SUPREME COURT HOLDS THAT TREATMENT DECISIONS OF HMOS ARE NOT FIDUCIARY ACTS

In Pegram v. Herdrich, __ U.S. __, 2000 U.S. LEXIS 3964 (June 12, 2000) Justice Souter delivered the opinion of the Court.

The court decided whether treatment decisions made by a health maintenance organization, acting through its physician employees, are fiduciary acts within the meaning of ERISA.  The court held that these decisions were not fiduciary acts.[i]

Petitioners included the Carle HMO.  Its owners were physicians providing prepaid medical services to participants whose employers contracted with the Carle HMO.  Carle covered the Respondent, Herdrich, through her husband’s employer.

One Carle physician, petitioner Pegram, examined Herdrich.  Six days later, Dr. Pegram discovered an inflamed mass in Herdrich’s abdomen. Despite the noticeable inflammation, Dr. Pegram did not order an ultrasound at a local non-Carle hospital.  Instead, Dr. Pegram decided that Herdrich would have to wait eight more days for an ultrasound at a distant Carle facility.  Before the eight days ended, Herdrich’s appendix ruptured, causing peritonitis.[ii]

Herdrich sued Pegram and Carle in state court for medical malpractice.  She later added two counts of state-law fraud. Carle and Pegram responded that ERISA preempted the new counts and removed the case.  Petitioners then sought summary judgment on the state-law fraud counts. The District Court granted their motion as to the second fraud count but granted Herdrich leave to amend the other.  Herdrich then alleged that provision of medical services under the terms of the Carle HMO organization, rewarding its physician owners for limiting medical care, entailed an inherent or anticipatory breach of an ERISA fiduciary duty.  Herdrich argued that these terms created an incentive to make decisions in the physicians’ self-interest, rather than the exclusive interests of plan participants.

The District Court granted Carle’s Rule 12(b)(b) motion, determining that Carle was not “involved [in these events] as” an ERISA fiduciary.  Herdrich appealed the dismissal of the ERISA claim to the Seventh Circuit, which reversed.  The Seventh Circuit held that Carle was acting as a fiduciary when its physicians made the challenged decisions and that Herdrich’s allegations stated a claim.[iii]

The defining feature of an HMO is receipt of a fixed fee for each patient enrolled under the terms of a contract to provide specified health care if needed. The HMO assumes the financial risk of providing the benefits promised.  Like other risk-bearing organizations, HMOs take steps to control costs.  HMOs also provide financial incentives to physicians, rewarding them for decreasing utilization of health-care services, and penalizing them for excessive treatment.  In an HMO system, a physician’s financial interest lies in providing less care, not more.

Herdrich focused on Carle’s provision for a “year-end distribution,” to the HMO’s physician owners.  She argued that annually paying physician owners the profit resulting from their own rationing of care can distinguish Carle’s organization from HMOs generally, so that reviewing Carle’s decisions under a fiduciary standard would not open the door to similar claims about other HMO structures.

The Court noted that the relationship between sparing medical treatment and physician reward is not a subtle one under the Carle scheme.  It determined that no HMO organization could survive without some incentive connecting physician reward with treatment rationing.  However, the Court refused to decide whether Carle’s scheme made it a bad HMO saying that was up to the legislature.[iv]

Justice Souter thought that the courts are not in a position to differentiate an HMO like Carle from other HMOs.  For that reason, the Court proceeded on the assumption that Herdrich cannot claim that the HMO’s decisions violate fiduciary standards unless courts adjudge all HMOs by the same standards and subject them to the same claims.

The Court addressed whether Carle was a fiduciary.  It said that the documents setting up the HMO are not an ERISA plan.  However, the Court said that the agreement between an HMO and an employer who pays the premiums may provide elements of a plan by setting out rules entitling beneficiaries to care.[v]

The Court suggested that Carle may be a fiduciary if it administers the plan.  Under ERISA, a fiduciary may have financial interests adverse to beneficiaries.  Employers can be ERISA fiduciaries and still take actions to the disadvantage of employee beneficiaries, when they act as employers or even as plan sponsors.  The Court found no reason to conclude that ERISA permits this conflict only for the employer or plan sponsor, to the exclusion of service providers.

ERISA does require, however, that the fiduciary with two hats wear only one at a time, and wear the fiduciary hat when making fiduciary decisions.[vi]  ERISA defines an administrator, as a fiduciary, only “to the extent” that he acts in such a capacity in relation to a plan.[vii]  The Court said that the first question in a breach case is not whether the actions of a service provide adversely affected a plan beneficiary’s interest, but whether that person was performing a fiduciary function when taking the action.

Herdrich claimed that Carle breached its duty to act solely in the interest of beneficiaries by making decisions affecting medical treatment since its physicians ultimately profit from their own choices to minimize the medical services provided.[viii]  She emphasized the threat to fiduciary responsibility in the Carle scheme’s feature of a year-end distribution to the physicians of profit derived from the spread between subscription income and expenses of care and administration.

The Court found that the specific payout detail of the HMO was a feature that the employer as plan sponsor was free to adopt without breaching any fiduciary duty under ERISA.[ix]  An employer’s decisions about a plan’s content are not fiduciary acts.[x]

The court reviewed Herdrich’s pleadings to determine what acts pled are fiduciary acts.  The Court said there were two types of arguably administrative acts.[xi]  The Court said these pure “eligibility decisions” turn on the plan’s coverage of a particular condition or medical procedure for its treatment. “Treatment decisions,” by contrast, are choices about how to diagnose and treat a patent’s condition.[xii]

Courts often cannot separate eligibility decision from treatment decisions from the other.  The more common coverage question is a when-and-how question.  Courts cannot untangle these eligibility decisions from physicians’ judgments about reasonable medical treatment, and in this case, Dr. Pegram’s decision was one of those.  She decided (wrongly, as the court noted) that Herdrich’s condition did not warrant immediate action.  The consequence of that medical determination was that Carle would not cover immediate care.  It would have done so if Dr. Pegram had made the proper diagnosis and judgment to treat.  The eligibility decision and the treatment decision were inextricably mixed.

The kinds of decisions that Herdrich claimed were fiduciary decisions were just such mixed eligibility and treatment decisions.

The Court did not think that Congress intended to treat Carle or any other HMO as a fiduciary to the extent that it makes mixed eligibility decisions acting through its physicians.[xiii]  The Court made the determination by comparing physician’s decisions to the final decisions made in a bank’s trust department.  Physicians making mixed eligibility decisions act more like physicians then trust officers.

The Court’s doubt that Congress intended for fiduciary administrative functions to encompass the mixed determinations at issue here hardened into conviction when the court considered the consequences that would follow if it ruled in favor of Herdrich.

First, the Court asked how courts should apply it.  Plaintiff could recover by showing that the profit motive to ration care would affect mixed decisions, contrary to the fiduciary standard to act solely in the interest of the patient without possibility of conflict.  Although Herdrich was vague about the mechanics of relief, the one point that seemed clear to the Court is that she sought the return of profit from the Carle HMO’s owners, with the Court giving the money to the plan for the benefit of the participants.  Thus, the Court determined that Herdrich’s remedy would be nothing less than the elimination of the for-profit HMO.  The Court further said that Herdrich’s remedy might entail the elimination of nonprofit HMOs since non-profit HMO’s pay salaries to their physicians.  The Federal Judiciary would be acting contrary to the congressional policy of allowing HMO organizations if it were to entertain an ERISA fiduciary claim portending wholesale attacks on existing HMOs solely because of their structure, untethered to claims of concrete harm.

The second possible consequence of applying the fiduciary standard would flow from the difficulty of extending it to particular mixed decisions that on Herdrich’s theory are fiduciary in nature.

The fiduciary obligation to act exclusively in the interest of the beneficiary does not translate into any rule readily applicable to HMO decisions.  It would be impossible to translate fiduciary duty into a standard that would allow recovery from an HMO whenever a mixed decision influenced by the HMO’s financial incentive resulted in a bad outcome for the patient. It would be so easy to allege, and to find, an economic influence when sparing care did not lead to a well patient, that any such standard would allow a fact finder to convert an HMO into a guarantor of recovery.

Because of these difficulties, Court of Appeals have tried to confine the fiduciary breach to cases where “the sole purpose” of delaying or withholding treatment was to increase the physician’s financial reward.[xiv]  However, this attempt to confine mixed decision claims to their most egregious examples entails erroneous corruption of fiduciary obligation.  The fiduciary standard requires undivided loyalty.  But whether under the Court of Appeal’s rule or a straight standard of undivided loyalty, the HMO’s defense would be that its physician did not act out of financial interest but for good medical reasons, the plausibility of which would require reference to standards of reasonable and customary medical practice in like circumstances.  Thus, for all practical purposes, every claim of fiduciary breach by an HMO physician making a mixed decision would boil down to a malpractice claim, and the fiduciary standard would be the malpractice standard.

The Court thought there would be no value to the plan participant to having this kind of ERISA fiduciary action.  It would simply apply state malpractice law and would result in the plaintiff bringing the same claim under federal-question jurisdiction.[xv]

The Court believes Herdrich’s position would go further than replicating state malpractice actions with HMO defendants.  In addition to suing the HMO, a plaintiff could sue the physician employee as a fiduciary on the same basic analysis that would charge the HMO.  This result would raise a preemption question.  Does ERISA preempt the state malpractice claim against the physician?  The Court refused to struggle with this problem, since there is no gain by allowing the fiduciary claim.

Thus, the Court held that mixed eligibility decisions by HMO physicians are not fiduciary decisions under ERISA.[xvi]