The U.S. Court of Appeals for the 8th Circuit recently held that a health plan’s mandatory arbitration procedure for appealing benefit denials must be utilized before an employee can file suit, even though the procedure included requirements that are illegal under ERISA.

What happened. “Johan” was employed by Poly-America, L.P. in Minnesota and was covered by its Medical and Dental Benefits Plan. Johan had acknowledged in writing his agreement to arbitrate any claims associated with his enrollment in the plan. After suffering a heart attack, Johan submitted his medical bills to the plan for payment. Payment was denied, and Johan appealed to the plan administrator, who upheld the original decision. Johan was informed that he could file a written request for “final and binding arbitration.”

Johan chose instead to file suit in federal district court. The plan asked the court to compel arbitration, even though it admitted that provisions in the arbitration agreement—asserting that arbitration would be binding and that arbitration costs would be shared—were unlawful under ERISA. The plan argued that those provisions could be severed from the arbitration agreement so that the agreement could be enforced. The district court concluded, however, that “the mere existence of the illegal provision unduly inhibits or hampers the processing of appeals and therefore makes the arbitration agreement unenforceable.”

What the court said. When reviewing whether to enforce an arbitration agreement, the 8th Circuit Court, which covers Arkansas, Iowa, Minnesota, Missouri, Nebraska, North Dakota, and South Dakota, explained that it needs to determine if there was a valid arbitration agreement and whether the dispute at issue falls within the terms of that agreement.

Johan admitted that the dispute was covered by the arbitration requirement, but argued that the illegal provisions made the agreement invalid. He cited a case where the 4th Circuit (MD, NC, SC, VA, and WV) ruled that an arbitration agreement was invalid. But the court noted that the arbitration agreement in that case was riddled with biased provisions that allowed the employer, among other things, to choose the arbitrators and unilaterally modify the arbitration rules without notice, presumably even during arbitration. The court concluded that the Poly-America arbitration clause did not approach the “sham system unworthy even of the name arbitration” at issue in that case.

The court asserted that Johan’s situation was more like a previous 8th Circuit case in which the severability clause in the arbitration agreement explained that in the event a provision within the agreement was invalid, the intent of the parties was to proceed to arbitration once the invalid term had been eliminated. It reversed the lower court’s decision. Franke v. Poly-America Medical and Dental Benefits Plan, U.S. Court of Appeals for the 8th Circuit, No. 08-1637 (2009).

Point to remember: Having a fair and legal claims procedure is the best way to avoid having to argue the validity of a claim before a jury.