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Federal District Court Rules that Texas Insurance Code’s Prohibition on Discretionary Clauses Does Not Apply to Self-Funded ERISA Plans

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On April 21, 2020, the United States District Court for the Western District of Texas adopted the Report and Recommendation of its Magistrate Judge, limiting, for the first time, the application of the Texas Insurance Code’s prohibition on discretionary clauses to ERISA plans.  Hernandez v. Life Ins. Co. of N. Am., No. SA-19-CV-00022-FB, 2020 WL 1557802 (W.D. Tex. Apr. 1, 2020), report and recommendation adopted, No. SA-19-CV-00022-FB (W.D. Tex. Apr. 21, 2020).

Hernandez involved a claim for disability benefits under a self-funded ERISA plan pursuant to Section 502(a)(1)(B) of ERISA.  In addition to the merits of the benefit determination, the parties also disputed the applicable standard of review.  Plaintiff contended that a de novo standard of review was applicable, arguing that Section 1701.062 of the Texas Insurance Code invalidated the plan’s grant of discretionary authority to the claims administrator to interpret the plan and determine claims for benefits.

Following a growing trend across the nation, Texas enacted Section 1701.062 of the Texas Insurance Code in 2011, prohibiting delegation clauses in insurance policies.  Under the statute, delegation clauses include those that purport or act to bind the claimant to, or grant deference in subsequent proceedings to, adverse eligibility or claim decisions or policy interpretations by the insurer or which specify a standard of review in a subsequent proceeding at gives deference to the original claim decision, among others.  Tex. Ins. Code § 1701.062(b).

In holding that the proper standard of review was abuse of discretion, the Court found that Texas’s prohibition on discretionary clauses under Section 1701.062 of the Texas Insurance Code was inapplicable to self-funded ERISA plans for two reasons.

First, the Court found that the statute, based on its plain language, applies only to policies of insurance issued by Texas insurers.  Because benefits under a self-funded plan are paid by the employer and are not insured, there was no insurance policy to which Section 1701.062 could apply.  Similarly, because the self-funded plan at issue was not a Texas insurer, the Court found that Section 1701.062 would not apply to regulate it more generally.

Second, and even if Section 1701.062 could be read to apply to a self-funded plan, the Court held that ERISA would preempt it.  ERISA preempts “any and all State laws insofar as they may now or hereafter relate to any employee benefit plan” covered by ERISA except for “any law of any State which regulates insurance, banking, or securities.” 29 U.S.C. § 1144.  If Texas’s prohibition on discretionary clauses could apply to a self-funded plan, the Court reasoned, it would not be regulating insurance and would therefore be preempted.  Moreover, even if Section 1701.062 were to fall under ERISA’s savings clause as applied to a self-funded plan, ERISA’s “deemer clause” would revive preemption because applying Section 1701.062 to a self-funded plan would improperly deem the plan an insurance company, an insurer, or engaged in the business of insurance for purposes of state laws purporting to regulate insurance companies or insurance contracts.  Put differently, the “deemer clause” would exempt a self-funded plan from state laws that “regulate insurance” within the meaning of ERISA’s savings clause.

The impact of Texas’s prohibition on discretionary clauses, especially in the ERISA context, has become increasingly important since the Fifth Circuit’s decision in Ariana M. v. Humana Health Plan of Texas, Inc., 884 F.3d 246 (5th Cir. 2018).  In Ariana M., the Fifth Circuit overruled Pierre v. Connecticut General Life Insurance Co./Life Insurance Co. of North America, 932 F.2d 1552 (5th Cir. 1991), and joined all other Courts of Appeals in applying a de novo standard of review for claim administrator factual determinations when plan documents do not explicitly delegate discretion to claims administrators or such delegations are prohibited by state law.

The Fifth Circuit also examined Section 1701.062 in Ariana M. and concluded that the Texas Insurance Code did not mandate a standard of review but simply precluded inclusion of discretionary clauses in insurance contracts.  Hernandez is the first decision that has limited the application of Section 1701.062 with regard to ERISA plans, making clear that the provision does not apply to self-funded plans.

Importantly, Ariana M. specifically reserved the question of whether federal law would preempt state antidelegation laws, such as Section 1701.062 of the Texas Insurance Code.  The Court’s decision in Hernandez answers that question affirmatively.  In addition to departing from previous lower-court decisions that had applied the statute under ERISA, Hernandez is also the first case that has found Section 1701.062 to be preempted by ERISA, though the basis for preemption seems to be constrained to self-funded plans. The court did not specifically address whether Section 1701.062 would apply or be preempted with regard to an insured ERISA plan.

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