Tag Archives: essential health benefits

How Virginia insurers got the federal government to pay for bariatric surgery under Obamacare

I’ve been doing some research into the effects of market concentration on health insurance premium pricing on the health insurance Exchanges run by the federal government.  During the course of that research, I discovered what I first thought had to be a programming error on my part or a database error on the part of healthcare.gov: Silver and Gold plans that were costing individuals age 50 upwards of $2,000 per month.  Yes, per month!

It turns out, however, that these exorbitant prices are not errors. They represent a clever attempt by several insurers in Virginia — Optima Health, Coventry Health Care of Virginia, Inc., Innovation Health Insurance Company, and Aetna —  to get the federal government to pick up a substantial part of the tab for bariatric surgery. Here’s how it works.  The insurer offers the consumer a premium that is often $2,000 per month ($24,000 per year) more than it charges for other essentially identical plans. The bonus is that the insurer offers the consumer,  in addition to the usual benefits, bariatric surgery, which is otherwise subject to coverage restrictions in Virginia. Now, the only person who would rationally purchase such a policy is one who is pretty certain to undergo such surgery. And, as it happens, bariatric surgery (such as a gastric bypass) appears to cost between $20,000-$25,000. In effect, then, the insured prepays for the surgery via augmented premiums and perhaps piggybacks on the insurer’s bargaining power with surgeons to get a cheaper price.

So far, however, this does not seem like a compelling business model for insurance; at best it converts insurance into an elaborate financing scheme. But wait: if the insured has a relatively low income (and obesity correlates with poverty in modern America), under the cost sharing reductions provisions of the ACA (42 U.S.C. § 18071) the federal government now picks up much of the deductible and coinsurance that would otherwise be owed. Instead of there being, say, an $3,500 deductible and a $6,350 coinsurance limit, as there is under the Aetna Classic 3500 PD:MO policy offered in Virginia, if the person is poor enough (100-150% of federal poverty level), the deductible under the Aetna Classic 3500 PD: CSR 94% MO  is now $300 and the out-of-pocket limit is now $1,250. The federal government is thus likely to pay for $3,200 to $5,100 of the bariatric surgery that would otherwise come out of the patient’s pocket.

Is this legal under the ACA? I believe it may well be. I don’t see a violation of the “metal tiering” provisions of the ACA.  Under section 1302 of the ACA (42 U.S.C. § 18022), whether something qualifies as a Silver or Gold plan depends on the cost to the insurer of providing essential health benefits to a standard population, not on the cost to the insurer of providing its actual health benefits to the population it anticipates attracting.  That may not be a very good system, but is the one in the law; it is probably simpler than some alternatives. Moreover, section 1302(b)(5) of the ACA makes clear that a health plan may provide “benefits in excess of the essential health benefits described in [the ACA].” And, since some states apparent include bariatric surgery in their list of essential health benefits, it’s hard to say that Congress implicitly rejected paying for this procedure.

Footnote: I suppose there could be an issue as to whether this plan conforms to Virginia insurance regulations.  I’m not an expert on that, but my working assumption is that the Virginia regulatory apparatus has approved these plans.

Is what these insurers are doing appropriate?  That’s a tricky question. Basically what they are doing is the result of a decision by the Department of Health and Human Services relating to implementation of sections 1201 and 1302 of the ACA. HHS, instead of creating some uniform concept of Essential Health Benefits for those states that elected not to make their own decision, instead decided to try and mimic features of the “largest plan by enrollment in the largest product by enrollment in the State’s small group market.” 45 C.F.R. 156.100) That essentially made it a bit a matter of luck as to the circumstances under which bariatric surgery or other weight loss programs would be covered by plans permitted to be sold after 2013 on the individual market. It meant that in some states the risk of needing (or badly wanting) bariatric surgery would be spread among all those purchasing non-grandfathered plans after 2014 whereas in other states either the risk would not be transferred at all or would be transferred, as in Virginia, only at a high price. The map below created by the “Obesity Care Continuum” shows how the states differ.


Obesity treatment under state benchmark plans
Obesity treatment under state benchmark plans

And should bariatric surgery itself be covered?  It’s not an easy decision.  On the one hand, bariatric surgery frequently results in part from poor health choices made by the individual. Yes, there may be contributing factors such as access to healthy foods, genetics, access to safe methods of exercise, but, still, most people have a choice not to become obese.  And, if the condition is viewed as substantially the result of individual choice, the case for socializing and spreading the risk is weaker. On the other hand, there are plenty of risks that health insurance policies do pay for — both before and after the ACA — that likewise result substantially from personal choice.  They cover orthopedic surgery for (mostly wealthy) people who choose to ski. They cover smoking related conditions — albeit for an additional premiums which, if actually collected, would still probably be less than the actuarial risk of tobacco use. They cover treatment in at least some forms for the variety of conditions created by substance abuse (drugs, alcohol). They sometimes cover non-surgical costs to which obesity contributes even when those problems are partly the result of individual choices. And they covers the costs of treating sexually transmitted diseases even when those diseases might, in some instances, have been prevented by safer sexual practices. Untangling fault out of medical need is often a tricky proposition indeed.

So, perhaps these Virginia insurers are doing the public a service by evading/working around restrictions in the Obamacare package of essential benefits provided in some states that were unduly narrow.  Indeed, on this view, the problem is not that the federal government is subsidizing bariatric surgery, it is that individuals have to pay these enormous extra premiums for a risk that should be shared and that are shared in some states. It will be interesting to see what happens with these Virginia plans and whether what has started there extends to other states in which bariatric surgery is not presently considered an essential health benefit.

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Small business, the ACA and a second potential debacle

Small_Businesses_and_Obamacare___National_Review_OnlineThe following are excerpts of an article written by me and published in the National Review Online.  It’s available here. I recommend starting here, seeing if you are interested, and then clicking over to the National Review to read the entire article.

We could be about to see the same clumsy reconciliations of egalitarianism and freedom [that we see in the individual market provisions of the Affordable Care Act] ensnare the nation’s 6 million or so small businesses, the 40 million–plus people they employ, and the millions more spouses and children who depend on those employees. If only because the number of people involved is so much larger, the consequences and the stresses created could be even more serious than those we have seen playing out over the past few months in the individual market. The major points of tension here are (1) the prohibitions in section 1201 of the ACA on experience rating and medical underwriting in policies sold to small employers; (2) the requirement, also in section 1201, that, if a small business purchases group health insurance from a state-regulated insurer, it must provide the same sort of generous protections (including “essential health benefits”) as do individual policies; and (3) the effective tax that section 1421 of the ACA (section 45R of the Internal Revenue Code) places on wage increases and hiring by some small businesses that choose to offer health insurance.

What [various provisions of the ACA mean] is that there are an awful lot of employers who, if they want to provide health insurance to their employees and dependents, will now be able to purchase those policies at prices that do not take into account their abnormally high projected medical expenses.

A large number of these employers are likely to do so; even now 35 percent of employers with 50 or fewer employees provide some form of health insurance. Many small employers with lower-than-average projected health costs will strive to avoid being lumped in with their colleagues or competitors with higher costs. Instead, they will, if financially possible, “self-insure”: The section 1201 requirement of uniform premiums does not apply to arrangements whereby the employer (or union) itself nominally provides the medical benefits but throws off much of the financial risk onto reinsurers and many of the headaches of running a health plan onto “third-party administrators.” This option becomes even more attractive if employers can get away with the now-bandied-about “dumping strategy” of offering to pay their sickest employees enough so that they can purchase platinum health insurance in the individual exchanges and have money left over. Still other small employers may simply decide not to insure at all — reserving perhaps the delicious option of entering the exchange if some crucial employee or his dependents develop expensive medical conditions.

This self-segregation of small employers based on the projected health-care expenses of their employees will pressure small-group health insurers to raise prices. …

Of course, the curious thing about the looming debacle in the small-group market is that its possible contraction might be the one thing that could rescue the individual market from the probable death spiral. Right now, the individual markets are in danger as a result of lower-than-predicted enrollment and disproportionate enrollment of those over age 50. If small employers actually stop offering coverage — either because the costs of ACA-compliant policies prove too high or because of a death spiral in the SHOP exchanges (or both), they may end up just sending people to the individual exchanges. That won’t do much for President Obama’s promise that people could keep their health plans, and it won’t constitute a “silver lining” for people who want to reduce government’s role in health insurance, but it will do what many conservatives have wanted to do for years: undo the ideology that has previously tied the labor and health-insurance markets together.

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Phantom costs: The lawless proposal to buy off the insurance industry via a “fix” to Risk Corridors

In my last blog post, I began to explain the proposed “fix” to the Risk Corridors program that the Obama administration seeks to achieve through modifications of its regulations. This is the provision of the Affordable Care Act under which the federal government reimburses large proportions of money lost by insurers over the next three years selling insurance to individuals in the Exchanges or to small employers.  Originally thought by many to be budget neutral, if, as appears increasingly possible, insurers on average lose significant money in the Exchanges, Risk Corridors could cost the federal government hundreds of millions of dollars or more.

I also suggested in that prior blog post that the “fix” raised serious concerns about the rule of law and separation of powers.  In this post, I want to follow up and explain further the accounting trickery and word play in which the administration is engaged and why it is not authorized by any law passed by Congress. Basically, the proposed changes in the regulations amount to an illegal pay off to the insurance industry so that they do not exit the Exchanges after having had the rug pulled out from under them by another decision not to enforce the law as written.

In sum, the Obama administration is proposing without any statutory authorization to let insurers increase the amount they get from the federal government under the Risk Corridors provision of the Affordable Care Act by treating as a “cost” money that the insurers have not spent and that can not be fairly said to be a cost of doing business.  The Obama administration makes this use of phantom costs appear more palatable by terming it “profit” and likening it to an opportunity cost of capital. But the increased “profits” the Obama administration now seek to permit insurers to subtract as a cost has completely detached itself from anything to do with real opportunity costs of running a business. The Obama administration would have been equally dishonest had they permitted insurers to place triple their rent on their Risk Corridor accounts and term the extra 200% a cost of business that entitled them to yet more money from the government. The proposed regulations should be seen as unlawful as an attempt by the Executive branch to change hard percentages used in the statute such as  80% into 95% simply because the Executive thought it better balanced the interests at stake.


The fundamental problem stems from the divergence between what the President repeatedly told Americans during his presidency — if you like your health care plan, you can keep it — and what the Affordable Care Act (a/k/a Obamacare) really said, particularly as it ended up being implemented by the President’s own executive agencies (here and here). The insurance industry acted as if the rule of law mattered, not the campaign rhetoric or people’s perceptions of it, and set its prices in the healthcare Exchanges in accord with the law and the administration’s own forecasts of its effects on competing policies otherwise available to healthy people.  So, when the President announced on November 14, 2013, that his administration would conform the law to his rhetoric and public expectations (by declining under certain circumstances to execute sections 2701-2709 of the Public Health Service Act as modified by the Affordable Care Act), the insurance industry had a fit. It appropriately warned the President that, by reviving competitive sources of health insurance for some of their healthiest potential insureds, he was destabilizing the insurance markets. And, since the keystone of the President’s signature piece of legislation, the Affordable Care Act, depends on happy private, profitable insurers, this was a warning the President and his executive agencies had to heed.  Instead of backing down on the November 14, 2013 announcement, the President doubled down on regulatory change. This past week the Department of Health and Human Services proposed in the Federal Register how current Risk Corridor regulations might be amended to give insurers relief.

A Quick Look at the Statute

For ready reference, here’s an excerpt of the key part of the Risk Corridors statute in question.  You can try to read it now or refer to it periodically as you progress through the remainder of this blog entry.

(1) PAYMENTS OUT.—The Secretary shall provide under the
program established under subsection (a) that if—
(A) a participating plan’s allowable costs for any plan
year are more than 103 percent but not more than 108
percent of the target amount, the Secretary shall pay to
the plan an amount equal to 50 percent of the target
amount in excess of 103 percent of the target amount;
(B) a participating plan’s allowable costs for any plan
year are more than 108 percent of the target amount,
the Secretary shall pay to the plan an amount equal to
the sum of 2.5 percent of the target amount plus 80 percent
of allowable costs in excess of 108 percent of the target

The Federal Register Proposal

The fundamental idea in the new Risk Corridors proposal is to put the insurers back in the same position they would have been in had the non-enforcement announcement (“the transitional policy”) not been made.One can see this point made repeatedly in the Federal Register proposal:

Therefore, for the 2014 benefit year, we are considering whether we should make an adjustment to the risk corridors formula that would help to further mitigate any unexpected losses for issuers of plans subject to risk corridors that are attributable to the effects of the transition policy. (78 FR 72349)

We are considering calculating the State-specific percentage adjustment to the risk corridors profit margin floor and allowable administrative costs ceiling in a manner that would help to offset the effects of the transitional policy upon the model plan’s claims costs. (78 FR 72350)

Although the adjustment that we are considering would affect each issuer differently, depending on its particular claims experience and administrative cost rate, we believe that, on average, the adjustment would suitably offset the losses that a standard issuer might experience as a result of the transitional policy. (78 FR 72350)

Two clearly illegal ways to “fix” the problem

The problem the administering agency (Health and Human Services) faces, however, is how. How does HHS “suitably offset the losses that a standard issuer might experience as a result of the transitional policy?” One simple way might have been to adjust the reimbursement percentages contained in the statute, changing them from 50% and 80% for different levels of losses to higher levels. The problem is that the statute (42 U.S.C. § 18062) specifically sets forth the 50% and 80% reimbursement percentages and it would challenge even the most fertile imaginations to contend that it was within the province of an administrative agency to interpret those, as, say, 70% and 95%. And in the current gridlock — and with proposals to repeal Risk Corridors circulating —  getting such a proposal through Congress would seem impossible.

Alternatively, the administration might have made the insurers whole by adding state-by-state constant terms to the formula for reimbursement that roughly approximated the amount a typical insurer might lose in that state. Again, though, that would just constitute a statutorily unauthorized give away of federal taxpayer to the insurance industry.  Congress did not authorize payments so that insurers could maintain the same profits they would have earned in an alternative regulatory environment; instead Congress attempted to compress the profits and losses of insurers based on the regulatory environment that they in fact were in.

The “fix” suggested by the Federal Register proposal: what’s the difference?

What I now want to persuade you of, however, is that, after one strips away the confusing accounting, the Federal Register proposal, in its essence, amount to the same thing as these clearly unauthorized alternatives.  They are, in effect, a coverup for a giveaway of government money. The are very much the assumption of legislative powers by the executive branch of government.

The conceptual problem

One can almost see the problem without doing the math. The very objective set forth repeatedly in the Federal Register proposal — of putting the insurer back into some alternative financial condition, almost as if the government had taken their property or committed a tort by changing the rules — is nowhere to be found in the Risk Corridors statute. Section 1342 speaks of real premiums earned and real costs incurred and looks at their ratio in order to determine federal aid to insurers writing in the Exchanges. That perspective is echoed in the initial regulations published in the Federal Register months before the “transitional policy” brouhaha broke out. The definitions of critical terms adopted in those regulations speak of costs “incurred” or the “sum of incurred claims” or “premiums earned.” (See note below on definitions). Moreover, the definitions are nationwide. There is no sense that the values in the regulations (such as limits on the amount of administrative costs that can be claimed by an insurer) need to be adjusted on a state-by-state basis. And that refusal to adjust the regulations based on different economics in different states exists under the current regulations even if insurers in different jurisdictions have different financial experiences under the Affordable Care Act or face different state regulatory environments.

So, with those darned percentages statutorily nailed down, how does one achieve the objective in the Federal Register proposal of giving insurers their anticipated profits back? The answer is that the Federal Register proposal attempts to add a phantom cost that will vary state-by-state in precisely the amount needed to do the job.  Of course, writing “state-specific phantom cost” into the regulations would alert everyone that the plan was just to shovel money to insurers to keep them happy regardless of what was in the law. So, instead, the idea was to seize upon a word already in the regulations — “profit” — and alter its definition beyond recognition. Expanded “profit” could then do the same job as “state specific phantom cost.”

The math

Here are the specifics. The statute makes the amount the insurer receives in Risk Corridor payments (or pays) depend on a ratio.  A higher ratio often results in more payments and never results in smaller payments from HHS. The numerator of the ratio is something called “allowed costs,” so the higher the allowed costs, the better HHS treats the insurer under Risk Corridors.  The denominator of the ratio is something called “the target amount.” Because higher ratios are good for the insurer, the smaller the “target amount” the better HHS treats the insures under Risk Corridors. (Remember, dividing by a smaller number yields a higher result.) And “target amount” is defined as total premiums less administrative costs.  So, the more an insurer can stuff into administrative costs, the smaller the denominator, the higher the ratio, and the better the insurer fares under Risk Corridors. Indeed, much of the regulatory effort has been appropriately devoted to deterring insurers from exploiting the formula by stuffing overhead they incur servicing non-ACA policies into “administrative costs” that increase their Risk Corridor payments. (Good idea!)

Back in March of 2013, in trying to figure out how to operationalize the ideas contained in the Risk Corridors statute, HHS decided to recognize that the insurer risks its capital in order to operate an insurance company. HHS recognized that it is therefore appropriate to treat some of that opportunity cost as a true cost. (I have no particular problem with the concept). Perhaps unfortunately, but as a convenient shorthand, HHS called this opportunity cost “profit.” Be clear, however, the term “profit” as used in the regulations had little to do with how much money the insurer actually made; it was just an easy term to reflect the fact that when insurers use money to establish offices and buy computers they forgo interest and dividends  that they might otherwise have earned.

But how much of this opportunity cost called “profit” should an insurer be entitled to use to reduce its Risk Corridor denominator?  After receiving comments that were apparently almost uniform on the subject — the one dissent advocated a lower number — HHS decided to use 3% of after-tax premiums. It called this number, “the profit margin floor.”

Several things are significant about the decision to use 3% of premiums.  First, the profit margin floor is 3%, not 6% or 9% or some higher number yet. No one apparently thought the number should be higher. Second, the number is uniform across states. This is entirely sensible because, to the extent that an allowance for capital costs is appropriate at all, capital costs of an insurer are incurred in a national market. Insurers in California do not have opportunity costs of capital that differ very much from insurers in Texas. And, third, the number is a coefficient of net premiums rather than assets probably because use of premiums provides a sensible surrogate for the amount of capital risked by running an Exchange insurance operation instead of running one’s entire insurance business.

What the new Federal Register proposal does is to increase the profit margin floor and to do it in a state-specific way. By increasing the profit margin floor, one can decrease the target ratio denominator and increase the Risk Corridors ratio, which in turn can increase the payment made by HHS to the insurer.  Mathematically, increasing the profit margin floor is little different than permitting the insurer to count triple-rent on its offices rather than real rent or to just pad its electric bills by, say, a million dollars. All are additions of non-existent “phantom costs” that act to decrease a denominator and, derivatively, increase a ratio upon which reimbursement depends.

Moreover, the amount by which the profit margin floor will need to be increased is not a trivial amount.  As shown in the Risk Corridors Calculator, “profit margins” may need to be tripled or more to bring an insurer back to the same position they were in originally.  I would not be surprised to see the profit margin floor in some states in which adverse selection proves particularly problematic to be upwards of 12%.  I am not aware of many insurers making 12% of their premiums in profits, which is precisely why, before they saw the need to repair the damage done by the President’s change of mind, HHS was using 3% as the appropriate figure with only lower numbers being suggested.

Why the proposed fix is unlawful

Any thought that the proposed increase in profit margin floor might have something to do with economic reality, with changes in the cost of capital, is belied by the way HHS explains the change and by the state-by-state approach it now proposes to take.  The HHS explanation is that, because different states are implementing “the transitional plan” differently, the need to adjust Risk Corridors to bring insurers back to their former position differs as well.

We believe that the State-wide effect on this risk pool will increase with the increase in the percentage enrollment in transitional plans in the State, and so we are considering having the State-specific percentage adjustment to the risk corridors formula also vary with the percentage enrollment in these transitional plans in the State. (78 FR 72350)

Of course, in some sense, this is true. But this simply highlights the point that the adjustments to profit margin floor have nothing to do with real costs, the concept the statute cares about.

Not enough? Take a look at the explanation for why HHS did not adjust profit margin floors it on an insurer-by-insurer basis.  It has nothing to do with different costs of capital that different insurers might face, but again, the state-by-state approach is used because it is a simpler way of approximating and offsetting the loss insurers would face in each state as a result of differential effects of the transition policy.

Although the adjustment that we are considering would affect each issuer differently, depending on its particular claims experience and administrative cost rate, we believe that, on average, the adjustment would suitably offset the losses that a standard issuer might experience as a result of the transitional policy. (78 FR 72350)

The administrative law and separation of powers issue is whether the agency empowered with administering Risk Corridors can count as a cost not an expense the insurers actually incur as a result of being in an Exchange but the “regulatory taking” that will occur differentially in each state as a result of President Obama changing his mind. I suppose that, if there is someone with standing to challenge this give away of government money, it will ultimately be for the courts to decide this question.  (By the way, if anyone can suggest someone who might have standing, email me). And I suppose someone can argue that it actually fulfills some general intent of the ACA to keep insurers involved in the Exchanges and not have them flee when other regulations change.

Executive administrative agencies such as the Department of Health and Human Services have the authority under some circumstances to interpret statutes; courts will often then defer to their interpretations. But this fix is not a stretch; if it actually does what its drafters intend, it will be a redraft of the Affordable Care Act itself. I see no difference except opacity between what the Obama administration has done by seizing on a code word “profit” and expanding its definition beyond recognition and saying that when the statute says 80% of losses, surely that could be construed as 95%. Both are unlawful.

Two final notes

The allowable administrative cost cap percentage and the medical loss ratio

Careful readers of the Federal Register will note that there are two other matters it discusses.

The Federal Register proposal also discusses the need to adjust the “allowable administrative costs ceiling (from 20 percent of after-tax profits) in an amount sufficient to offset the effects of the transitional policy upon the claims costs of a model plan.” This provision is needed because otherwise, even if the profit margin floor were increased, insurers would bump up against the existing administrative cost ceiling of 20%.  So, to make sure that the phantom cost “profit margin floor” increase really works, the proposed regulations propose removing that constraint. And to make sure that evil insurers do not take advantage of the relaxed constraint to allocate more of their costs to Exchange plans, the regulations make clear that the insurer would had to have met the 20% standard before consideration of increased “profit” was made.

The Federal Register proposal also discusses a need to adjust the Medical Loss Ratio (MLR) percentages. This is the provision of the ACA that says that if insurers spend too much of their money on non-claims matters, they have to pay a rebate to their insureds.  The problem becomes that if insurers are permitted to treat more than 20% of their premiums as administrative costs for purposes of Risk Corridors they might want to treat more than 20% of their premiums as legitimate administrative costs for purposes of MLR rebates. It’s a little fuzzy, but it sounds as if HHS wants to tweak the MLR regulations so that the MLR provisions do not take away from insurers what they will be winning if the remainder of the Federal Register proposal goes into effect.

The typo in the statute

There’s a complication we have to work through. This whole area is complicated by the fact that there is a typographic error in section 1342.  Here again is the relevant part.

(1) PAYMENTS OUT.—The Secretary shall provide under the
program established under subsection (a) that if—
(A) a participating plan’s allowable costs for any plan
year are more than 103 percent but not more than 108
percent of the target amount, the Secretary shall pay to
the plan an amount equal to 50 percent of the target
amount in excess of 103 percent of the target amount;
(B) a participating plan’s allowable costs for any plan
year are more than 108 percent of the target amount,
the Secretary shall pay to the plan an amount equal to
the sum of 2.5 percent of the target amount plus 80 percent
of allowable costs in excess of 108 percent of the target

See in subparagraph (1)(A) where it says “the Secretary shall pay to the plan an amount equal to 50 percent of the target amount in excess of 103 percent of the target amount.” But if you think about it, this could never happen.  Taken literally, there could never be a payment under this provision. So long as the target amount is a positive number, which it always will be since premiums are positive, the target amount can NEVER be in excess of 103% of the target amount.  5 can never be in excess of 103% of 5 (5.15).  10 can never be in excess of 103% of 10 (10.30). Can’t happen.

Looking at the next subparagraph, (1)(B), resolves the mystery of subparagraph (1)(A). It speaks about paying “ 80 percent of allowable costs in excess of 108 percent of the target amount.” (emphasis mine). And this makes complete sense.  The more the insurer loses, the more the government reimburses the insurer.  That’s the whole point of the provision.  I therefore believe that  subparagraph (1)(A) should be interpreted to mean “the Secretary shall pay to the plan an amount equal to 50 percent of  allowable costs in excess of 103 percent of the target amount.”

So, I assume that courts will interpret the statute to read as Congress must have intended it and not as some sort of cute joke resting on a mathematical impossibility.  See United States v. Ron Pair Enterprises, 489 U.S. 235 (1989) (“The plain meaning of legislation should be conclusive, except in the ‘rare cases [in which] the literal application of a statute will produce a result demonstrably at odds with the intentions of its drafters.’ Griffin v. Oceanic Contractors, Inc., 458 U. S. 564, 571 (1982). In such cases, the intention of the drafters, rather than the strict language, controls. Ibid.” )

Note on Definitions

As set forth in the regulations, “Allowable costs mean, with respect to a QHP [Qualified Health Plan], an amount equal to the sum of incurred claims of the QHP issuer for the QHP.” The regulation sensibly uses the word “incurred.” This is so because costs are things the insurer has to pay out or has to accrue liabilities for, not things that, under some other set of circumstances they might otherwise have had to pay out.  If that were not the case, the administration could redefine costs to include anything at all, such as the costs the insurer would have faced if every one of their insureds had cancer.

The regulations tweak the definition of “administrative costs” by adding an extra adjective. They introduce the concept of “allowable administrative costs.”  The insurer is not permitted to reduce its “target amount” by claiming some enormous sum (such as private jets for the CEO) as non-claims costs, subtracting them from premiums and reporting low net premiums (target amount) in order to get paid more by the government under the Risk Corridors program. Instead, the regulations define “allowable administrative costs” as non-claims costs that are not more than 20% of premiums. That makes some sense because section 10101 of the ACA (42 U.S.C. § 300gg-18) often requires insurers whose administrative costs are more than 20% of premiums to pay a rebate to their insureds.

Premiums are also reasonably defined under the existing regulations. They sensibly say, “Premiums earned mean, with respect to a QHP, all monies paid by or for enrollees with respect to that plan as a condition of receiving coverage.” Thus, under the statute and existing regulations, premiums must refer to real premiums, not hypothetical premiums. Premiums are moneys the insurer receives, not money the insurer might have received under some other set of circumstances. Again, this just has to be the case; if it were not true, the administration could funnel virtually an infinite amount of money to the insurance industry by saying that premiums are funds the insurer would have received if no one signed up for their plan. 

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Could the American Enterprise Institute possibly be right there is this massive second wave of cancellations coming?

Short answer: The AEI estimate looks high but, yes, a massive second wave of cancellations is coming

The American Enterprise Institute (AEI) has received considerable press over the past 24 hours for asserting that the Affordable Care Act will generate a massive second wave of insurance cancellations this summer as small employers (and their employees) will be compelled to abandon policies that do not provide “Essential Health Benefits” and meet other standards of the Affordable Care Act.  Fox News has asserted that the AEI statement means that up to 100 million people could be canceled next year.  Other news sources and  at least one influential conservative radio talk show host are making similar claims.

If this were true, it would obviously be a subject of considerable importance.  Anyone doubting this point should consider the firestorm that erupted over the recent cancellations of a much lower number of individual health insurance policies as a result of the Affordable Care Act’s insistence that health insurance meet its full standards starting in 2014 and the tough limitations on “grandfathering” exemptions for older health insurance plans.

But, is it true?  Is it really true that there could be a large number of cancellations?  Could we really be talking about 100 million people? Could the very conservative AEI  be making political hay rather than something more factual? Let’s look at the argument.  It’s part legal and part statistical. I’m going to break the argument down into pieces and see how it holds up.

1. Legal Basis

The legal part stems from the claim that although large businesses (more than 100 employees) are not required to provide “Essential Health Benefits” under the Affordable Care Act for all insurance plans beginning after January 2, 2014, small businesses are.  That appears to be true.  Section 1201 of the Affordable Care Act, which, among other things, amends section 2707 of the Public Health Service Act, reads as follows: “A health insurance issuer that offers health insurance coverage in the individual or small group market shall ensure that such coverage includes the essential health benefits package required under section 1302(a) of the Patient Protection and Affordable Care.”  (emphasis added. It does not say “in the individual, small group or large group market” but rather “in the individual or small group market.”  And if one goes through the statutory labyrinth from Section 1304(a)(3) of the ACA to 1304(b), one learns that, at least until 2016, the small group market means insurance purchased by employers with 100 or fewer employees.

There is, however, an exemption for grandfathered plans.  Section 1251(a)(2) makes clear that almost all of the provisions of the Subtitle that contains section 1201 of the ACA doe not apply to “to a group health plan or health insurance coverage in which an individual was enrolled on the date of enactment of this Act.” There’s an exception to the exemption, but it does not apply to this situation.

So, it sure looks to me as if all non-grandfathered plans issued in by 100 of fewer workers will, beginning for plan years that begin after January 1, 2014, be compelled to provide “Essential Health Benefits” along with other requirements of the ACA.

2. How many policies are we talking about?

The Census Bureau keeps track of how many employees are employed by firms of different sizes. The last time they looked, 2010, there were roughly 39 million people employed in such firms.  So, an upper bound on the number of policies — note, policies, not persons — affected is 39 million.

The 39 million policy figure must be reduced, however, in figuring out how many cancellation notices are likely to go out in 2014. This is so for several reasons (two of which I will confess to having forgotten about during a very transitory first posting of this blog entry).

The first reason the 39 million figure is too high is that not all small employers provide health benefits.  According to the Kaiser Family Foundation’s 2013 Annual Survey of Employer Health Benefits (page 39), about 57% of employees in firms with under 200 employees provide health benefits.  It doesn’t have data on firms under 100 employees, but if one eyeballs the data that is provided, I don’t think one would be too far off estimating that about 50% of firms with fewer than 100 employees provide health benefits. So, this takes us down to about 19.5 million employees.

But the 19.5 million employee figure needs to be reduced because not all employees accept health insurance even when it is offered. According to Kaiser (same report as above, page 49), the take up rate among those with fewer than 200 employees is 62%.  It doesn’t look like it varies too much according to firm size in that range, so we’ll say there are roughly 12 million employees in small firms who get health insurance through their jobs.

But the 12 million figure needs to be yet further reduced because some policies will remain grandfathered and thus exempt from the Essential Health Benefits requirement.  According to the same Kaiser report  (page 223), about 49% of employees in firms with under 200 employees were in grandfathered plans.  It doesn’t have data on firms under 100 employees, but if one eyeballs the data that is provided, I think it is fair to say that about 50% of employees in firms with under 200 employees were in grandfathered plans as of 2013. This figure needs to be reduced, however, to take account of the decay in the proportion of plans that can remain grandfathered as time goes on.  From 2011 to 2012, for example, the percentage of workers in smallish firms in  non-grandfathered plans grew from 37% to 46%. And from 2012 to 2013,  the percentage of workers in smallish firms in  non-grandfathered plans grew from 46% to 51%.  So, it’s not unreasonable to believe that something like 56% of workers in firms with 100 or fewer workers will be in non-grandfathered plans at some point during 2014.  Could be a few percentage points higher, could be a few percentage points lower.

If we do the multiplication, however, that means that we are at roughly 7 million policies that will be required to provide Essential Health Benefits at some point during 2014.  But we need to do a little more subtraction because, surely, there must be some of these policies that are essentially in compliance with the ACA right now.  There might be “cancellation notices” with respect to these policies but if the policy content and prices doesn’t change as a result, few people will care.  How many such compliant policies are there?

I will confess that I don’t know how many small group policies already comply with the requirements of the ACA and would thus likely not change substantially if they needed to be cancelled. But my guess is that the number is rather small.  The Robert Wood Johnson Foundation noted several years back that a lot of individual and small group policies did not provide Essential Health Benefits such as substance abuse benefits. The independent research firm HealthPocket found recently that only 2% of individual health insurance plans covered all Essential Health Benefits and that the average plan covered about 76% of those benefits.  HealthPocket did not, however, study small group policies.

In the absence of great evidence, I am going to assume, probably quite liberally, that 1/3 of the plans that will be required to provide Essential Health Benefits either already provide them or provide something sufficiently close to them that any cancellation of those policies will not require significant alteration of the plan. This means, however, there are — just to keep the numbers round — 5 million small group policies that will be cancelled in 2014 and that will need to be altered significantly as a result of the ACA’s EHB requirement.

3. How many people are we talking about?

But policies do not equal people.  There is often more than one person on a policy: a spouse and a dependent or two. This means that while 5 million is a plausible lower bound on the number of people who will be getting potentially unwelcome cancellation notices in 2014, it is likely to low an estimate. And on this point, we have decent data. A 2009 report by America’s Health Insurance Plans found that the average policy covered 3.03 lives.  There is no reason to think that this number has either materially changed over the past few years or that small group plans are different from other plans.

So, again doing some rounding, if we do the multiplication of 5 million policies by 3 lives per policy, that means that 15 million or so Americans now getting health insurance through a small employer are likely to get meaningful cancellation notices this coming year. Another 6 million Americans now getting health insurance through a small employer will get cancellation notices but might receive similar coverage without large disruption. 

4. Conclusion

Is the claim true?

Bottom line: so far as I can see at this time, the American Enterprise Institute statement is truthy but somewhat exaggerated. The 100 million figure looks very high to me, but the real number of something like 15 million Americans (many of whom will be voting in Congressional elections right after receiving the notice) should be high enough to get the nation’s attention. Indeed, if my figures on the number of already-compliant policies is overly generous, the real number might be as high as 21 million Americans.

Does it matter?

To be sure, some of the plans into which these displaced Americans may end up may be better than those they have presently. Not being able to keep your health insurance doesn’t always make you worse off.  Some of the adjustments that need to be made to bring the policies into compliance may be relatively small and relatively inexpensive.  Many of the policies will not have been the sort of “junk” that can exist in the individual market. and thus transitioning to compliant plans, though initially stressful, may not end up being permanently traumatic. Moreover, under section 1421 of the ACA (26 U.S.C. § 45R), for some employers with 25 or fewer (not well paid) employees there will be tax credits of up to 50% to help them purchase insurance.

But the fact that the cancellation notices may not be calamitous for some does not mean that they will not pose serious problems for millions of employers and employees. For the many employees in firms with more than 25 employees or who are in firms with fewer than 25 employees but who are somewhat better paid, the tax credit provision offers no relief.  For the many small businesses whose policies were close to compliant, even having to pay a little more for “better” policies may be a big deal.  If the experience of these 15 million policyholders is similar to those of the millions of those with recently ACA-cancelled individual policies, many of them are going to find that the better insurance policies mandated by the ACA comes with a significant price tag that they or their employer, or a combination of the two, are going to pay.

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