ERISA Preempts State Bad Faith Claims

By Elizabeth A. Venditta and Mary E. Dixon

The United States District Court for the Eastern District of Pennsylvania has spoken once more and held that under a newly-announced test by the United States Supreme Court, Pennsylvania state law bad faith claims, which arise in connection with employee welfare benefit plans, are preempted by ERISA and are, therefore, unavailable in actions brought against insurers. McGuigan v. Reliance Standard Life Ins. Co., __ F.Supp.2d __, 2003 WL 1869886 (E.D. Pa. 2003) (Kelly, J.). In so holding, the McGuigan Court followed the recent decision of the United States Supreme Court, which articulated a new two-pronged test that plaintiffs must satisfy in order to meet their burden of showing that a law “regulates insurance” for purposes of being saved from preemption under the “savings clause” of ERISA. Kentucky Association of Health Plans, Inc. v. Miller, __ U.S. __, 123 S.Ct. 1471 (2003). Importantly, the McGuigan Court also reaffirmed the settled principle that regardless of whether a state law is saved from preemption under the “savings clause,” it may nonetheless be conflict-preempted to the extent that the law provides for additional remedies which are unavailable under ERISA’s exclusive civil enforcement scheme.

Kentucky Association

State law bad faith claims are subject to two types of preemption under ERISA, viz., express preemption and conflict preemption. ERISA preemption is particularly significant to insurers because, where it applies, a plaintiff is foreclosed from pursuing such state law claims as insurance bad faith. In Kentucky Association, the Supreme Court revamped the test for express preemption under ERISA’s narrow savings clause. Under the savings clause, any law which “regulates insurance” is saved from express preemption.

Prior to Kentucky Association, courts determined whether state laws, such as insurance bad faith statutes, regulated insurance and were, therefore, spared from express preemption by employing both a “common sense” inquiry and by considering the three factors “used to point to insurance laws spared from federal preemption under the McCarran-Ferguson Act.” Now, however, the Supreme Court has streamlined the analysis by dispensing with the so-called “McCarran-Ferguson” factors in the ERISA express preemption inquiry. Instead, the Supreme Court explained

Today we make a clean break from the McCarran-Ferguson factors and hold that for a state law to be deemed a ‘law ... which regulates insurance’ under [the savings clause], it must satisfy two requirements. First, the state law must be specifically directed toward entities engaged in insurance ... Second, as explained above, the state law must substantially affect the risk pooling arrangement between the insurer and the insured.

State Law Bad Faith Claims Are Expressly Preempted Under Kentucky Association

In McGuigan, the Court correctly held that Pennsylvania’s bad faith statute was not a law which regulates insurance within the meaning of ERISA’s savings clause and was, accordingly, expressly preempted. Applying the new test set forth in Kentucky Association, the Court first held that § 8371 is a law which is “specifically directed towards entities engaged in insurance,” particularly where the statute is “limited to only ‘an action arising under an insurance policy.’”

With respect to the second Kentucky Association factor, the Court – following the reasoning of an earlier Supreme Court decision – held that the factor could not be satisfied because Pennsylvania’s bad faith statute does not substantially affect the risk pooling arrangement between the insurer and the insured. In so holding, the Court correctly reasoned that § 8371, which allows for money damages against an insurer for acting in bad faith, does not “effect a spreading of policyholder risk.”

Accordingly, the McGuigan Court correctly held that because the plaintiff was required to satisfy both Kentucky Association factors, a burden which the plaintiff could not meet, his bad faith claim pursuant to § 8371 was expressly preempted and, therefore, dismissal of that particular claim was warranted.

State Law Bad Faith Claims Are Also Conflict Preempted

Importantly, the McGuigan Court did not conclude its ERISA preemption analysis there. Instead, the Court properly reasoned that regardless of the outcome of the express preemption analysis under Kentucky Association, Pennsylvania’s bad faith statute was nonetheless preempted because it conflicted with ERISA’s exclusive civil enforcement provisions by providing for an additional remedy in the way of punitive damages, which is a remedy unavailable under ERISA’s civil enforcement scheme. In so holding, the Court specifically rejected the plaintiff’s argument that if a law falls within ERISA’s savings clause, then the court’s analysis should end there regardless of whether the law enlarges the remedies which are available under ERISA’s exclusive remedies provision.

To the contrary, the Court – following Supreme Court precedent – held that Congress intended that “the civil enforcement provisions of ERISA be the exclusive remedies available in actions asserting improper processing of a claim for benefits.” Because § 8371 allows for punitive damages, the Court held that it was “incompatible with ERISA’s enforcement scheme” and was, therefore, conflict preempted. In reasoning equally applicable to all cases where an ERISA plaintiff attempts to recover on a state law bad faith claim, the Court concluded that

Accordingly, even if Section 8371 did satisfy both prongs of the [Kentucky Association] test so as to fall within the saving[s] clause of ERISA by regulating insurance, the Pennsylvania bad faith statute would still be preempted by ERISA since the statute provides for a form of relief that adds to those available remedies already provided by ERISA.

Conclusion

McGuigan is an important decision because it is the first Eastern District decision applying the new express preemption analysis recently handed down by the Supreme Court in Kentucky Association, and because it properly concludes that, under the new test, Pennsylvania’s bad faith statute does not fall within ERISA’s savings clause and is, therefore, expressly preempted. However, McGuigan’s significance goes further in that the Court, once again, affirms the now-settled principle that regardless of the outcome of an express preemption analysis, any law which enlarges the remedies available under ERISA is “incompatible” with ERISA’s exclusive remedies provision and is, therefore, conflict preempted.

Liz Venditta concentrates her practice in ERISA litigation and the defense of life, health and disability claims for insurers and employers. She can be reached directly at 215-864-6392 or vendittae@whiteandwilliams.com.

Mary Dixon is a member of the Appellate Practice Group. She can be reached at 215-564-7068 or dixonm@whiteandwilliams.com.