Plaintiffs' attorneys are exploring novel ways to sue HMOs capitalizing on consumer and physician dissatisfaction with managed care and health maintenance organizations (HMOs). In a case closely watched by the managed care industry, the Supreme Court in Pegram vs. Herdrich, 2000 US LEXIS 3964, (12 June, 2000) ruled that patients cannot sue their HMOs in the federal court because their doctors delayed or withheld treatment due to cost containment policies and bonus incentives. The court unanimously held that mixed decisions about eligibility and treatment of patients by the HMO doctors are not fiduciary acts under the Employment Retirement Income Security Act of 1974 (ERISA) and, therefore, no federal claim under ERISA for breach of fiduciary duty based on such decisions was stated.

Lori Herdrich, the plaintiff, had argued that the delay in her treatment which resulted in her ruptured appendix, was motivated by cost-saving consideration, on the part of the plan administrators and physician owners, who had a vested interest in minimizing total plan costs in order to ensure larger year-end bonuses.

The suit charged Ms Herdrich's physician and health plan with breaching its fiduciary duty to enrollees to act solely in the interest of plan participants and beneficiaries in violation of ERISA. The suit argued that the use of cost containment measures naturally induces a doctor to skimp on care and benefits in violation of the fiduciary duty to act in the best interests of the plan beneficiaries.

The Supreme Court declined to entertain an ERISA fiduciary claim against the HMO structure solely because of the HMO structure in which medical judgments and benefit eligibility are intertwined, leaving to the Congress the authority to restrict or limit the preferred forms of HMO organizations. The Court observed that many decisions made by the HMO and their physicians are primarily medical ones, leaving the door open for patients to pursue traditional state medical malpractice claims against the HMO doctors and perhaps even the HMO itself. However, that decision may give patients little comfort unless they are able to file suit in a state with a strong, meaningful patients' bill of rights. Seven states currently have liability laws allowing enrollees to sue their HMOs directly and eight other states plus the District of Columbia have measures pending. And these new laws are facing many challenges.

The Fifth Circuit Court of Appeals has recently upheld the Texas HMO Liability Act finding that ERISA does not preempt Texas citizens' right to sue health plans; however, it struck down the portion of the Texas liability law that allows enrollees to sue over coverage denials. Corporate Health Insurance vs The Texas Department of Insurance, 2000 US App. LEXIS 14215, (20 June, 2000), motion for panel rehearing denied, 2000 U.S. LEXIS 18069 (27 July, 2000). The decision limits the HMO plans' liability to the actual provision of health services rather than coverage decisions. The Fifth Circuit found that the plans cannot be sued for denial of coverage, since those decisions fall within a plan's administrative service roles and thus are preempted by ERISA.

This suit was a preemption challenge filed by Aetna shortly after the bill became law in 1997. The Texas law created a statutory cause of action against managed care entities that fail to meet an ordinary care standard for health care treatment decisions (the “liability” provisions) and established procedures for the independent review of health care determinations to decide whether they were appropriate and medically necessary (the “independent review” provisions). Although more than ten lawsuits have been filed in Texas under the law that went into effect in 1997, not one has gone to the jury.

Many questions potentially raised by the court in the Pegram decision are left unresolved.

In fact, the court did not reject the idea that HMOs may be subject to ERISA fiduciary liability for other actions, noting as plausible Ms Herdrich's initial fraud claim (later abandoned) that the HMOs breached the ERISA fiduciary obligation by failing to disclose physician incentives to limit care.

In the wake of its ruling in Pegram, the US Supreme Court has declined to review a Third Circuit opinion holding that negligence claims against an HMO in the death of a newborn are not preempted by ERISA. US Healthcare Inc vs Bauman, 1999 US App. LEXIS 22464, cert. denied, 2000 US LEXIS 4177, (19 June, 2000).

The suit may now go forward in a New Jersey state court. By denying certiorari, the Supreme Court seems to confirm that HMOs may be held liable for injuries arising out of negligence or medical malpractice.

RICO class actions face new hurdles following a recent Third Circuit opinion

Although the recent decision by the Court in Pegram is unlikely to spark a new flood of litigation in federal courts against HMOs, it had little impact on the many class actions that had been filed against HMOs across the country since last October. Many of these suits seek damages under the federal Racketeer Influenced and Corrupt Organizations Act (“RICO”) 18 USCS 1961 et seq., for alleged fraud. These suits do not challenge any particular denial of medical benefits but instead charge that the HMOs engaged in a fraudulent scheme by misrepresenting that their coverage and treatment decisions are based on “medical necessity.” With RICO class action suits having been filed across the country, several healthcare organizations are fighting battles on numerous fronts.

Although the Pegram decision impacted little, if at all, the RICO actions, the Third Circuit Court of Appeals recently issued a decision in a closely-watched RICO lawsuit filed against Aetna, Inc. Maio vs Aetna, 2000 US App. LEXIS 19172, (11 August, 2000). The case alleged that Aetna engaged in a massive nationwide fraudulent advertising campaign designed to induce people to enroll in its HMO and attracted enrollees with the promise of high quality benefits but failed to disclose its restrictive and coercive internal policies and practices. Plaintiffs alleged that deceptive practices rendered Aetna's advertising, marketing and membership materials false and misleading in violation of RICO and state law. The action was brought as a purported class action on behalf of millions of both present and former Aetna HMO members. On 11 August, 2000, the Third Circuit upheld the District Court's dismissal of the complaint on the ground that the plaintiffs had not alleged an injury to business or property cognizable under RICO. The court explained that in the RICO setting, standing is conferred upon “any person injured in his business or property by reason of a violation of section 1962 of this chapter. . . . 18 USC § 1964(c)”. Thus, a RICO plaintiff must make two related but analytically distinct threshold showings for standing to file a RICO claim: (1) that the plaintiff suffered an injury to business or property; and (2) that the plaintiff's injury was proximately caused. Recognizing that the injury to business or property element can be satisfied by allegations and proof of actual monetary loss that is, an out-of-pocket loss the court considered plaintiffs' claims that each member of the nationwide class paid too much in premiums for an “inferior” health care product received from Aetna through its HMO plan. The suit did not allege specific facts of any member's substandard medical treatment or denial. The court concluded that absent any allegations to the effect that each member suffered negative medical consequences resulting from Aetna's enactment of the policies and practices at issue, the class members could not establish that they suffered a tangible economic harm compensable under RICO and, hence, had no cause of action under RICO.

Decisions create challenges for future litigation

The recent decisions in Pegram and Maio provide significant challenges for the success of pending managed care liability claims and the pending RICO class actions. The class actions present only a sampling of new legal theories being tested in the courts that promise to be a trend as experienced class action lawyers around the country take on managed care organizations. Managed care companies will likely turn to their professional liability E&O and D&O carriers for some protection against these suits. Insurance carriers have traditionally responded to these changes in both the statutory and common laws by broadening coverages under managed care errors and omissions policies. Careful consideration of current and potentially new exposures for liability should be considered by companies exploring their options for purchasing liability protection.

Carol Ann O'Dea is vice president in the claims management division of NAC Reinsurance Corporation. Originally entitled “HMO Liability Post Supreme Court Decision in Pegram”, this article appeared in the summer 2000 issue of the NAC Re Liability Bulletin. Reprinted by permission of NAC Re.