Evaluating Benefits Determination Decisions For ERISA Conflicts Of Interest

Published March 10, 2005

Conflicts of interest in benefits decisions under the Employee Retirement Income Security Act (ERISA) have taken on a new life with extended risks for plan administrators. The Tenth Circuit recently established guidelines for plan administrators when a conflict exists between administering the plan and making benefits payment decisions.

Case Of Conflict

An employee was enrolled in her company's long-term disability plan in which the carrier was both the plan administrator and payor of claims. The carrier denied her claims for disability benefits because of a preexisting condition.

The employee appealed the benefit decision, supported by a formal request and letters from three doctors, but the carrier again denied the claim. She then sued the carrier for violating ERISA by denying her claim. A district court ruled that the carrier appropriately applied ERISA's "arbitrary and capricious standard of review" in its decision, which means the decision was consistent and made in line with the terms of the benefit plan.

The carrier, though, admitted that its decision might fall under a conflict of interest, since it acted as both the decision-maker and the claims payor. The employee appealed the district court's decision, arguing that the arbitrary and capricious standard should not have applied in a decision where an obvious conflict of interest existed.

Tenth Circuit Says

In making its ruling in this case, the Tenth Circuit established guidelines for plan administrators to use to determine whether they are operating under a standard conflict of interest.

A standard conflict of interest exists when the plan fiduciary acts in dual roles. Those dual roles can affect the fiduciary's decision if: the plan is self-funded; the company funding the plan also compensates the plan administrator; the administrator's performance appraisals and/or compensation are affected by benefit denials; and benefits decisions have a significant financial impact on the company.

In order to weigh the conflict against benefits decisions, the court adopted tiered standards for reducing the deference given to plan administrators in conflict of interest cases.

Tier 1: All conflicts of interest cases fall under this tier. Under this tier, a plan administrator must prove the reasonableness of its benefits decision. But when a sufficiently serious conflict of interest exists, the case slides into Tier 2.

Tier 2: Under this tier, the plan administrator must show that a benefits denial is appropriate by a "preponderance of the evidence" (i.e., the plan administrator shows the most convincing evidence for a judge or jury to decide in its favor).

While the court did not offer any criteria for determining when a conflict falls under Tier 2, it did offer guidance to help evaluate a conflict of interest. A plan administrator can offset its interest in denying a claim by showing a counteracting interest in approving a claim. The court provided examples for employers, as plan administrators, to avoid Tier 2 classification.

Example 1: A plan administrator denies claims to keep insurance premiums down. Offset by: Claim denials negatively impact employee morale and make it difficult for an employer to retain skilled employees.

Example 2: A plan administrator denies claims to reduce benefits payments. Offset by: Denying benefits could lead to higher wage demands by employees.

The court's final ruling was that this carrier had a conflict of interest and did not show any counteracting interest to offset the conflict. Thus, it did not permissibly deny the employee's claim. (Fought v. UNUM Life Insurance Co. of America, 10th Cir., No. 02-2176, 2004)

Advice For Employers

• Audit your claims appeal process for conflicts of interest, with the help of an attorney. Be especially mindful if an audit uncovers that the plan administrator is also responsible for the company's financial matters because such an individual is apt to be partial to the company when making benefits decisions.
• Analyze plans when the decision-maker is a third-party insurer. As the plan sponsor, you should understand the process by which the third party reviews claims and makes appeals decisions.
• Address all aspects of the claim at the initial decision stage rather than trying to justify the decision in court, where it is subject to more intense scrutiny.
• Reduce or remedy conflicts of interest by using an outside, independent reviewer for the appeals process or the final claim decision. This will be the best legal defense of the decision should the case make it all the way to court.

Related Topic(s): Benefits/Employee Retirement Income Security Act (ERISA)