The medical loss ratio's mixed record

For all of its success in expanding health coverage to more than 20 million Americans, the Affordable Care Act has stumbled in a key area: affordability.

Despite various provisions tucked into the law aimed at lowering costs, consumers continue to face high prices from both providers and insurers. And 10 years later, affordability is at the center of policy debates over healthcare.

One of those efforts, the medical loss ratio rule, was touted by the Obama administration as a tool for lowering premiums, but in the long run, it may be having the opposite effect.

The rule was one of the health reform law’s first consumer protections out of the gate, producing real benefits for people even before better-known provisions, like protections for patients with pre-existing health conditions, went into effect. At the time, Obama administration officials said the rule drove insurers to lower premiums, saving consumers an estimated $9 billion in the first three years. That was on top of the billions in rebates some insurers were forced to pay customers for failing to comply with the rule.

A decade after it took effect, some say the medical loss ratio requirements, which forced health insurers to spend a minimum percentage of money on medical care, has produced mixed results. Many experts agree the rule helped ensure customers got more value for their premiums and prompted insurers to spend less money on things like advertising and brokers’ commissions. But evidence has emerged suggesting the rule may have resulted in higher medical spending at a time when an increasing number of Americans are struggling to afford care.

Some industry insiders say companies have learned to work around the requirements to boost profits, and there are concerns that the rule resulted in less competition by spurring a flurry of mergers and acquisitions over the last several years.

“Like many of Obamacare’s provisions that sound good, the MLR is harmful in practice,” said Brian Blase, a former White House National Economic Council official in the Trump administration.

In the simplest terms, the medical loss ratio represents the portion of premiums an insurer spends on medical care and things that improve quality, such as care coordination and patient education. A loss ratio of 84% means an insurer spent 84 cents of every dollar in premiums it collected from customers on medical claims. The rest goes toward administrative costs or is kept as profit.

Since 2011, the ACA has required insurers in the individual and small group markets to spend at least 80 cents of every premium dollar on medical care and quality improvement; insurers in the fully insured large group market must spend 85 cents per dollar. Companies that don’t meet those minimums pay the difference to plan members.

The goal of the MLR rule was simple: ensure people were getting a fair value for their premiums, according to Gary Cohen, Blue Shield of California’s vice president of government affairs and former CMS official who was charged with drafting the medical loss ratio regulations. That value—the minimum loss ratio thresholds—was set at levels that politicians could get behind and the industry could comfortably meet.

Cohen said the rule succeeded in delivering on that promise. “Whether the program has been successful depends on whether you believe it was a good policy to make sure that everybody who is buying health coverage is getting at least that much value from the health plan that they’re buying. If you agree that was a good thing to do, then I think the MLR program has succeeded in doing that,” he said.

Prior to the ACA, 64% of insurers had loss ratios high enough to meet the minimum requirement even before the rule went into effect, but just 43% of insurers in the individual market would have, according to a 2011 report from the U.S. Government Accountability Office. The average individual market MLR was close at 78.8%, while average loss ratios for small and large group insurers were 85% and 89.5%, respectively. Dozens of states had their own minimum loss ratio requirements, but they varied widely. For example, North Dakota imposed an MLR of 55% on individual insurers, while New Jersey required an MLR of 80%.

The initial yardstick for the MLR rule’s success was the volume of rebates noncompliant insurers would have to pay. The federal government expected rebates would subside as health insurers got used to the law and set their premiums to more accurately reflect healthcare costs, Cohen said, and that’s generally how things played out.

In the first year of the program, insurers across the individual, small group and large group markets paid nearly $1.1 billion in rebates for failing to meet minimum loss ratio requirements for plans sold in 2011. They quickly made changes to increase their MLRs, causing rebates to fall to $504 million in 2012 and $332 million in 2013.

“There’s been billions of dollars issued over the years. But even if you’re not getting a rebate, that’s because your insurer is trying not to exceed those MLR thresholds, and so you might be benefiting without even getting a rebate,” said Cynthia Cox, vice president at the Kaiser Family Foundation.

The volume of rebates has since surged again, reaching nearly $1.4 billion for 2018. Mark Hall, a law professor at Wake Forest University who tracks the outcomes of the MLR rule, said the rule served as a stabilizing force in the ACA marketplace beginning in 2017 when insurers began to claw their way back into the black after losing money in the first few years selling plans on the exchanges. Insurers raised premiums too high to make up for initially setting them too low and to protect themselves from the Trump administration’s decision to stop paying certain ACA subsidies for low-income people.

Because the formula for calculating rebates uses three years of financial data, the rule allowed insurers to hold on to some of that extra premium revenue to recoup early losses, Hall explained. “It’s a buffering or balancing effect of that three-year rolling average that both protects the consumer against excessive prices but gives the insurer some comfort that they’re not going to have to eat a large loss in a single year just because they miscalculated,” he said.

Though $1.4 billion in rebates sounds like a big number, it’s not much compared to the premium revenue the companies bring in. According to the Kaiser Family Foundation, Centene Corp. issued the largest rebates at $216.9 million for its individual market performance in 2018. That’s less than 2% of its commercial revenue that year.

That might be why health insurers that once feared the mandate to spend a certain percentage on benefits now downplay its importance and characterize it as an insignificant provision. They once fought tooth and nail to classify as many expenses as possible as medical care and quality improvement so they could more easily meet the minimum requirements.

They lost the battle to include broker commissions and anti-fraud programs as quality improvement expenses, but the final rule did include an adjustment to protect small insurers with low loss ratios from having to pay rebates.

Kris Haltmeyer, a vice president at the Blue Cross and Blue Shield Association, said the requirements never had a big effect on how Blues plans operated. “Our plans have consistently run above the MLR threshold and it really hasn’t been a significant provision,” he said, though he did credit the rule for improving transparency.

Aside from rebates, the MLR rule drove insurers to operate more efficiently and cut administrative costs, Hall said. Insurers reduced overhead, which includes profits and administrative and sales costs, by $3 billion in the first three years, though it’s hard to parse how much of that can be attributed specifically to the MLR regulation, Haltmeyer’s research found.

Lowering administrative costs may have come at the cost of competition, though. Nick Ortner, an actuary at Milliman, and S&P Global Ratings insurance analyst Deep Banerjee, both said the need to comply with the MLR likely encouraged health insurers to merge in a bid to gain scale to reduce their expenses so they could keep more money as profit. Research has shown that health insurer mergers result in higher premiums.

“Some of the merger, buy-up activity would have happened anyway, because there still would have been that incentive to shrink expenses, but the MLR rule in some ways probably forced or at least motivated more of that action,” Ortner said.

Dr. Richard Shinto, CEO of InnovaCare Health, which operates Medicare Advantage and Medicaid plans in Florida and Puerto Rico, said the rule forced insurers to rethink how they managed medical and administrative costs and encouraged investments in quality and better benefits. (Advantage and Medicaid plans are also required to meet minimum loss ratios.)

“Everybody was managing medical costs to a degree, but if there were significant savings it really went to the health plans or providers. What the government was trying to do was drive those savings back into more benefits and better benefit design. I think they’ve done a good job of forcing that,” Shinto said, adding that the movement to address social determinants of health likely grew out of the MLR rule, at least in part.

Despite the incentive, insurers spend less than 1% of premiums on quality improvement, according to research published by the Commonwealth Fund. And though the Obama administration claimed otherwise, the MLR rule did little to lower premiums. At the same time, it may have resulted in “substantially higher medical claims costs,” according to an October 2019 research paper published in the American Economic Journal: Applied Economics.

Researchers compared changes in MLRs, claims and premiums of health insurers with historically low loss ratios to those who typically complied with the 80/20 rule before it took effect.

They found that implementation of the MLR rule was associated with an abrupt increase in MLRs among insurers in both the individual and group markets with too-low loss ratios, and the increase was accomplished almost entirely by a rise in claims costs.

There was some suggestive evidence that insurers cut administrative expenses, but not to the degree they increased claims costs.

“It’s evidence that the medical loss ratio was an extremely blunt tool for what it was trying to accomplish,” said Steve Cicala, an assistant professor at the Harris School of Public Policy at the University of Chicago who co-authored the paper. “When you try to regulate profit margins, firms have an incentive to respond by strategically adjusting their costs.”

Researchers were unable to explain how insurers hiked their claims costs, so it’s unclear how plan members were affected. Insurers could have paid hospitals and doctors more for the same services. Or they may have made coverage more generous by authorizing more services.

“It might sound like potentially a good thing if people are going and getting more medical care. That’s not unambiguously a bad thing. But it does mean that—if we’re thinking about the world in terms of the cost of healthcare—costs are going up,” said Ethan Lieber, co-author of the paper and assistant economics professor at the University of Notre Dame.

Another paper, published in January 2019 in the Journal of Risk and Insurance, similarly suggested insurers with too-low medical loss ratios between 2011 and 2015 came into compliance by increasing their claims costs, not lowering premiums. The effect was strong each year of the study period.

It further turned up an additional consequence: insurers that historically had loss ratios above the minimum threshold reduced their ratios so they were closer to the standard. That way, they could still be in compliance, but keep a little more profit.

William Wempe, a professor of accounting at Texas Christian University who co-authored the paper, compared the behavior to a student with a 97-average doing just enough on the final exam to keep an A, but nothing more.

“A large group plan with a 88% ratio (may) say we are only required to have 85%, so maybe we can be a little less generous paying claims or maybe we would ratchet up premiums a little bit, make a little more money for our investors, but still comply with the minimum requirement that the government’s put on us,” he explained.

More than a few sources questioned the finding that insurers increased claims costs to comply with the MLR rule, all saying that competition would prevent that.

“That doesn’t hold water in a lot of ways. Insurers have competitors both on and off the exchange market, so if an insurer’s strategy was to just pay providers more and thus increase premiums, they wouldn’t be competitive,” Cox said.

And according to both Cohen and the National Association of Insurance Commissioners, which was charged with coming up with the methodology for calculating the loss ratios and rebates, the point was never to lower premiums, but to enhance “value.” The NAIC said it was known that the MLR rule could increase claims costs to some degree.

Nevertheless, before the ACA, the Congressional Budget Office projected that the MLR provision would decrease premiums slightly. Moreover, the CMS in 2014 claimed insurers charged lower premiums as a result of the rule, saving consumers billions. Christen Linke Young, a fellow at the Brookings Institution and former CMS official, said it was understood the MLR was one tool to lower premiums and has helped constrain insurer pricing.

Dr. Mario Molina, the former CEO of for-profit insurer Molina Healthcare, said it’s clear the rule failed. A high loss ratio has come to represent better quality in the eyes of regulators and the public when the metric has nothing to do with quality, he said. Health plan presidents he oversaw when he was CEO would celebrate a low loss ratio as a sign they were managing medical costs well, but Molina would often find out they received a rate increase, which effectively lowered the MLR.

Moreover, he said it’s easy for an insurer to “play games” with the medical loss ratio by reclassifying an administrative expense as a medical one or overestimating outstanding medical claims costs. An auditor would have to sign off on the insurers’ reports, of course, but auditor approval can be negotiated, he said.

“There’s a lot of this that goes on in the industry,” Molina said. “People will fudge a little bit one way or the other to get the MLR they need. If you’re at 82% and you need to be at 85%, it’s a big difference. But if you’re close, you’ll manipulate it.” (He noted that during his time as CEO of Molina, the insurer was “very conservative” in its reporting, however.)

Other insurance executives denied that companies game the MLR. But one 2018 academic research paper that’s currently under review suggests manipulation is fairly common. Researchers found evidence that health insurers whose medical loss ratios were below the ACA thresholds systematically adjusted their reported financial information to overestimate their incurred claims. This resulted in insurers paying out $219.2 million less in MLR rebates than they should have between 2011 and 2015, according to the findings.

In an emailed statement, a CMS official said the agency reviews company MLR reports for consistency and performs in-depth MLR audits on a number of insurers each year, some of which have resulted in insurers paying additional rebates. The agency declined to comment on whether the MLR rule is achieving its intended results because it hasn’t had a chance to analyze the findings of newly published research.

Meanwhile the Trump administration has encouraged the proliferation of insurance policies not subject to loss ratio requirements, including short-term plans, which set prices based on health status and don’t cover all the ACA essential benefits. The average loss ratio of the five short-term plans with the most enrollment in 2018 was 39%, according to NAIC data. Proponents of MLR requirements want them applied to those types of plans, too.

“If we’re going to continue down the path of having alternatives to ACA-compliant plans … there ought to be an (MLR target) for short-term plans,” said Ken Janda, former CEO of Texas insurer Community Health Choice.

That’s unlikely to happen, however. In the 2018 final rule expanding access to short-term plans, the CMS said the MLR “may be of limited utility in evaluating the efficiency of insurance coverage and may result in higher medical costs and premiums, less innovation in plan design, less consumer choice, and increased market concentration.”

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