S.D.Ind: Private contractor processing Medicaid applications is state actor

In a case involving widespread delay problems when IBM was retained to process Medicaid applications, the District Court for the Southern District of Indiana held that a claim against the agency for injunctive relief was moot, because the agency cancelled its contract with IBM.

Nevertheless, the court refused to dismiss the 42 U.S.C. § 1983 claim for damages against IBM, finding that IBM was acting under color of state law when it processed Medicaid applications.  The court also refused to dismiss a negligence claim against IBM and kept the agency in the suit for consideration of the appeal of the denial of benefits.  Novak v. Indiana Family and Social Services, 2011 WL 1224813 (S.D.Ind. Mar. 30, 2011).  The judge was nominated by Clinton.

The case arose out of the privatization by the Indiana Family and Social Services Administration (FSSA) of its Medicaid application process. In 2006, FSSA signed a contract with IBM to handle its Medicaid application system. IBM “took over responsibility for most of the work previously performed by the State, up to the point of the actual benefits determination decision.” This privatization led to delays and was prone to error, and FSSA cancelled the arrangement with IBM in 2009.

Raymond Novak applied for Medicaid in October 2008.  The law firm he retained to handle his application was informed a month later that IBM had no record of his application.  The law firm resubmitted the application in November.  The agency denied Medicaid eligibility in January 2009 based on excess resources.  In February 2009, Novak filed a timely appeal with the service center managed by IBM, but his law firm learned in June 2009 that the appeal had not been processed.  The appeal was resubmitted directly to the agency’s appeals division.  Novak was unsuccessful in his administrative appeal and subsequently filed an individual appeal in state court.  In addition to appealing the denial of benefits, he brought claims under 42 U.S.C. § 1983 against FSSA, the FSSA Secretary, in her official capacity, and IBM. He also brought a state tort negligence claim against IBM.  The defendants removed the case to federal court based on the § 1983 claims.

The court noted that FSSA “mixed” together arguments about lack of standing and failure to state a claim.  Separating them out, the court began with the contention that Novak did not have standing to challenge the failure to provide Medicaid benefits with reasonable promptness, since he was found ineligible.  The court held that he did not have standing to challenge the provision of benefits in his appeal of the denial of eligibility.  However, the court found that he had standing to challenge the application process, including delays in determining eligibility.  Novak had spent down his resources in response to the agency’s decision and was found eligible in a subsequent application.  He alleged that if the agency had acted promptly, he would have qualified for benefits sooner.  The court found this sufficient to meet standing requirements with regard to a challenge to the application process.

Turning to the alleged failure to state a claim, the court found that Novak was not entitled to compensatory damages from a state agency.  The court next concluded that his claim for injunctive relief was moot.  Novak argued that the cancellation of the contract with IBM did not establish that the agency had corrected the delays to which he could be subjected in the future.  The court disagreed, finding that while there was no “guarantee” that all the problems had been cured, the removal of IBM from the process “does address the bulk of the complaints” contained in the lawsuit.  Therefore, the court dismissed the claim for injunctive relief against the agency.

Yet, the court refused to dismiss the claims against IBM.  While private parties are usually not liable under § 1983, the court held that IBM was acting “under color of law” when it processed Medicaid applications.  IBM argued that the ultimate decision regarding eligibility remained with the state agency.  But the lawsuit challenged problems in the application and appeal process.  And the contract with FSSA had provided IBM with a “degree of discretion” to work up Medicaid applications.  The court found that IBM was “performing functions which have previously been unique to a state.”  The court expressed its “opinion that providing medical care to those who are indigent is also a traditional function of state government.”  The court concluded that IBM was acting under color of state law when it reviewed and processed Medicaid applications.

The court also did not dismiss the state tort negligence claim against IBM. The court found that whether IBM assumed a duty towards Novak was a question that involved weighing evidence. The court would not weigh conflicting evidence in ruling on a motion to dismiss.  The court noted that the contract between IBM and FSSA had a provision stating that there were no intended third party beneficiaries to the contract.  The court rejected IBM’s contention that this contract provision defeated the negligence claim.

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