When a client's health insurer has a subrogation claim against a personal injury settlement, can the lawyer disburse all the proceeds to the client?

Plain-English summary

A lawyer was about to settle a client's personal injury claim. The client's health coverage came through a plan issued under the Federal Employees Health Benefits Act (FEHBA), and the plan's contract provided that it be reimbursed for benefits paid, or be subrogated to the injured person's rights, with a right to sue in that person's name. No one from the insurer had asserted a claim or filed a lien, and the client wanted to settle. The lawyer asked whether he could counsel the client to sign a release that might extinguish the insurer's claim, and whether he could disburse all the proceeds to the client after warning her a claim might later be asserted.

The Committee analyzed the questions under ER 1.15(b), which requires a lawyer who receives funds in which a third person has an interest to promptly notify that person and deliver any funds the person is entitled to receive. Drawing the line the Comment draws, it explained that a mere right to be "reimbursed" does not by itself create an interest in the particular fund; it is only a right to be paid back. The plan's subrogation provision was different. In Arizona, subrogation amounts to an assignment, so once the plan paid the client's medical bills its subrogation interest matured and it stood in the client's shoes as to that portion of the settlement. That interest triggered the lawyer's ER 1.15(b) duties. The opinion noted that this reading matched FEHBA decisions enforcing such reimbursement and subrogation provisions under federal preemption.

The Committee therefore concluded the lawyer could not counsel the client to sign a release extinguishing the insurer's subrogation claim unless he intended to honor the claim, and could not disburse all the proceeds to the client. Instead he had to notify the plan of the settlement and deliver to it directly any funds it was entitled to receive. On the third question, the Committee found this one of the circumstances where a lawyer owes duties to a third party alongside the duties owed to the client, and ER 1.15(b) required prompt notice and prompt delivery to the plan.

Currency note

This opinion was issued in 1997, before the State Bar of Arizona's adoption of the 2003 revisions to the Rules of Professional Conduct. Subsequent rule amendments or later opinions may have changed the analysis. Treat this page as historical context, not current guidance. Verify against current rules before relying on any specific rule, deadline, or requirement mentioned here.

Common questions

Q: Does a health insurer's reimbursement clause give it an interest in my client's settlement?

A: Not by itself. The opinion concluded that a bare right to be "reimbursed" is only a right to be paid back and does not create an interest in the particular fund under ER 1.15(b); a subrogation provision is what creates the interest.

Q: Can I disburse all of a PI settlement to the client when a subrogation claim exists?

A: No. The opinion held that once a subrogated insurer's interest has matured, ER 1.15(b) requires the lawyer to notify the plan and deliver directly to it any funds it is entitled to receive, rather than paying everything to the client.

Q: Can I have my client sign a release that would wipe out the insurer's claim?

A: The opinion concluded the lawyer could not counsel the client to sign such a release unless he intended to honor the plan's claim under ER 1.15. Whether a release would legally extinguish the claim was a legal question the Committee declined to decide.

Background and rules framework

The opinion construed ER 1.15(b) (safekeeping property; duties to third persons with an interest in funds) and ER 1.7(b) (the conflict that arises when the lawyer's own or a third party's interests may limit the representation). It read ER 1.15's Comment on "just claims" and the lawyer's "duty under applicable law" to protect third-party claims, and applied prior Arizona Formal Opinions 88-02 and 88-06 on disputed medical-lien funds and the duty to interplead.

Citations and references

Rules of Professional Conduct:

• MR 1.15 (safekeeping property; third-person interests)
• MR 1.7 (conflict of interest: general rule)

Statutes:

• Federal Employees Health Benefits Act, 5 U.S.C. section 8901 et seq.; preemption clause, 5 U.S.C. section 8902(m)(1)
• Federal Medical Care Recovery Act, 42 U.S.C. section 2651

Cases:

• In re Burns, 139 Ariz. 487, 679 P.2d 510 (1984), suspension for disbursing PI proceeds contrary to a federal lien
• MedCenters Health Care v. Ochs, 26 F.3d 865 (8th Cir. 1994), enforcing FEHBA reimbursement and subrogation language
• Allstate Insurance Co. v. Druke, 118 Ariz. 301, 576 P.2d 489 (1978), assignment of personal injury claims

Other opinions cited:

• Arizona Formal Ops. 88-02 and 88-06: medical liens, disputed funds, and the duty to interplead
• Alaska Bar Ass'n Ethics Op. 80-1 (1980); Delaware Op. 1981-3 (1981): no duty to pay client creditors absent a legal duty

See also

• RI EAP Op. 2007-02: No Duty to Withhold Settlement Funds From a Client Absent Actual Notice of a Health Insurer's Claim
• RI EAP Op. 2012-06: Rule 1.15 Requires Notifying a Medical Provider With an Assignment and Holding Disputed Settlement Funds Absent Client Consent

Source

• Landing page: https://tools.dev.azbar.org/RulesofProfessionalConduct/ViewEthicsOpinion.aspx?id=478

Original opinion text

Reproduced from the official source for research purposes. The linked source is authoritative.

This opinion addresses several ethical issues regarding a lawyer's duties both to her client and to third parties when faced with a federal health insurance contract that has a right of recovery and/or subrogation against a personal injury settlement. The policy's right of subrogation creates an "interest" in the proceeds, under ER 1.15, such that the lawyer cannot counsel the client to sign a release that might extinguish the insurer's claim unless the attorney intends to honor the claim. Similarly, the lawyer cannot disburse the settlement proceeds without notifying the plan and delivering to the insurer any proceeds to which it is entitled. [ERs 1.7, 1.15]

FACTS

The inquiring attorney represents a client who is about to settle a personal injury claim arising out of an automobile accident. The client received health care for injuries suffered in the accident pursuant to a health insurance contract issued under the Federal Employees Health Benefits Act (FEHBA), 5 U.S.C. § 8901 et. seq. The contract provides as follows:

If a covered person is sick or injured as a result of the act or omission of another person or party, the plan requires that it be reimbursed for the benefits provided in an amount not to exceed the amount of the recovery or that it be subrogated to the person's rights to the extent of the benefits received under this plan, including the right to bring suit in the person's name.

The attorney believes that the quoted reimbursement/subrogation provision is enforceable under federal preemption, notwithstanding contrary state law.

No one from the health care insurer has contacted either the attorney or his client to assert a claim, nor has any health care lien been filed. The inquiring attorney contacted both the U.S. Attorney's Office and the personnel office of the U.S. Postal Service in an attempt to learn the name of the person who administers such claims but was not provided the necessary information. The client is now anxious to settle her personal injury claim.

QUESTIONS PRESENTED

1. May the attorney ethically counsel his client to sign a release that may have the effect of extinguishing the health care insurer's subrogation claim?

2. May the attorney ethically disburse all of the settlement proceeds to his client, so long as he advises her that a claim for reimbursement may be asserted by the insurer at some point in the future?

3. If the attorney is ethically prohibited form doing the above, should he prompt the insurer to assert its claim when doing so is obviously contrary to his client's own interests?

RELEVANT ETHICAL RULES

ER 1.7 Conflict of Interest: General Rule

(b) A lawyer shall not represent a client if the representation of that client may be materially limited by the lawyer's responsibilities to another client or to a third person, or by the lawyer's own interests, unless:

(1) the lawyer reasonably believes the representation will not be adversely affected; and

(2) the client consents after consultation . . . .

ER 1.15 Safekeeping Property

(b) Upon receiving funds or other property in which a client or third person has an interest, a lawyer shall promptly notify the client or third person. Except as stated in this rule or otherwise permitted by law or by agreement with the client, a lawyer shall promptly deliver to the client or third person any funds or other property that the client or third person is entitled to receive and, upon request by the client or third person, shall promptly render a full accounting regarding such property.

Relevant Prior Ethics Opinions

Arizona Formal Opinion 88-02 contains a general discussion of the ethical questions presented by medical liens, the disclosures required, the conflict of interest analysis an attorney must engage in under ER 1.7(b), and, finally, the steps that an attorney must take if there is a dispute concerning the funds. Specifically, the opinion holds that if the attorney is satisfied that either the client or the health care provider is legally entitled to the funds that the attorney is holding, he should disburse them accordingly. If the lawyer has any "good faith doubt" as to the proper recipient, he should hold the monies in trust, pending a resolution of the dispute. Finally, if the attorney's own interests are implicated -- for example, if the attorney would like to have the medical provider paid to maintain good relations -- the attorney must comply with ER 1.7(b).

Arizona Formal Opinion No. 88-06 amplified on the holding of Opinion 88-02, concluding that a lawyer retaining disputed funds in trust may not simply wait until the client and the medical provider resolve the dispute. Rather, after waiting a reasonable period of time, the attorney should interplead the funds.

OPINION

ER 1.15(b) requires an attorney who receives funds in which a third party has an interest to promptly notify the third person and to promptly deliver to the third person any funds to which that person is entitled. The questions presented by the inquiring attorney thus depend on whether the FEHBA insurer has an "interest" under ER 1.15(b). While ER 1.15(b) discusses only funds or property in which a third person has an interest, the Comment provides some additional clarification:

Third parties, such as a client's creditors, may have just claims against funds or other property in a lawyer's custody. A lawyer may have a duty under applicable law to protect such third-party claims against wrongful interference by the client, and accordingly may refuse to surrender the property to the client. However, a lawyer should not unilaterally assume to arbitrate a dispute between the client and the third party.

Thus, if a third party has a just claim against the funds and the attorney, under applicable law, has a duty to protect such funds, the attorney may refuse to surrender the property to the client. An Arizona case on point is In re Burns, 139 Ariz. 487, 679 P.2d 510 (1984). The court imposed a one-year suspension on an attorney who, contrary to the lien created under the Federal Medical Care Recovery Act, 42 U.S.C. § 2651, disbursed the personal injury settlement proceeds solely to his client. See also, Uniguard Insurance Co. v. Fremont, 37 Conn. Supp. 596, 430 A.2d 30 (1981) (lawyer's disbursement of judgment proceeds to client constituted conversion where insurer had statutory lien on such proceeds); In re Cassidy, 89 Ill. 2d 145, 432 N.E.2d 274 (1982) (no impropriety in lawyer delaying disbursement of funds to client when lawyer reasonably believed client's creditors had superior claim to funds).

Conversely, where there is no legal duty, a lawyer is not required to surrender client funds or property to third parties. See e.g., Alaska Bar Ass'n., Ethics Comm., Op. 80-1 (1980) (lawyer who knew client had unpaid medical bills incurred during the representation had no duty to reimburse creditors from client's settlement proceeds); Del. State bar Ass'n., Comm. on Prof. Ethics, Op. 1981-3 (1981) (attorney has ethical obligation to persuade client to pay outstanding medical bills, but cannot force or demand client to pay such expenses from settlement or judgment proceeds.).

Two respected commentators, Hazard and Hodes, have analyzed the dichotomy presented by ER 1.15(b) as follows:

The fact that a third party "expects" funds held by the lawyer to be the source of payment would not justify a lawyer's refusal to obey the instructions of his client to turn over the entire amount. The Comment to Rule 1.15 uses the phrases "just claims" and "duty under applicable law" to suggest that the third party must have a matured legal or equitable claim in order to qualify for special protection. Only in such cases may it be said that failure to recognize the third party interest is a species of fraud upon creditors or fraud upon the rendering court.

G. Hazard and W. Hodes, The Law of Lawyering--A Handbook On The Model Rules of Professional Conduct, Subsection 1.15:302 at 460 (2nd ed. Supp. 1994).

FEHBA does not contain any provisions specifically addressing the right of a contracting health care insurer to seek reimbursement or subrogation from the proceeds of an accident victim's settlement or judgment. See 5 U.S.C. § 8901 et. seq. Moreover, the federal regulations implementing FEHBA, 48 C.F.R. § 1601-1653 (Oct. 1, 1995), simply provide for coordination of benefits with no-fault plans (45 C.F.R. § 1652.204-71), but do not specifically authorize a plan to seek reimbursement or subrogation. Thus, the sole basis for the claimed interest by the FEHBA plan is the contractual provision in the health insurance contract under which the personal injury client received services. As noted in the facts above, the plan here has specific language that it be "reimbursed" for benefits or be subrogated to the injured party's rights.

The mere right of the FEHBA plan to seek reimbursement for the benefits provided would not, in and of itself, appear to give the FEHBA plan an "interest" in the specific settlement proceeds sufficient to trigger the provisions of ER 1.15(b). Blacks Law Dictionary, 4th ed., p. 1452, defines "reimburse" as: "To pay back, to make restoration, to repay that expended; to indemnify, or make whole." The term "reimbursement" thus does not denote any interest in that particular fund, but merely a right to be paid back. ER 1.15(b), on other hand, is quite explicit in limiting an attorney's obligation to those circumstances where the attorney "receives funds... in which a client or third person has an interest." Conversely, the contractual provision allowing the plan to be subrogated to the injured party's rights, including the right to bring suit in the person's name, most certainly gives the FEHBA plan an "interest" in the settlement pursuant to ER 1.15(b).

In Arizona, subrogation amounts to an assignment. State Farm Fire & Casualty Co. v. Knapp, 107 Ariz. 184, 185, 484 P.2d 180 (1971). "[S]ubrogation is the substitution of another person in the place of a creditor, so that the person in whose favor it is exercised succeeds to the rights of the creditor in relation to the debt." Mosher v. Conway, 45 Ariz. 463, 468, 46 P.2d 110, 112 (1935). The rights of the subrogee are the same, but no greater than, the rights of the subrogor. Employers Mutual Liability Co. v. McKee, 16 Ariz. App. 77, 80, 491 P.2d 27 (1971). The right to subrogation accrues when the subrogee pays the debt. 83 C.J.S. Subrogation § 11. Deriving its origins from the common law, subrogation may be classified as either legal or conventional. Legal subrogation exists by operation of law from a condition or relationship, while conventional subrogation is created by an agreement or act of the parties. Allsate Insurance Co. v. Druke, 118 Ariz. 315, 317, 567 P.2d 503 (Ct. App. 1977), vacated 118 Ariz. 301, 576 P.2d 489 (1978).

Clearly the language of the health plan contract provides a sufficient basis for finding the existence of conventional subrogation. Assuming that the health plan has paid the client's medical bills, the plan's subrogation interest has matured. Under the stated facts, the client is about to settle her personal injury claim with the tortfeasor. The plan is subrogated to the rights of the client, and stands in the client's shoes as to that portion of the settlement funds which represent payment by the tortfeasor for the client's injury-related medical bills. Therefore, the plan has an "interest" in the settlement proceeds received by the attorney such that the attorney's duties to the plan under ER 1.15(b) are triggered.

The Committee's determination that the plan's subrogation language gives the plan an "interest" in the settlement proceeds appears consistent with the reported FEHBA decisions where reimbursement was sought. In MedCenters Health Care v. Ochs, 26 F.3rd 865 (8th Cir. 1994), a FEHBA plan intervened in the state court tort action brought by an injured party against the tortfeasor. That plan included reimbursement and subrogation language that is factually indistinguishable from the language of the plan here. The plaintiff refused to pay MedCenters out of the settlement proceeds, and MedCenters then filed an action in federal court claiming that the health plan contract entitled it to payment of its cost up to the amount of the plaintiff's recovery. Relying on the federal preemption doctrine, the district court rejected claims that subrogation should not be allowed or should be limited pursuant to state law. The Eighth Circuit affirmed the granting of summary judgment by the district court, and held the contract language sufficiently clear to require reimbursement.

Similarly, in NALC Health Benefit Plan v. Lundsford, 879 F. Supp. 760 (E.D. Mich. 1995), the court upheld the plan's reimbursement provisions, holding that any incompatible provisions of state law were preempted. The plan in Lundsford, however, in addition to the standard reimbursement and subrogation language, also provided that: "All recoveries from a third party (whether by lawsuit, settlement, or otherwise) must be used to reimburse the Plan for benefits paid." Id. at 763 n.5.

CONCLUSION

The FEHBA plan, by contract, has a cognizable "interest" in the personal injury settlement funds such that the inquiring attorney must comply with ER 1.15(b). Accordingly, as to question one, the attorney cannot ethically counsel the client to sign a release that might extinguish the health care insurer's subrogation claim unless the attorney intends to honor his obligation to the plan under ER 1.15 by paying the plan's claim. Similarly, as to question two, the attorney may not ethically disburse all the settlement proceeds to the client; rather, under ER 1.15(b) the attorney must notify the plan of the settlement and disburse directly to the plan any funds to which it is entitled. Finally, as to the third question presented, the Committee finds that this is one of the circumstances where an attorney has duties to a third party in addition to the fiduciary duties owed to the client. ER 1.15(b) is clear in requiring the attorney to promptly notify the plan and to promptly deliver to the plan any funds to which the plan is entitled.