Mentally Disabled Employee: Disability Insurance vs the Employer

A resignation will ordinarily bring the employment relationship to an end. However, that said, it may not necessarily extinguish disability insurance rights that arose before the resignation. Nor does it necessarily protect an employer that failed to provide information or assistance required to preserve those rights.

This issue assumes particular importance where an employee resigns while suffering from a mental disability. The disability may impair the employee’s ability to understand:

• that they are medically unable to work;
• that disability benefits may be available;
• that an application must be submitted;
• that strict filing deadlines apply;
• that medical evidence is required; or
• that resignation may jeopardize access to valuable benefits.

Human rights law may require the employer to inquire into whether the resignation was influenced by disability. Separate from that human rights remedy, three civil remedies may also arise:

1. A claim to enforce the employee’s entitlement to insured disability benefits or to disability benefits payable directly by the employer under the employment contract; and
2. A claim against the employer for the loss of disability insurance benefits normally paid by an insurer; and
3. A negligence or contractual claim against the employer for causing the loss of those rights.

These remedies overlap, but they are analytically distinct.

The first remedy: enforcing the disability benefit entitlement

The first question is whether the employee became disabled while still covered by the disability plan.

The party responsible for paying the benefit must also be identified. Long-term disability benefits are commonly insured and payable by a third-party insurer. Short-term disability benefits are often funded and paid directly by the employer as salary continuation. In the latter situation, the employee’s claim may be a direct contractual claim against the employer rather than for damages for the loss of an insurance claim or a claim based upon the employer’s agency for an insurer, again for the loss of disability insurance benefits.

A resignation occurring after the onset of disability does not necessarily eliminate a claim that had already arisen. The employee’s rights will depend upon the wording of the plan, including:

• the definition of disability;
• the requirement that the employee be actively at work;
• the elimination or qualifying period;
• the date on which coverage terminates;
• continuation-of-coverage provisions;
• notice and proof-of-claim requirements; and
• contractual limitation periods.

The critical date is often the date on which the disabling condition first prevented the employee from performing the work required by the policy. If the employee became disabled while still employed and insured, a later resignation or termination will not defeat the claim, where the medical evidence supports it.

Employer-funded short-term disability benefits

Where the employer itself promises to pay the disability benefit, typically for short term disability benefits, the employee may sue the employer directly for breach of the employment contract. The employee need not establish that the employer was acting as an insurer’s agent or that the employer’s negligence caused an insured claim to be rejected, as discussed below. The essential questions are whether the benefit formed part of the employment contract, whether the employee satisfied the contractual definition of disability and whether the employer failed to pay the benefit when it became due.

Zorn-Smith v Bank of Montreal

The direct contractual remedy is illustrated by Zorn-Smith v Bank of Montreal.

Zorn-Smith was a 21-year employee of the Bank of Montreal. Chronic understaffing, excessive workloads and persistent performance demands contributed to an adjustment disorder with depressed and anxious mood. In February 2001, she stopped working and began receiving benefits under the Bank’s Short-Term Income Protection Plan, known as S-TIP.

The S-TIP benefit was not a long-term disability benefit payable by an outside insurer. The Bank itself was responsible for paying the short-term benefit. The plan provided 100 percent salary continuation for an illness or disability lasting up to six months. The Bank’s benefit statement treated the cost of that coverage as part of Zorn-Smith’s total compensation package.

The Bank’s medical adviser initially approved the claim but later concluded that Zorn-Smith could begin a graduated return to work. He reached that conclusion without examining her and without contacting her treating physician, even though the physician had invited such contact and had reported that her impairment remained total.

The Bank discontinued the S-TIP payments effective May 27, 2001. It told Zorn-Smith that she must participate in a return-to-work program, submit an appeal supported by new medical information or face the termination of her employment.

The court found that the Bank’s medical adviser had applied the wrong contractual test. He considered whether Zorn-Smith was capable of performing some form of work. The applicable S-TIP test was whether she was able to perform her regular job.

The court accepted the evidence of Zorn-Smith and her treating physician and found that she remained medically unable to perform her regular Financial Services Manager position until August 31, 2001.

The denial of S-TIP benefits was therefore an independent breach of the employment contract. The Bank’s subsequent dismissal of Zorn-Smith without cause was a second and separate breach of that contract.

This distinction allowed Zorn-Smith to recover the short-term disability benefits that the Bank itself should have paid, in addition to wrongful dismissal damages. The court recognized that requiring the Bank to pay both amounts initially appeared to involve double recovery because the Bank was responsible for both salary and S-TIP payments. The decisive fact, however, was that the Bank had not paid the disability benefits. It stopped the S-TIP payments and then dismissed Zorn-Smith, leaving her without either salary or disability income.

The court awarded disability benefits from May 28 through August 31, 2001, in addition to damages based upon a 16-month notice period. The award was not compensation for the loss of an opportunity to make an insurance claim. It enforced a disability benefit that was already contractually payable by the employer.

The case therefore establishes an important third-party distinction:

1. Where an insurer is responsible for the benefit, the claim will ordinarily seek payment under the insurance policy;

2. Where the employer administers an insured claim, the employer may be liable for failing to provide forms, information or assistance; and

3. where the employer itself is responsible for paying the benefit, its wrongful refusal to pay may constitute a direct breach of the employment contract. ¹

Tarailo v Allied Chemical Canada Ltd.

The leading authority involving mental illness and potential employer liability for the failure to assist the employee in submitting a disability claim is Tarailo v Allied Chemical Canada Ltd.

Tarailo experienced serious employment and behavioural difficulties. He resigned after being advised that his employment would otherwise be terminated. It was later established that he had been suffering from a serious mental illness and had become disabled before his employment ended.

His wrongful dismissal claim was unsuccessful. The employer had legitimate grounds for ending the employment relationship because he was incapable of performing his position. ²

The claim for lost disability benefits against the employer, however, succeeded.

The court found that Tarailo had been a permanent full-time employee when his illness prevented him from working. His entitlement to disability benefits arose before his resignation. The employer could not extinguish that entitlement by threatening dismissal and then accepting his resignation.

The case therefore separates two questions:

• Was the employer entitled to end the employee’s active employment?
• Was the employee already entitled to disability benefits when the employment ended?

An employer may succeed on the first question and still be liable on the second.

The Ontario Court of Appeal later described Tarailo as a case in which the employee became disabled before his discharge and would have been, in the normal course, contractually entitled to short-term and long-term disability benefits. The failure of the employer to assist Tarailo in his disability claim led to its liability.

Tarailo differs from Zorn-Smith in the legal route by which liability arose. In Tarailo, the employer failed to assist the employee in placing a disability claim before the insurer. In Zorn-Smith, the Bank itself was responsible for paying the short-term benefit and was sued directly for its contractual refusal to continue those payments.

The employer as agent of the insurer

Group disability insurance is commonly arranged through the employer. The employee may have little or no direct contact with the insurer until a claim is submitted.

The employer may:

• distribute the benefit booklet;
• provide application forms;
• explain the claims procedure;
• calculate the elimination period;
• collect medical documentation;
• submit materials to the insurer;
• maintain absence and eligibility records; and
• communicate the insurer’s requirements to the employee.

Where the insurer has delegated these administrative functions to the employer, the employer may be treated as the insurer’s agent for those purposes. The employer’s failure to perform the delegated function may then bind the insurer or expose both the employer and the insurer to liability.

The existence of an agency relationship is fact-specific. It depends upon the policy documents, the benefit booklet, the division of responsibilities between the employer and insurer and the functions the employer actually undertook to perform.

An employer is not automatically the insurer’s agent for every purpose. Courts have distinguished administrative functions delegated to the employer from substantive decisions that remain exclusively within the insurer’s control.

An agency analysis is unnecessary where the employer itself has promised to pay the benefit. In that situation, as in Zorn-Smith, the employer is not merely assisting an insurer. It is the contractual benefit provider and may be directly responsible for the unpaid benefit.

The employer’s undertaking in Tarailo

In Tarailo, the employer had undertaken in its benefits materials to assist employees in completing the forms required for disability claims.

After receiving correspondence disclosing Tarailo’s illness and treatment, the employer had reason to appreciate that he might have been mentally incapable of identifying and pursuing his entitlement. The employer possessed the necessary forms but did nothing to assist him.

The court found that the employer owed Tarailo a duty to assist with the claim and was acting as the insurer’s agent for that limited administrative purpose.

The employer was not required to decide whether Tarailo met the policy definition of disability. That was a matter for the insurer. Its obligation was to give him the information and assistance required to place the claim before the insurer.

Herbert v Manulife Financial

The Alberta decision in Herbert v Manulife Financial provides another example.

The employer had been assigned the administrative responsibility of providing the employee with the forms required to apply for long-term disability benefits. The employee’s application was delayed because the employer refused or failed to provide them.

The employer was found to be the insurer’s agent for that administrative function. The insurer could not rely upon a delay caused by the failure of the party to which it had delegated responsibility for providing the forms. ³

Ferguson v Halton

The obligation to assist was stated directly in Ferguson v Halton.

Ferguson took medical leave and sought information about his employment benefits. His employer did not give him the complete long-term disability plan documents, the necessary forms or accurate information concerning the application process and its deadlines.

The court stated that, as his employer, Halton owed Ferguson a duty to assist him in applying for long-term disability benefits. The employer’s own evidence confirmed that its disability-management staff ordinarily tracked employees approaching the end of short-term disability and sent them long-term disability application packages.

That system was not properly followed in Ferguson’s case.

Ferguson’s eventual application was several years late. The court nevertheless concluded that the employer’s persistent failure to provide accurate and complete information had created unnecessary confusion and contributed to the delay. ⁴

Resignation or termination does not necessarily defeat an accrued claim

In Ferguson, the employer argued that the employee was no longer covered because his employment had ended before he submitted the formal application.

The court rejected that argument. The termination-of-coverage language applied to future claims, not to a disability claim that had arisen while Ferguson remained employed and covered.

The court relied upon the Ontario Court of Appeal’s decision in MacIvor v Manufacturers Life Insurance Co., which similarly held that the end of employment did not eliminate an insured claim arising from a disability that occurred during the period of coverage. ⁵

The principle is important, but it is not universal. The result will always depend upon the particular policy language and the date on which the disability arose.

Relief from forfeiture for a late application

A mentally disabled employee may fail to give timely notice or submit proof of claim within the period required by the policy.

A late application is not invariably fatal.

Where the employee has imperfectly complied with an insurance requirement—as opposed to never having acquired coverage—a court may have jurisdiction to grant relief from forfeiture. The precise statutory source and test will depend upon the province.

In Ontario, Ferguson applied three considerations:

1. the reasonableness of the claimant’s conduct;
2. the seriousness of the contractual breach; and
3. the disparity between the value forfeited and the prejudice caused by the breach.

The court considered the employee’s medical circumstances, the employer’s failure to provide accurate information, the absence of material prejudice and the potentially enormous value of the lost benefits.

Ferguson faced the possible loss of income benefits equal to 65 percent of his salary until age 65. The court granted relief from forfeiture and allowed the disability claim to proceed, although it did not decide whether Ferguson was medically entitled to benefits.

Relief from forfeiture preserves the opportunity to have the claim adjudicated. It does not prove that the employee was disabled within the meaning of the policy.

What the employee must prove against the insurer

Even where the employer failed to assist, the employee must ordinarily establish the underlying insurance entitlement.

This will generally require proof that:

• the employee was covered by the plan;
• the disability began while coverage remained in effect;
• the employee satisfied the applicable definition of disability;
• the elimination period was completed;
• any exclusion or limitation does not apply;
• the employee provided, or should be relieved from failing to provide, the required notice and proof of claim; and
• benefits would have been payable but for the administrative failure or delay.

The employer’s misconduct cannot create insurance coverage that never existed. It may, however, prevent the employer or insurer from relying upon an administrative failure that the employer caused.

Where the employer itself was responsible for paying the benefit, the employee must instead establish that:

1.the benefit formed part of the employment contract;

2. the employee satisfied the plan’s definition of disability;

3. the employee complied with, or should be relieved from non-compliance with, the required claims procedure;

4. the employer incorrectly denied or discontinued the benefit; and

5. employee suffered a loss because the contractual benefit was not paid.

The distinction matters. In the insured case, the employee may need to prove that an insurer would probably have accepted the claim. In the employer-funded case, the court may determine entitlement to the contractual benefit directly, as occurred in Zorn-Smith.

 

1. Zorn-Smith v Bank of Montreal, 2003 CanLII 28775 (ON SC), particularly at paras 83–86, 109, 118, 148–161.
2. No human rights claims were asserted as this was long before the amendments to Ontario’s Human Rights Code allowing a civil action for human rights issues
3. Herbert v Manulife Financial, 2002 ABQB 891, 326 AR 128.
4. Ferguson v Halton, 2018 ONSC 5675.
5. MacIvor v Manufacturers Life Insurance Co., 2018 ONCA 381.