In Howard Delivery Service, Inc. v. Zurich American Ins. Co., 126 S.Ct. 2105 (2006), in a six-to-three decision, the Supreme Court has resolved a split in the circuits over whether claims for unpaid workers’ compensation premiums are entitled to priority under Bankruptcy Code section 507(a)(5).  Relying primarily on the legislative history of Section 507, the Supreme Court held that such premiums are not entitled to priority as "contributions to an employee benefit plan arising from services rendered."

Previously, in Employers Ins. of Wausau v. Plaid Pantries, Inc., 10 F.3d 605 (9th Cir. 1993), the Ninth Circuit Court of Appeals held that workers’ compensation insurance is an "employee benefit plan" within the meaning of Section 507(a)(5). In so holding, the court interpreted the history of Section 507(a)(5) as evidencing Congressional intent to expand priorities in order to protect the solvency of benefit plans, and it found that allowing a priority for insurers was the "surest way to provide employees with the policy benefits to which they are entitled." Id. at 607.

However, the Eight Circuit Court of Appeals, in In re HLM Corp., 62 F.3d 224 (8th Cir. 1995), disagreed with Plaid Pantries, holding that the "contribution" of insurance premiums does not benefit employees within the meaning of the term "employee benefit plan" inasmuch as it is primarily the employer, not the employee, who benefits. Id. at 226. Thus, the court held that workers’ compensation insurance premiums are not bargained-for-substitutes for wages within the scope of Section 507(a)(5). The Tenth Circuit, after examining the legislative history, joined the Eight Circuit in In re Southern Star Foods, Inc., 144 F.3d 712 (10th 1998), as did the Sixth Circuit in In re Birmingham-Nashville Exp., Inc., 224 F.3d 511 (6th Cir. 2000).

Against this backdrop, in Howard Delivery, Zurich American sought priority treatment under Section 507(a)(5) for approximately $400,000 in unpaid workers’ compensation insurance premiums. The debtor objected to Zurich’s claims, and the bankruptcy court and the district court both agreed, holding that the unpaid premiums did not constitute bargained for, wage-substitute-type benefits. However, the Fourth Circuit reversed on appeal in a fractured holding consisting of a per curiam opinion following the Ninth Circuit’s lead in Plaid Pantries, with two concurring opinions and a dissenting opinion.  

The issue was appealed to the Supreme Court, which avoided a close textual analysis and instead focused on bankruptcy policy and history in ultimately resolving the conflict among the circuits, holding that unpaid workers’ compensation premiums do not enjoy priority under Section 507(a)(5). Acknowledging that the question is a close one, the Supreme Court held that such premiums are "more appropriately bracketed with premiums paid for other liability insurance, e.g., motor vehicle, fire or theft insurance, than with contributions made to secure employee benefits." Howard Delivery, 126 S.Ct. at 1209. In so holding, the Court focused on the Code’s overarching goal of equal distribution among creditors and the legislative history and structure of Section 507(a)(5), which was enacted to overrule prior precedent that had held that fringe benefits did not qualify for the wage priority contained in the Bankruptcy Act. The Court also found it significant that Congress has imposed a combined cap on both wages and contributions to employee benefit plans in Section 507. Id. at 2111-12. This context led the Court to the conclusion that Section 507(a)(5) is intended to cover fringe benefits that "generally complement, or ‘substitute’ for hourly pay." Id. at 2113. Finally, the Court considered the nature of workers’ compensation and concluded that such insurance serves to protect an employer’s assets, like other types of liability insurance, and this is distinct from employee benefits provided by the liability aspects of workers’ compensation schemes. 

Justices Kennedy, Souter, and Alito, however, disagreed with the majority’s characterization of the nature of the workers’ compensation system, finding that such plans do provide benefits by eliminating common law defenses of contributory negligence, assumption of the risk, and the fellow-servant doctrine that could otherwise stand in the way of recovery for work-related injuries. ­­Id. at 2117-19.

Authored by:

Mette H. Kurth

(213) 617-5501