Offset statutes put brakes to insurer’s effort to half disability benefits

This article was initially published in the Chicago Daily Law Bulletin on August 2, 2017.

By Mark D. DeBofsky

Mark D. DeBofsky is a name partner of DeBofsky, Sherman & Casciari P.C. He handles civil and appellate litigation involving employee benefits, disability insurance and other insurance claims and coverage, and Social Security law. He can be reached at mdebofsky@debofsky.com.

All group disability insurance policies coordinate benefits with other sources of disability income to preclude potential double recoveries. Social Security disability benefits and workers’ compensation benefits are universally identified as offsets against long-term disability insurance payments.

A more controversial offset, though, are payments that result from personal-injury claims which compensate claimants for categories of damages that have nothing to do with disability, such as pain and suffering.

A recent ruling from the 2nd U.S. Circuit Court of Appeals, Arnone v. Aetna Life Insurance Co., 2017 WL 2675293 (2nd Cir. June 22, 2017), looked at whether a disability insurer could properly offset an insured’s personal-injury recovery and decided that Section 5-335 of the New York General Obligations Law precluded the claimed offset.

Section 5-335 provides that personal-injury settlements "shall be conclusively presumed" not to include "any compensation for the cost of health-care services, loss of earnings or other economic loss[es]" that "have been or are obligated to be paid or reimbursed by an insurer."

The court held that the New York statute survived an Employee Retirement Income Security Act pre-emption challenge and precluded Aetna’s efforts to reduce Savatore Arnone’s disability benefits.

Arnone, a New York resident, recovered $850,000 on account of severe injuries he suffered in an accident. Although the settlement was not itemized and did not delineate how much was paid for each element in the personal injury case, Aetna, which was paying disability benefits to Arnone, asserted that under the explicit terms of the disability insurance policy, it could assume that 50 percent of the settlement was for disability and reduced benefits accordingly. Arnone successfully challenged that reduction.

Although the policy explicitly allowed Aetna to offset 50 percent of the personal-injury recovery, the court found that Section 5-335 barred Aetna’s actions as a matter of law. The court rejected Aetna’s assertion that Section 5-335 was pre-empted by ERISA by finding the law fell within the exemption to ERISA’s broad preemption applicable to laws regulating insurance.

The court also overruled a choice of law argument — although the policy specified it was to be interpreted in accordance with the laws of the state of Connecticut, the court held that Arnone, a New York resident, was entitled to the protection of that state’s laws.

Aetna’s final attack on the applicability of Section 5-335 was its claim that Arnone failed to timely raise that provision as a bar to the offset.

The court dismissed that argument as well, finding that Arnone was entitled to raise the issue explaining:

"We are not worried, for example, that absent a forfeiture rule for someone in Arnone’s position, the claims administration process will be undermined. Arnone has not strategically saved his best argument for last or otherwise ambushed Aetna. Even though Arnone did not expressly flag the statute during Aetna’s claims process, he certainly made to Aetna in substance the same argument that he now makes in court: [H]e repeatedly informed Aetna that the settlement amounts it sought to offset were for ‘pain and suffering’ and ‘not for disability,’ J.A. 182, 308, and that ‘no wage replacement was included,’ J.A. 182.

"In citing Section 5-335 later, Arnone supplemented a consistently held position with legal authority, which seems to us to be permissible in this context."

The court also found meritless Aetna’s claim of surprise, ruling that Aetna was a "well-established and sophisticated insurer that operates nationwide" and would therefore be aware of anti-subrogation laws. The court noted that Aetna "is not entitled to insulate itself from the application of relevant state law by hoping that during the claims process its insureds — generally less knowledgeable and with fewer resources — fail to invoke by number a state law with which Aetna should already be quite familiar." Hence, the court applied Section 5-335 to bar the offset.

This fascinating ruling will no doubt be cited in other jurisdictions that have statutorily adopted anti-subrogation laws that recognize the collateral source rule and which are comparable to Section 5-335.

In Illinois, though, it does not appear that Arnone will have any impact. Illinois applies the collateral source rule, a doctrine that Wills v. Foster, 229 Ill.2d 393, 399 (Ill. 2008), described as follows: "Under the collateral source rule, benefits received by the injured party from a source wholly independent of, and collateral to, the tortfeasor will not diminish damages otherwise recoverable from the tortfeasor."

The basis for such a rule "is that the wrongdoer should not benefit from the expenditures made by the injured party or take advantage of contracts or other relations that may exist between the injured party and third persons."

However, the Illinois Code of Civil Procedure contains an interesting provision that would apply in some instances to the circumstances that existed in Arnone. Under Section 2-1205, medical-malpractice judgments may be reduced by "50 percent of the benefits provided for lost wages or private or governmental disability income programs, which have been paid, or which have become payable to the injured person by any other person, corporation, insurance company or fund in relation to a particular injury."

An exception exists, however, where "there is a right of recoupment through subrogation, trust agreement, lien or otherwise."

Thus, the New York and Illinois statutes are somewhat the opposite of one another — in New York, a disability insurer is precluded from asserting a right of recoupment with respect to a personal-injury recovery. If Arnone had been a resident of Illinois, though, and had his claim been for medical malpractice, his recovery could have been reduced by the disability insurance he received if the Aetna policy did not contain any offset language.

New York also has a "reverse offset" statute applicable to Social Security and workers’ compensation. In most jurisdictions, Social Security benefits are reduced by the receipt of workers’ compensation benefits that exceed 80 percent of a worker’s average current earnings.

However, in New York, the workers’ compensation benefits are reduced by the Social Security benefits received by the injured worker. Go figure.