# 2 Reason Health Insurers Are Bailing On Obamacare

Written by Joanna Morrow

Joanna Morrow, Principal and Founder of Employer Benefits & Advice, is an employer consultant and advocate who has worked in the employee benefits industry for over two decades. She works diligently to help employers overcome obstacles in their business by sharing her expertise in Human Resources, Benefits & Compensation, Process Mapping, Risk Management and ERISA/DOL/IRS compliance. She is a licensed life and health insurance professional in the State of Arizona and is an active member of the National Association of Health Underwriters (NAHU).

#2 Reason Health Insurers Are Bailing On Obamacare

July 13, 2016Every industry has a formula it uses to establish pricing.

Let’s assume for a moment that you own a trucking company and your pricing model relies on knowing the number of trips you have to make, the nature of goods being transported and the distance of each trip.  Now imagine the government comes in and tells you that you can no longer use that information to determine your pricing.  In addition, they announce they have a large number of potential new customers for you and you will be required to sell products to all of them.

When you complain that this will make it virtually impossible to establish pricing, the Feds assure you that they have designed programs to compensate you when you come up short.  Oh and by the way, the programs will be funded by other companies in your industry who manage to profit in this new and difficult environment.

Welcome to the Affordable Care Act (ACA) and week 2 of explaining the 6 fundamental principles insurers must follow to stay in business.  Understanding how the ACA fails each of these principles is the first step in developing solid and sustainable solutions.

Last week I explained the Law of Large Numbers.  In week 2 I explain in simple terms, another important principle which states that . . .

The Loss Must Be Predictable

When it comes to setting insurance premiums insurers need to be able to accurately predict the loss, meaning it must be of such a nature that its frequency and average severity can be readily determined.  Frequency and severity refers to how often a claim occurs and how much each occurrence costs the insurance company.  To remain solvent, insurers need to be able to calculate the frequency and severity of losses.  As I explained last week, the larger the group, the easier it is to predict the loss.  Without accurate forecasting an economical premium cannot be calculated.

Flying Blind

The ACA prohibited insurers from asking medical questions of new enrollees and outlawed an insurer’s right of refusal in selling a policy.  Right or wrong, these represented some of an insurer’s most effective tools to assist pricing their premiums.  Unable to accurately predict both the number of first time buyers who would purchase insurance (frequency) and the health risks they presented (severity) created a great deal of financial risk and uncertainty for insurers.

The Federal government came up with their own plan for addressing the impact of “unpredictability” for insurers and designed 3 bail out strategies to mitigate the losses insurers would suffer.

Bail Outs Using Industry Revenue

The 3 bail-out funds, coined the 3 “R”s are:

1 – Risk Adjustment Provision

This is a permanent program, funded through paid insurance premiums.  Think of this as a fancy term for “redistribution of wealth”. This provision requires health insurers earning higher profits to pay into a fund that will pay insurers earning less of a profit. The intent here was to reduce an insurer’s incentive to “cherry-pick” risk.

2 – Reinsurance Transitional Relief Program

This is a temporary program running from 2014 – 2016 and funded using revenue earned through insurance premiums paid by employers and individuals.  The fees are:

  • 2014 – $5.25 per covered member per month
  • 2015 – $3.67 per covered member per month
  • 2016 – $2.25 per covered member per month

The fund is designed to compensate insurers for their losses by reimbursing 80% of claim costs that fall between $60,000 – $250,000.  The insurance company is on the hook for the full amount on either side of these thresholds.  Because the ACA failed the Law of Large Numbers, programs like this one that relied on funding from policies purchased have continued to operate in a deficit position since 2014.

3 – Risk Corridor Program

This is a temporary program running from 2014 – 2016 and funded using a combination of earnings from paid insurance premiums and tax payer dollars. Think of it as a program whereby the winners are required to pay the losers with the government making up the difference.   How it was supposed to work:

The ACTUAL claims incurred by an insurer are compared to the EXPECTED claims the insurer assumed when premium pricing was established.

  • If actual claim costs (business expenses) are within 3% of expected claim costs (business expenses), insurers keep the gains or bear the losses
  • If actual exceeds expected by more than 3%, the Feds will reimburse the insurer for up to 50% of the excess
  • If actual falls below expected by more than 3%, the insurer has to pay the Feds at least 50% of the excess

Senator Marco Rubio was the first member of Congress to catch and flag this program as a bail-out of insurance companies using taxpayer dollars.  This revelation helped spur legislation to halt the program.  On December 17th, 2014 a law was passed that required the risk corridor program to be budget neutral.  This law prohibits the government to pay out more than it collects for the risk corridor program.

 The ACA Has Failed This Principle

The ACA failed the insurer’s ability to predict its losses, therefore hindering the ability to establish pricing that would cover the insurer’s expenses.  Since 2014 insurers have incurred significant losses as a result.  They claim that to date, only 12.6%* of the monies originally promised to them by the Federal government have been paid.  Insurers are responding by pulling their products from the health insurance marketplace and launching lawsuits against the Federal government in an effort to win back some of the $2.87 billion they were promised.   

So now you know a little more about the Law of Large Numbers and the important role loss prediction plays in in the insurance pricing formula.  Only when we begin to understand the principles that make insurance work can we put forth solutions that make sense.

Next week’s principle in review:  The Loss Exposures Must Be Randomly Selected  

*Statistics provided by the Centers for Medicare and Medicaid Services (CMS)