United States District Court, Northern District of Illinois, W.D
October 25, 1983
HERBERT E. MARTZ, PLAINTIFF,
THE UNION LABOR LIFE INSURANCE COMPANY, DEFENDANT.
The opinion of the court was delivered by: Roszkowski, District Judge.
Before the court are cross-motions for summary judgment filed
by the plaintiff, Herbert E. Martz, and the defendant, The Union
Labor Life Insurance Company. For the reasons stated herein, the
plaintiff's motion for summary judgment is granted and the
defendant's motion for summary judgment is denied.
Jurisdiction is invoked pursuant to 28 U.S.C. § 1332. Plaintiff
is a resident of Illinois, and the defendant is a Maryland
corporation authorized to do business in Illinois. The matter in
controversy, exclusive of interest and costs, exceeds the sum of
Ten Thousand Dollars ($10,000).
The undisputed facts are as follows.
The plaintiff, Herbert E. Martz, was a member of the Central
Laborers Union. As a union member, plaintiff was insured by the
Union Labor Life Insurance Company under a group policy. The
policy covered medical and hospital bills up to a maximum of
$100,000 per calendar year.
Termination or modification of the policy was provided for
under the policy terms, which stated:
TERMINATION AND CHANGE OF POLICY . . .
On any premium due date the Policyholder may
terminate this Policy or, subject to the Company's
approval, may modify, amend or change the provisions,
terms and conditions of this Policy. The Company's
written consent shall be required to make any such
modification, amendment or change, but the consent of
any insured Person or any other Person referred to in
this Policy shall not be required to effect such
termination or any modification, amendment or change
of this Policy.
In early August 1980, Donald Dippold, Executive Administrator
of the union's welfare fund, began to look for ways to reduce the
costs of the insurance plan. He contacted Richard Falcone, Union
Labor Insurance Company's Midwest Regional Manager
of Claims and Service. Falcone suggested a subrogation provision
for containing the cost of premiums, and Dippold requested that
Falcone outline, in writing, his suggestions regarding the
subrogation provision. Falcone then wrote a letter to Dippold
recommending the adoption of the subrogation provision. Falcone
attached an executed copy of Union Labor's standard subrogation
provision rider. The rider provided:
SUBROGATION. The Company shall be subrogated to the
extent of any benefits paid under this Contract, to
the proceeds of any settlement or judgment effected
against a third party and resulting from the exercise
of any rights of recovery which the Person may have
against any person or organization. The Person
claiming benefits under this Policy shall execute and
deliver such instruments and take such other action
as the Company may require to implement this
provision. The Person shall do nothing to prejudice
the rights given the Company by this provision
without its consent.
The Trustees of the Central Laborers Union Welfare Fund met on
October 28, 1980 to consider the subrogation provision. At this
meeting the trustees reviewed and unanimously voted to amend the
policy to include the subrogation provision. The Rider adopted
stated that the subrogation provision was to be effective on and
after October 28, 1980.
A little less than a month later, a freight train struck the
plaintiff as he was driving his pick-up truck near Lena,
Illinois. He suffered severe injuries, was hospitalized, and was
treated by various doctors.
After the plaintiff was injured, two actions were taken
regarding the insurance policy. First, on December 9, 1980, the
trustees of the union's fund formally signed the subrogation
rider which was approved in the October 28, 1980 meeting. Second,
in mid-December, union members were given notice that the
insurance policy had been modified through the addition of the
subrogation provision. It is undisputed that the plaintiff
received his notice on December 18, 1980.
After incurring medical and hospital costs, the plaintiff filed
claims with the insurer. The insurer paid claims amounting to
approximately $44,750.00. The insurer then requested the
plaintiff to sign a subrogation agreement, authorizing them to
proceed against the railroad involved in the accident. Plaintiff
refused, contending that the insurer had no right to subrogation.
Upon plaintiff's refusal, the insurer immediately ceased paying
plaintiff's medical and hospital bills.
Plaintiff then commenced this action seeking a declaratory
judgment that the subrogation provision has no binding legal
effect upon him. Plaintiff raises four contentions: 1) that the
subrogation provision was not adopted in accordance with the
Master Plan's procedures for amending the policy; 2) the
modification, if valid, did not take effect until December 9,
1980, the day the rider was signed; 3) prior notice of any change
to the insured is required by law and plaintiff did not receive
notice of the modification until December 18, 1980; and 4) The
Rider's subrogation language had not been approved by the
Illinois Department of Insurance and is therefore invalid.
Plaintiff seeks a declaration that the subrogation provision
has no binding effect upon him and a ruling that the defendant
must pay plaintiff's hospital and medical bills.
The plaintiff also seeks attorney's fees, costs and statutory
penalties under Ill.Rev.Stat. ch. 73 § 767 (1981). Section 767
permits recovery of fees, costs, and penalties when an insurer
has vexatiously refused to pay benefits under an insurance
policy. Plaintiff contends that defendant's decision to cease
payment of his hospital bills after he had refused to sign the
subrogation authorization constitutes willful and vexatious
Both parties, alleging that there are no material issues of
fact, have moved for summary judgment on the liability issue. The
plaintiff claims he is entitled to judgment for the four reasons
set forth in his
complaint; the defendant, in turn, contends that the amendment to
the policy was lawfully adopted and is therefore binding on the
Federal Rule of Civil Procedure 56 provides that a summary
judgment shall be rendered if "no genuine issue as to any
material fact" exists. The Court in Rigsby v. Mutual of New York,
331 F.2d 353, 354 (10th Cir. 1964), held that when the "only issue
was the application of the provisions of the [insurance]
contract" use of summary judgment is proper. Here, where the
court can resolve the legal questions raised by reference to the
contract and established principles of law, summary judgment is
Because consideration of the notice issue resolves the
liability question, the Court will address the notice issue
The majority of jurisdictions in this country require notice*fn1
to the insured employee before the employer or the group insurer
can cancel or modify benefits under a group policy. The Kansas
Supreme Court, in adopting this majority rule, observed that:
It is clear that in other jurisdictions the weight of
authority holds that without reasonable notice to the
contributing employee, neither the employer nor the
insurance company may cancel or modify the benefits
under a group insurance before liability has attached
so as to deprive the employee or his beneficiary of
rights under the policy.
Ogden v. Continental Casualty Company, 208 Kan. 806,
494 P.2d 1169 (1972) (emphasis supplied). Legal commentators have also
noted the prevalence of the majority rule. See 68 A.L.R.2d 249,
Cancellation or Modification of Master Policy As Termination of
Coverage Under Group Policy, § 12 (1959).*fn2
The majority position is grounded upon two policy
considerations. First, there is a recognition that the insured
employee, if not a party to the insurance contract, at the very
least has significant rights under the policy which should be
protected. In Fagan v. John Hancock Mutual Life Insurance
Company, 200 F. Supp. 142 (D.Kan. 1961), the court applied the
majority rule, in part, because:
although deceased was not a party to the insurance
contract, he did have rights under it. For example,
he could designate beneficiaries. He could also
convert to an individual policy within thirty-one
days after termination of coverage under the group
policy. The weight of the authority is that notice
must be given the employee of any modification of the
contract which affects his rights.
Id. at 144. (emphasis supplied). And where the employee
contributes to the cost of the group policy, the courts have been
especially diligent in requiring notice of any change affecting
rights under the policy. In Ogden, supra, the Kansas Supreme
Court reasoned that:
where the employee pays a portion of the premiums he
has valuable rights in the policy and therefore
notice should be given him of any modification of the
contract which might effect those rights.
Ogden, 494 F.2d at 1172.
Second, the notice requirement allows the insured to exercise
conversion rights or to obtain alternative coverage so that no
gap in protection arises. The Pennsylvania and Alabama Supreme
Courts have required notice to the insured:
So that he may timely exercise any conversion
privilege which may be available to him under the
terms of the policy or,
where such privilege is not given, in order that he
may reasonably obtain similar insurance protection on
his own account elsewhere.
Harrison Insurance Co. of North America, 294 Ala. 387,
318 So.2d 253
, 258 (Ala. 1975) quoting Poch v. Equitable Life Assurance
Society, 343 Pa. 119, 22 A.2d 590 (1941).
A minority of jurisdictions, in contrast, hold that an employer
may validly cancel or modify a master group policy without notice
to the insured employee. E.g. Kimbal v. Travelers Ins. Co.,
151 Fla. 786, 10 So.2d 728 (1942); Johnson v. Metropolitan Life
Insurance Co., 52 Ga. App. 759, 184 S.E. 392 (1936). Where the
employee has not contributed to the policy, these courts have
reasoned that the group insurance coverage was a voluntary and
gratuitous gift to the employee which the employer could cancel
at will. E.g. Meyerson v. New Idea Hosiery Co., 217 Ala. 153,
115 So. 94 (1927). Where the employee has contributed to the plan,
these courts have reasoned that the group policy is nevertheless
a contract between the employer and insurer, and therefore notice
serves no purpose because the insured could never step into the
employer's shoes and continue the policy in effect. E.g. Johnson
v. Metropolitan Life Insurance Co., 52 Ga. App. 759, 184 S.E. 392
In a diversity action, this court is bound to follow the state
law in which the court sits. Erie v. Tompkins, 304 U.S. 64, 58
S.Ct. 817, 82 L.Ed. 1188 (1938). The question therefore becomes
whether Illinois follows the majority or minority position. While
Illinois law is not entirely clear on the notice issue, it does
appear that Illinois precedents adopt the majority position.
Both cases construing Illinois' notice requirements under group
insurance plans involved the failure to notify the insured of the
termination of coverage. The first decision applying Illinois law
arose in the U.S. District Court for the District of Kansas. In
Fagan v. John Hancock Mutual Life Insurance Co., 200 F. Supp. 142
(D.Kan. 1961), the original master policy provided insurance
coverage, including life insurance, for all employees. The
employer and the insured then amended the master policy to
terminate the life insurance coverage upon an employee's
retirement from full-time work. Illinois law governed the
dispute. The Court held:
notice must be given the employee of any modification
of the contract which affects his rights. (citations
omitted). This is a sound rule. Unless an employee is
notified of coverage termination, he cannot take
advantage of his conversion rights.
Id. at 144. (emphasis supplied). Unfortunately, there existed no
Illinois authority to guide the Fagan court; the court
essentially decided that it was likely Illinois would follow the
After Fagan, the Illinois Appellate Court for the Second
District confronted the notice issue in Lindgren v. Metropolitan
Life Insur. Co., 57 Ill. App.2d 315, 206 N.E.2d 734 (2d
Dist. 1975). In Lindgren, the employer cancelled a group policy
insurance which had provided life insurance to the contributing
employees. No notice of the cancellation was given to the
employee, who subsequently died. Despite the cancellation, the
employee's estate was able to recover the policy proceeds because
no notice of cancellation was given. The court began its analysis
by observing that "there appears to be no Illinois cases on this
exact point." The court therefore chose to rely on Fagan and the
ALR's statement of the majority position. The court stated:
The Annotator states, on page 269:
"In a majority of cases directly dealing with
this question the view has been taken that, without
reasonable notice to the employee, the employer may
not cancel or modify a master group policy, before
liability has attached, so as to deprive the
employee or his beneficiary of rights under the
We agree with the reasoning in the Annotation and
in the cases cited above. Where an employee applies
coverage under a group policy, is accepted, and pays
the premiums required by the insurer, he has a vested
interest in that policy at least to the extent that
he cannot be divested without notice.
The certificate issued by Metropolitan indicates
that the employee, Lindgren, had conversion
privileges under the policy. He was entitled to a
determination of whether any of the conversion
privileges were available to him or to the right of
seeking adequate protection elsewhere.
206 N.E.2d at 736.
Relying principally upon Lindgren, this court finds that
Illinois law requires notice prior to the cancellation or
modification of a group insurance policy. While Lindgren
admittedly is not an Illinois Supreme Court decision, an
appellate level decision is a fair indicator of what a state's
supreme court is likely to do. The Lindgren holding combined with
the fact that the rule announced in Lindgren is clearly the
majority rule, convinces this court that the Illinois Supreme
Court would adopt the Lindgren holding.*fn3
The defendant attempts to distinguish Lindgren and Fagan from
the present case because they involved termination of coverage;
whereas the present case involves a less significant subrogation
right. Defendants argue that while requiring notice is a sensible
prerequisite to cancellation because it allows for exercise of
conversion rights and/or for time to replace the eliminated
coverage, notice makes little sense for subrogation rights.
It is true that a stronger argument for notice exists where the
policy is cancelled than where a less significant modification is
involved. And admittedly it is unlikely that the addition of a
subrogation provision would involve any conversion rights. Still,
the distinction defendant draws misses two points.
First, the notice requirement is premised on two grounds. One
is the need to preserve the opportunity to exercise conversion
rights; but the other recognizes that the insured should not be
deprived of a benefit without notice. It is this second policy
concern that applies with equal force to both cancellations and
modifications. The plaintiff in this case possessed a valuable
right to institute suit against the party responsible for his
injuries. The right could be worth up to $100,000. The majority
rule simply recognizes that before a valuable policy right is
eliminated, notice must be given.
Second, the majority cases and the ALR upon which the Lindgren
court relied explicitly state that the notice rule applies to
cancellations or modifications. The ALR states, "without
reasonable notice to the employee, the employer may not cancel or
modify a master group policy". Consequently, the language in
Lindgren itself establishes that the notice requirement applies
with equal force to modifications and cancellations.
For these reasons, the court holds as a matter of law that the
subrogation rider has no binding legal effect upon the plaintiff.
Because the notice issue is dispositive, the court need not
consider plaintiff's alternative theories of relief.
B. Costs, Attorney's Fees and Penalties
Illinois law allows the award of costs, fees and statutory
penalties where the court finds that an insurer's delay in paying
an insured's claim is vexatious and
unreasonable. See Ill.Rev.Stat. ch. 73 ¶ 767 (1981).*fn4
Whether an insurer's delay has been vexatious or unreasonable
is usually a matter vesting in the judgment and discretion of the
trial court. Songer v. State Farm Fire and Casualty Co.,
91 Ill. App.3d 248, 414 N.E.2d 768, 46 Ill.Dec. 715 (5th Dist. 1980).
It has been generally recognized, however, that where the insurer
defends in good faith, e.g., Jenkins v. State Sec. Ins. Co.,
56 Ill. App.3d 737, 371 N.E.2d 1203, 14 Ill.Dec. 150 (1st Dist. 1978),
or on the basis of a reasonable legal defense which raises an
issue of first impression in the jurisdiction, e.g., Goetze v.
Franklin Life Ins. Co., 26 Ill. App.3d 104, 324 N.E.2d 437 (2nd
Dist. 1975), the insurer does not act unreasonably or vexatiously.
In the present case, the insurer defended on the basis of a
reasonable legal position on an unsettled issue which only one
Illinois appellate decision had ever addressed. Even the single
precedent was arguably distinguishable from the case at hand. If
the insurer had prevailed in establishing its position that it
could implement a subrogation provision without notice to the
insured, the plaintiff would have been deemed to have breached
his obligations and the insurer was justified in withholding
benefits until plaintiff signed the subrogation authorization.
Under these circumstances, the court finds that the insurer's
decision to contest the plaintiff's claim was neither vexatious
or unreasonable. Consequently, the request for costs, attorney's
fees and penalties based upon § 767 is hereby denied.
For the reasons stated herein, the court enters judgment on
behalf of the plaintiff and against the defendant. The plaintiff
is entitled to the medical and hospitalization benefits provided
under the policy without relinquishing his right to maintain, and
retain the proceeds from, a third party action.
It is so ordered.