Pegram, Lori, et al. v. Herdrich, Cynthia (06/12/2000)

By: David Van den Berg, Medill News Service

Questions presented

Do health maintenance organizations and their physicians breach a fiduciary duty to their patients who have employee benefits covered by ERISA by implementing a managed care program in which physicians receive financial incentives to provide medical care to HMO enrollees in a cost-effective manner?

Brief

Cynthia Herdrich felt an unusual pain in her stomach on one 1991 spring day. Dr. Lori Pegram examined Herdrich at the Carle Clinic in Urbana, Ill., and found her appendix was inflamed.

Herdrich received her medical coverage from Health Alliance Medical Plans, a health maintenance organization (HMO) that was part of a subscription plan with her husband's employer, State Farm Insurance. Pegram told Herdrich that she would have to wait eight days for an ultrasound examination before it could be removed, and that the examination would have to occur in Urbana, not in Bloomington, where she lives.

While Herdrich was waiting for the ultrasound to be done, her appendix exploded. As a result, Herdrich's health deteriorated, and she contracted peritonitis.

Herdrich sued Pegram and Health Alliance Medical Plans in state court, alleging medical malpractice against Pegram for failing to provide her with timely and adequate medical care, and fraud against the HMO. The defendants successfully removed the case to federal court, claiming that the 1974 Employee Retirement Income Security Act (ERISA), which governs employee benefits preempts the state court action.

In federal court, Herdrich amended her complaint to allege that the HMO had breached its fiduciary duty to plan participants, in violation of ERISA by putting costs ahead of her health needs. The court granted the HMO's motion for summary judgment on the fraud and fiduciary duty counts, so that the case against the HMO did not go to trial. The medical negligence counts went to the jury, which awarded Herdrich $35,000 in compensatory damages.

In August 1998, a divided 7th Circuit Court of Appeals reversed, reinstating the fiduciary duty claim under ERISA. The majority held that under ERISA, an HMO can have a fiduciary duty to a patient if it maintains sufficient ""discretionary control and authority"" over patient care.

""The defendant-physicians managed the plan, including the doctor referral process, the nature and duration of patient treatment, and the extent to which participants were required to use Carle-owned facilities,"" the majority said. ""In fact, the board of directors consisted exclusively of the plan physicians who were thus in control of each and every aspect of the HMO's governance, including their own year-end bonuses.""

Because the doctors at Carle were also operators of the HMO, and helped create the cost containment policies, the court held that not only was the HMO a fiduciary, but it breached its duty.

In dissent, Judge Joel Flaum argued that dual loyalties were not a problem and that ERISA in fact allows some conflict of interest on the part of fiduciaries. ""Allowing a plan sponsor to designate its own agent as a fiduciary reassures the sponsor that, in devoting its assets to the plan, it has not relinquished all ability to ensure that the plan's resources are used wisely,"" Flaum wrote. The majority, however, disagreed with this conclusion. ""Tolerance has its limits,"" the court said.

The U.S. Supreme Court granted certiorari on Sept. 28, 1999, and allowed the American Association of Health Plans and the Washington Legal Foundation to file amicus briefs in the case.

In oral arguments on Feb. 23, 2000, Justice Sandra Day O'Connor asked pointedly of James P. Ginzkey, Herdrick's lawyer, why the courts should ""get involved in (the) messy business"" of deciding if financial bonuses go too far when Congress appeared to authorize HMOs to take on that task.

Justice Stephen Breyer seemed to agree, saying he found it ""hard to believe"" that when Congress passed a 1974 law governing employee benefits, it ""wanted to gut its own HMO legislation,"" enacted only a year earlier, by allowing litigation over HMOs' financial incentive rules.

Ginzkey responded that he was asking the justices to hold accountable only those financial bonuses that reach ""the level of undue influence so that it affects patient care.""

Arguing for the Carle HMO plan, Carter Phillips said it was ""no exaggeration to suggest that the future of medical care in its delivery and its regulations are implicated"" by this case. ""If Carle's setup violates (ERISA), then all managed care does as well.""

On June 12, 2000, a unanimous Court reversed, holding in favor of Pegram and the Carle HMO.

Contrary to the 7th Circuit, the Supreme Court could find no sound legal principle to differentiate the Carle HMO in the case from other HMOs.

""No HMO organization could survive without some incentive connecting physician reward with treatment rationing,"" wrote Justice David Souter for the Court, who then proceeded on the assumption that the medical decisions listed in Herdrichs complaint ""cannot be subject to a claim that they violate fiduciary standards unless all such decisions by all HMOs acting through their owner or employee physicians are to be judged by the same standards and subject to the same claims.""

""In this case, for instance,"" Justrice Souter wrote, ""one could argue that Pegrams decision to wait before getting an ultrasound for Herdrich, and her insistence that the ultrasound be done at a distant facility owned by Carle, reflected an interest in limiting the HMOs expenses, which blinded her to the need for immediate diagnosis and treatment.""

In rejecting the argument, the Court concluded that ""Congress did not intend Carle or any other HMO to be treated as a fiduciary to the extent that it makes mixed eligibility decisions acting through its physicians.""

""We hold that mixed eligibility decisions by HMO physicians are not fiduciary decisions under ERISA,"" the Court held.