More State Activity on Discretionary Authority Provisions

Regulatory activity has been continuing in recent weeks on the discretionary authority front that we have written about in recent posts.

One insurance department issued a bulletin to clarify that its state's 2005 ban on discretionary clauses in health or disability insurance policies is applicable to new policies issued after 2005 as well as to policies renewed after that date.

Leaving aside the question as to whether policies technically "renew" or not, the department's bulletin advised in no uncertain terms that insurers who "continue to exercise discretionary clauses against their policyholders" are not in compliance with their state's laws and "will be held accountable and subject to regulatory action."

The phrasing of the bulletin is as curious as it is revealing. This is not a good thing for anybody - least of all the insurers who issue group policies, the employers who buy them or the employees whose incomes are protected by them.

Insurers do not "exercise" discretionary authority clauses in the same manner they exercise clauses, for example, that require a person to be disabled for 180 days under certain long term disability policies or that call for the LTD benefit amount to be reduced by the amount of Social Security benefits for that same disability. In fact, you would be hard pressed to find the phrase "discretionary authority" in any of the numerous and sometimes lengthy communications an LTD insurer sends its claimants.

Instead, it is typically the federal courts (where most claims under group policies are litigated) that fix on the inclusion or omission of discretionary clauses as a factor in determining what standard of review the court will apply in hearing a case. The presence of a discretionary clause generally leads the court to apply a standard that is considered more "deferential" to the insurer's claim determination.

This is the legal standard that has governed ERISA litigation for some time now, in an effort to rein in the legal free for all - and spiraling insurance costs - that would result if courts all over the country could substitute their own interpretations for the ones that the insurers' claims people had made. So it is disturbing to read regulatory pronouncements that appear out of touch with what happens in the real world of claim administration and litigation.

At another state insurance department's recent hearings on proposed rules to ban discretionary clauses in policies issued in their state, an insurance department legal representative questioned the evidence supporting the LTD industry's contention that a ban on discretionary authority provisions would lead to rising LTD plan costs, stating that in any event "carriers are free to apply a rate change due to the removal of the clause."

Another regulatory spokesperson at the hearing dismissed industry concerns about the impact a ban on discretionary authority provisions would have on costs, citing the small percentage of overall employee benefits costs that group disability plans represent and the belief that the ban would lead to better claim decisions and eliminate bad lawsuits. In any event, states of late seem more and more eager to push the envelope on the issue of just how  important discretionary clauses are in helping to keep the cost of a typical group disability policy fairly modest.

As CA and NY move ahead with their own discretionary authority bans, it's hard to escape the conclusion that something has to give here, and soon, before the court system becomes logjammed with disability claim litigation from claimants and attorneys eager to take advantage of the new ground rules that result from the absence of discretionary authority provisions.