On February 29, 2008, a federal judge in Michigan held that ERISA does not preempt regulations issued by the Michigan Office of Financial and Insurance Services (“OFIS”) that prohibit insurers from utilizing “discretionary clauses” in their insurance policies after June 1, 2007. American Council of Life Insurers v. Watters, W.D. Mich., No. 1:07-cv-631. For a copy of the opinion, click here.

The court was ruling on competing summary judgment motions filed by the Defendant, OFIS Commissioner Linda Watters, and Plaintiffs (all insurance trade organizations) American Council of Life Insurers, America’s Health Insurance Plans, and Life Insurance Association of Michigan. The OFIS regulations at issue (Rules 500.2201-500.2202 and 550.111-550.112) prohibit insurers and nonprofit health care corporations from issuing to any person in Michigan policies containing a “discretionary clause.” For these purposes, “discretionary clause” is defined to include a clause that provides “or gives rise to a standard of review on appeal that gives deference to the original claim decision” or provides “or give rise to a standard of review on appeal other than a de novo review.”

As Judge Richard Alan Enslen noted, many employee benefit plans have included language conferring discretion on plan administrators since the Supreme Court’s decision in Firestone Tire & Rubber Co. v. Brunch, 489 U.S. 101 (1989), holding that when courts review ERISA claim decisions, “the de novo standard of review applies” unless “a benefit plan gives discretion to an administrator or fiduciary” in which case the reviewing court applies the arbitrary and capricious standard. Plaintiffs in American Council of Life Insurers v. Watters argued that the Michigan regulations were preempted by ERISA to the extent that they attempted to prohibit discretionary clauses in employee benefit plans subject to ERISA.

ERISA’s preemption provision, § 514(a), 29 U.S.C. § 1144(a), states that ERISA “shall supersede any and all State laws insofar as they may now or hereafter relate to any employee benefit plan.” The principal issue addressed by the court was whether the Michigan regulations were saved from preemption by ERISA’s savings clause, ERISA § 514(b)(2)(A), 29 U.S.C. § 1144(b)(2)(A), which states in pertinent part, “nothing in this subchapter shall be construed to exempt or relieve any person from any law of any State which regulates insurance, banking, or securities.” Judge Enslen analyzed this issue under the Supreme Court’s opinions in Rush Prudential HMO, Inc. v. Moran, 536 U.S. 355 (2002), and Kentucky Ass’n of Health Plans, Inc. v. Miller, 538 U.S. 329 (2003).

Judge Enslen first reasoned that while Firestone held that benefit plans may be drafted with discretionary clauses, Rush Prudential held that the savings clause permitted a state to mandate de novo review of insurance claims decisions in ERISA-governed plans. Accordingly, he concluded that the holding in Rush Prudential would also permit regulations prohibiting discretionary clauses.

The court then considered and rejected Plaintiffs’ argument that the new savings clause analysis announced in Kentucky Ass’n called into question the holding in Rush Prudential that a state statute mandating de novo review was saved from preemption. In Judge Enslen’s view, Kentucky Ass’n expanded the scope of ERISA’s savings clause and thus did not undermine Rush Prudential’s holding. Judge Enslen then held that the Michigan regulations met Kentucky Ass’n’s two-part test for finding that a law “regulates insurance” under ERISA’s savings clause because in his view the regulations (1) were specifically directed toward entities engaged in insurance, and (2) substantially affected the risk pooling arrangement between the insurer and the insured. Accordingly, he concluded that the regulations were not preempted by ERISA. In addition to Michigan, a number of other states have adopted similar prohibitions against discretionary clauses in insurance policies.