Sit On Your Hands While Your 401(K) Participants Get Price-Gouged

The United States Supreme Court’s first ERISA ruling since 2020 was a unanimous win for employees. In Hughes, et al. v. Northwestern University, the Court held that ERISA gives employees the right to sue their employer for overcharges on investments in the company’s retirement plan. This ruling means employers who offer their employees overpriced retirement plan investment options may violate their duties to their employees under ERISA. It is also a fascinating peek at how ordinary investors can get price-gouged with the assistance of the very fiduciaries who are supposed to be protecting them.

The plaintiffs worked for Northwestern University. Like many Americans, they had the option to invest pre-tax wages into a retirement account maintained by their employer (e.g., a 401(k)). Northwestern chose which funds the employees could invest in, but the employees were free to choose whichever investments they preferred from this “menu” prepared by Northwestern.

The plaintiffs sued Northwestern alleging some of these investment options were needlessly overpriced. In investment parlance, the funds had an unnecessarily high “expense ratio” because Northwestern offered the employees “retail” shares rather than the cheaper “institutional” shares.

This particular allegation is a big deal. Large employers like Northwestern have the leverage to offer their employees funds that are extra cheap. This is because you can get a better deal from a fund if you’re buying on behalf of a thousand investors rather than just yourself. Many mutual funds or ETFs are available to retail investors in the regular “retail” class with the typical expense ratio, but also available in the special “institutional” class with a much cheaper fee.

For a huge employer like Northwestern to say “hey Mr. Mutual Fund, we know we could get our employees the cheap funds because we’re a big bad university with lots of leverage, but go ahead and charge our employees extra” would be egregious. It’s like buying a thousand cars at the sticker price rather than negotiating a volume discount.

The lower courts had dismissed the case. Northwestern’s “menu” of investments included reasonably priced funds in addition to the overpriced funds. On the basis that the employees were free to choose not to be price-gouged on their investments (assuming they could figure out they were being overcharged), the lower courts reasoned that this amounted to “no harm, no foul”.

The Supreme Court disagreed. It criticized the lower courts for failing to consider Northwestern’s duty under ERISA to “monitor all plan investments and remove any imprudent ones.” ERISA requires that employers managing retirement plans act with “care, skill, prudence, and diligence” when handling their employees’ benefits. This basically means employers should treat their workers’ money with the same degree of care the employer would treat their own money.

Obviously, no prudent person would pay the retail price over the volume discount–unless they were paying with somebody else’s money.

The Hughes case is a good reminder that ERISA doesn’t let employers off the hook for price-gouging their workers’ retirement savings merely because the workers might have figured out that they were being price-gouged and chosen the cheaper investments.

Is Washington’s New Long Term Care Insurance Law Preempted by ERISA?

Washington State recently passed the Long Term Care Trust Act. The Act, approved by the legislature in 2019, sets up a state fund to pay for future long term care expenses like home nursing care, memory care, transportation, etc. The legislature passed the act to try to stave off a future crisis in which elderly or disabled folks in Washington won’t be able to afford these services. Currently, uninsured folks needing long term care typically fall back on state Medicaid benefits. There is concern that this will become unsustainable, particularly as more and more elderly folks need this care but can’t afford it.

The Long Term Care Act tries to cushion this blow by providing an employee-funded benefit to pay for future long term care. Starting January 1, 2022, employees in Washington State will pay a .58% payroll tax into the state long term care fund. Employers will be responsible for processing the tax and remitting the money to the fund.

This will probably lead to lawsuits challenging the Act as preempted by ERISA. ERISA generally prevents states from making their own laws regarding employee benefit plans. Whether this provision–known as “preemption”–applies to the Long Term Care Act will likely be whether the Act requires enough involvement by employers for courts to treat it as an employee benefit plan.

The Act’s critics say it obviously does. It can’t be disputed that long-term care insurance is an employee benefit that can be subject to ERISA if provided through an employee benefit plan. How, the critics say, could a law requiring employers to process payroll deductions for the purpose of providing benefits the employees only get because they’re working be anything but an employee benefit plan?

The answer might not be so simple. The U.S. Supreme Court has repeatedly held that ERISA does not preempt state laws requiring employers to provide benefits to their workers unless the law requires the employer to operate a so-called “administrative scheme.” For example, in the 1987 case Fort Halifax Packing Co. v. Coyne, the Supreme Court ruled that a Maine law mandating severance pay for workers fired during plant closures was not preempted by ERISA because it didn’t require the employer to do much more than write a check in an amount determined by the state. That decision explains that Congress’ purpose in stopping states from passing laws regulating employee benefit plans is to protect employers from burdensome state-law requirements that might discourage them from offering benefit plans to their employees. The Maine law didn’t do this because it didn’t require the employer to set up any kind of “administrative” scheme for the severance benefit but simply write a check when laying off workers: “To do little more than write a check hardly constitutes the operation of a benefit plan.”

If writing a check to your employee for an amount the state tells you isn’t an administrative scheme, it wouldn’t be hard for a court to rule that deducting money from their paychecks in an amount determined by the state isn’t one either.

It’s been a while since the U.S. Supreme Court has weighed in on a similar issue, so the Ninth Circuit Court of Appeals (the federal appellate court where any challenge to the Long Term Care Act is likely to wind up), will probably follow the Fort Halifax case. That’s what the Ninth Circuit did in deciding challenges to similar laws over the last few years.

For instance, in 2008, the Ninth Circuit found ERISA did not preempt a San Francisco ordinance requiring employers to pay for employee health care in Golden Gate Restaurant Association v. City and County of San Francisco. The court relied on the Fort Halifax case to determine the ordinance did not require employers to create an employee benefit plan. The court emphasized that an ERISA plan is not created by legislation that merely requires employers to pay money based on the number of hours worked by their employees.

More recently, earlier in 2021, the Ninth Circuit applied the same reasoning to hold a Seattle ordinance requiring employers to pay for employee health care was not preempted by ERISA in ERISA Industry Committee v. City of Seattle. The court relied on Fort Halifax as well as Golden Gate Restaurant Association. That decision was short, terse, and unpublished (meaning it lacks precedential value, an indication the court considered the issue largely settled by prior caselaw and not deserving of significant thought).

This suggests the courts will probably consider the Washington Long Term Care Trust Act along similar lines. Applying the Fort Halifax and Golden Gate Restaurant Association tests may make challenges to the Act difficult. After all, these cases arguably say Washington State could require employers to pay directly for employee benefits so long as the state is doing the math on the amount of the contributions. The main difference between these laws and the Act is that it’s the employees paying for the benefits provided by the Act rather than the employers. Since the employers just have to collect the money from their employees, it will be easy for a court to apply the Supreme Court’s reasoning from the Fort Halifax case that “To do little more than write a check hardly constitutes the operation of a benefit plan.”

Court of Appeals Clarifies Standard for Determining Exhaustion of Primary Insurance Coverage in Long-Term Losses

A recent Washington Court of Appeals decision helps clear up the obligations of excess insurers for losses occurring over many years when multiple insurance policies were in effect. Many businesses have two layers of insurance: “primary” insurance, which pays for losses up to a certain dollar amount, and then “excess” insurance, which kicks in if losses are so great that the primary insurance coverage amount is exhausted before the insured is fully compensated for the loss.

But what happens where the loss occurs over a decade during which the insured had multiple different primary and excess insurance policies–does the insured need to exhaust its primary coverage in each policy year in order to access the excess coverage?

The Court of Appeals’ August 23, 2021 ruling in Gull Industries v. Granite State Insurance Company answered that question “no”. This was a lawsuit brought by a gas station operator, Gull Industries, against multiple insurance companies seeking coverage for environmental contamination caused at 200 gas stations over 50 years. The spillage occurred gradually in the normal course of running the gas stations: customers spilled gas while filling their cars, supply trucks spilled gas while filling up storage tanks, and storage tanks gradually seeped gas into the ground. The company faced liability for the environmental contamination including lawsuits at 24 sites and regulatory action at 19 sites.

A main issue in the case was when and if Gull’s excess insurer, Granite State Insurance Company, had to start paying for the environmental contamination. That depended on when Granite State’s primary insurance was considered to have been exhausted. Gull argued this should be viewed for each policy year individually; in other words, as soon as one policy year’s worth of primary coverage was exhausted, Granite State’s excess obligation kicked in regardless of whether there was primary coverage in other policy years.

Granite State disagreed, claiming that its excess coverage was not in play until all of the first level coverage in every policy year of the many decades of contamination was exhausted. The trial court agreed with Granite State. Gull appealed.

The Court of Appeals ruled that the trial court erred when it accepted Granite State’s argument that Gull had to exhaust its primary coverage in every year before Granite State had any excess insurance obligations. The court noted the absence of Washington State caselaw on this question. But it relied on a California Supreme Court ruling that decided the issue using the same rules of insurance policy interpretation applied in Washington State.

The California Supreme Court found that the most natural reading of similar insurance policy language means that the excess coverage kicks in whenever the primary coverage is exhausted in the same policy year, regardless of what happened in other coverage periods. The court also pointed out that requiring an insured to prove it exhausted primary coverage in multiple policy years creates unreasonable obstacles to an insured seeking coverage and undermine the insured’s reasonable expectations.

The Court of Appeals found this reasoning persuasive. It emphasized the importance of the reasonable expectations of the insured in interpreting insurance policies. It also noted that requiring the insured to prove it exhausted the primary limits of every policy period of a multi-decade loss would unreasonably require the insured to sue over coverage obligations of different primary policies that was not anticipated when it purchased the excess policy.

This ruling is a good reminder that Washington State courts will interpret insurance policies to give effect to reasonable expectations of coverage over impractical and overly technical readings of the policy fine print.

Department of Labor Sues United Healthcare for Violating ERISA and Mental Health Parity Law

The federal Department of Labor (DoL) has sued UnitedHealthCare for alleged discrimination against patients seeking mental health treatment. DoL contends that UnitedHealthCare, one of the country’s largest health insurers, systematically imposes illegal limitations on coverage for mental health and substance abuse disorder treatment. The August 11, 2021 lawsuit alleges these practices violate ERISA. DoL also asserts UnitedHealthCare is violating the Mental Health Parity Act, a federal law prohibiting discrimination against people with mental health conditions:

Basically, DoL alleges UnitedHealthCare did this in two different ways: (1) paying less for out-of-network mental health treatment than it pays for out-of-network medical and surgical care; and (2) singling out mental health treatment for a special “review program” that limited these benefits in a way that was not applied to similar non-mental health treatment. This is alleged to have happened as far back as 2013.

This isn’t the first time UnitedHealthCare has found itself in court over mental health coverage. A prior lawsuit by made similar allegations, resulting in a ruling that the insurance company had illegally discriminated against mental health patients through secret internal guidelines making it harder to access mental health treatment in order to boost corporate profits.

But the fact that these practices have drawn the ire of federal regulators is significant. DoL is charged with enforcing violations of ERISA. But most federal regulators lack the resources to pursue any but the worst and most systemic violations. DoL’s choice to pursue this particular suit suggests the agency considers these practices to be especially egregious, particularly given the company has already been sued by private insureds.

Hopefully, this signals a pattern of more proactive ERISA enforcement by regulators.

How do I know if the insurance policy I got through my employer is subject to ERISA?

ERISA governs most insurance employees receive through their employers. But there are exceptions. Determining whether insurance a person gets through their employer is governed by ERISA can be complicated.

This is important because whether ERISA applies to an insurance policy determines the insured’s rights and the insurer’s obligations. If ERISA applies, the insurer must follow specific rules requiring the insurer to promptly decide claims, fairly consider all the evidence, perform a reasonable investigation, and communicate transparently with the claimant. Similarly, ERISA imposes important duties on the claimant, including the obligation to go through the insurer’s informal administrative process before bringing a lawsuit to recover insurance benefits if a claim is denied.

In general, ERISA applies to insurance an employer provides for its employees through an employee benefit plan. Factors that might show the insurance is part of an ERISA plan include: the employer pays for the benefits, the employer investigates claims, the employer decides which claims to pay, or the employer requires all employees to participate.

But employers often arrange for their employees to obtain insurance outside of an ERISA plan. This exception to ERISA coverage exists because, in passing ERISA, Congress wanted employers to be free to offer their employees insurance without creating an ERISA plan and subjecting themselves to ERISA’s complicated rules. One of the goals of ERISA is to increase the benefits available to employees by making it easier to offer employees benefits.

Accordingly, ERISA allows employers to offer their employees attractive insurance coverage without making the insurance part of an ERISA plan as long as the employer limits its involvement in the policy. Congress reasoned that if the employer’s involvement is limited, ERISA’s concern with protecting employee benefits from employers’ mismanagement or embezzlement is not in play.

Insurance that falls within this exception often has these attributes:

  • the insurance is advertised separately from the employer’s benefit plan;
  • the employee pays for the insurance (often through deductions from their paycheck);
  • the employer leaves it up to the employee to decide whether to buy the insurance;
  • the employee can take the coverage with them when they leave the employer; and
  • the employer isn’t involved in claims under the policy.

As with everything insurance-related, whether ERISA applies to a particular policy is complicated and depends on the details. Consult a qualified attorney if you have questions about whether specific benefits are governed by ERISA.