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In a decision that could prove to be the harbinger of a sea change in insurance law, a federal judge ruled Tuesday that ERISA does not pre-empt a claim under Pennsylvania’s bad-faith statute. The ruling by Senior U.S. District Judge Clarence C. Newcomer in Rosenbaum v. UNUM Life Insurance Co. is the first of its kind and a major victory for plaintiffs because it means workers can now seek punitive damages when suing the insurer that provides their benefits. Newcomer, of the Eastern District of Pennsylvania, found that the 3rd U.S. Circuit Court of Appeals has never tackled the question of whether Pennsylvania’s bad-faith statute, � 8371, is pre-empted by ERISA, but that district judges, including Newcomer himself, have consistently and unanimously held that it is. But Newcomer said those decisions must now be re-examined due to a “new trend in the federal law” led by the U.S. Supreme Court. In a pair of recent decisions from the high court — Unum Life Insurance Co. of America v. Ward in 1999 and Rush Prudential HMO Inc. v. Moran in 2002 — Newcomer found that the justices significantly changed the test for assessing whether a state law qualifies for ERISA’s “saving clause” which exempts from pre-emption “any law of any state which regulates insurance.” In the first prong of the test, the court employs a “common-sense” approach to deciding whether the statute regulates insurance. If so, in the second prong, the court must consider three factors and decide whether the regulation fits within the “business of insurance” as that phrase was used in the McCarran-Ferguson Act: � whether the practice has the effect of transferring or spreading a policyholder’s risk; � whether the practice is an integral part of the policy relationship between the insurer and the insured; and � whether the practice is limited to entities within the insurance industry. Until now, the Pennsylvania bad-faith statute has never survived the second prong. Courts routinely held that � 8371 doesn’t meet the first of the three McCarran-Ferguson factors because it does not have the effect of transferring or spreading a policyholder’s risk. But Newcomer found that the Supreme Court’s decision in UNUM “marked a significant change in the application of the Common-sense/McCarran-Ferguson Test.” For the first time, Newcomer said, the high court “explained that a state statute need not meet each of the McCarran-Ferguson factors in order to qualify for ERISA’s saving clause.” Instead, the justices said the McCarran-Ferguson factors are “considerations to be weighed” in determining the more general question of whether a state law regulates insurance. And in this year’s Rush decision, Newcomer found that the Supreme Court reaffirmed UNUM‘s holding by finding an Illinois State statute qualified under ERISA’s saving clause by meeting two of the McCarran-Ferguson factors. Applying the test to � 8371, Newcomer found that the bad-faith statute easily satisfies the first prong. “A common-sense view of ERISA’s saving clause clearly establishes that Pennsylvania’s bad faith statute ‘regulates insurance’ and is specific to the insurance industry,” Newcomer wrote. “In fact, one need look no further than the statute’s title, ‘Actions on insurance policies,’ in discerning its scope.” And decisions from the Pennsylvania Supreme Court, he said, have made it clear that the legislative intent behind � 8371 was to “regulate insurance.” Turning to the McCarran-Ferguson factors, Newcomer found that the bad-faith law can’t satisfy the first because “it serves solely as a special damages section” and therefore cannot be viewed as spreading a policyholder’s risk. But that finding wasn’t fatal, Newcomer found, “since the McCarran-Ferguson factors are mere guideposts and need not be unanimously met.” On the second factor — whether the law is an integral part of the policy relationship between the insurer and the insured — Newcomer said he was forced to reconsider his own previous decisions that said the bad-faith statute didn’t satisfy it due to the Supreme Court’s rulings. In UNUM, the Supreme Court found that a California statute requiring an insurer to “prove prejudice before enforcing a timeliness-of-claim provision” created a mandatory contract term between the two parties. In Rush, the justices examined an Illinois statute requiring HMOs to provide independent review of disputes with primary care physicians, and to cover any costs deemed medically necessary by the independent reviewer. The high court found that the statute provided a “legal right to the insured” and an “obvious” contractual requirement which was “an integral part of the policy relationship.” Newcomer found that, read together, the two decisions “suggest that a statute plays an integral part in the policy where it affords the parties rights or remedies other than those originally bargained for, in effect creating a new mandatory contract term.” Pennsylvania’s bad-faith law is just such a statute, Newcomer found, because “just as the statutory provisions in UNUM and Rush afford the parties rights or remedies other than those originally bargained for, Section 8371 creates mandatory contract terms providing for special damages.” Under � 8371, Newcomer found that an insured has the right to pursue the punitive damages, attorney fees and a specified amount of interest. As a result, Newcomer concluded that the bad-faith law “clearly plays an integral role in the policy relationship.” Newcomer also found that the third McCarran-Ferguson factor was satisfied “for many of the same reasons that the statute satisfies the requirements of the common-sense test.” The ruling means that plaintiff Joel Rosenbaum may now pursue both ERISA and bad-faith claims in his suit against UNUM over the denial of long-term disability benefits. Rosenbaum’s lawyers, Stewart L. Cohen and William D. Marvin of Philadelphia’s Kessler, Cohen & Roth, were elated by the ruling. “This changes the entire picture,” Cohen said in an interview Tuesday. Cohen said Newcomer’s decision “recognized that the law has evolved and that Pennsylvania employees are no longer second-class citizens.” By allowing workers to add a bad-faith claim, Cohen said, the ruling adds teeth to the claim and evens the playing field. “Until now, an insurer could cut off benefits with impunity — forcing the employee to sue. And when you win, they simply pay you the benefit you deserved all along. Now, they not only have to live up to their end of the bargain — they have to pay you for the damages they caused,” Cohen said. Attorney Joseph Roda of Roda & Nast in Lancaster, Pa., one of the leading experts on Pennsylvania’s bad-faith law, also hailed the decision. Roda (who had no connection to Rosenbaum’s case) said “there’s only one language they [insurance companies] speak, and that’s money.” With nothing more than ERISA, Roda said, there was “not much incentive [for insurers] to do the right thing.” Roda said Newcomer’s decision recognizes that “Pennsylvania’s bad-faith law ought to be allowed to do its job.” If other judges follow suit, Roda said, the practical effect “could be huge” and could significantly alter the way many ERISA claims are litigated. Cohen agreed, saying the pressure to settle has always been on the plaintiff who often is going without benefits during a time of serious need. Now, Cohen said, with the specter of punitive damages and attorney fees on the horizon, insurers will share that pressure. “Now it’s a fair fight,” Cohen said. UNUM was represented by attorney E. Thomas Henefer of Stevens & Lee in Reading, Pa.

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