Vol. 51, No. 8
Rising premiums are prompting many small firms to consider taking on the responsibilities--and the risks--of self-insuring.
Tammy Carr, corporate secretary and treasurer for Arco Concrete in Fort Lupton, Colo., knows how hard it can be to keep providing employee health insurance when premiums soar year after year. When costs reached a tipping point five years ago--premiums almost doubled--the company had to consider discontinuing health insurance for its 22 workers, Carr says, or find a less expensive option.
As a result, the company, which makes architectural concrete products, adopted an alternative approach that benefits specialists often consider as an antidote to high health premiums. Arco Concrete stopped buying health insurance to cover its employees claims and in effect became its own health insurer, paying for claims itself--as large corporations typically do.
Self-funding is a decades-old financial arrangement that operates behind the scenes. About half of all employees with health coverage are in plans that are fully or partially funded by the sponsoring employers, although employees may not realize their employers are paying the claims directly; the administrative procedures often are handled by health companies with familiar names.
Self-funding is more prevalent among large companies because they can spread their claims risks over a large employee population. Smaller companies, like Arco Concrete, traditionally have been less apt to do it because even one major unexpected claim can deliver a huge financial blow. But now self-funding has become a more inviting option for small firms because of the continuing increases in premiums.
Arco Concrete made the switch to cut costs, and it has worked. The last rate quote the company received under its fully insured health planfive years ago--came to $7,700 per month, Carr says. By contrast, she continues, "right now, being self-insured, our costs are about $2,600 a month. Even when we have had some bad years [in terms of medical claims]--and we have--Im still saving money."
The Cost Equation
Companies that turn to self-insurance are likely to find that some of the reductions in their outlays for health will be impressive at the outset but unsustainable over the long term, while others will be relatively smaller but more predictable year after year. Gary Kushner, SPHR, president and CEO of Kushner & Co., a benefits consulting and administrative services firm in Portage, Mich., says, "There may be some short-term savings that first year because of substantially reduced claims, because the old plan is still in runoff--the previous carrier is still paying on claims from that benefit period--and it takes a while before the new claims start pouring in."
If a reduction in health costs appears unusually large, it may be because of a sharp drop in claims for a given year. A self-funded company should not assume that a low-claims year is the new norm and that it can lower its expectations for claims outlays.
Many smaller firms that self-insure also reduce their health expenses by raising deductibles, Kushner notes. Arco Concrete, for example, offers employees a choice of two options with separate deductibles. An employee who signs on for a $2,500 deductible pays nothing for coverage; an employee who chooses a $1,000 deductible pays a portion of the cost of coverage.
Companies may also see health expenses decline because following a switch to self-insurance they are no longer responsible for state premium taxes, which can run about 2 percent to 3 percent of the premium.
Because claims costs may be higher or lower than normal at the outset, it may make sense to balance costs when possible over a several-year span. For example, Rich Guardino, manager of corporate benefits at Mitre Corp., which provides engineering and IT systems and is headquartered in Bedford, Mass., and McLean, Va., suggests that when you are in talks with an administrative services organization (ASO) or a third-party administrator (TPA) about managing your self-insured health plan, try to negotiate multiyear contracts, especially if you are just embarking on being self-funded. "That way you have some reasonable comfort that for the next few years you know what your fees will look like." Mitre has 20 years of experience in self-insuring one of its health plans and is considering whether to self-fund another.
Even if claims expectations are high and expected health outlays are not made, of course, the unspent funds stay in the company's own coffers instead of going toward "building corporate headquarters for the insurance companies," says Bonnie Levitt, a partner in the San Francisco office of the Baker & McKenzie international law firm.
A company that has seen health costs decline substantially as a result of self-funding is First Victoria National Bank in Victoria, Texas. For two years after the start of self-funding, exceptionally low claims resulted in such dramatic savings that the bank did not raise premiums for 2006 and is not planning to raise premiums for 2007. Moreover, for December 2004 the bank gave employees a premium holiday--they were excused from paying premiums that month--and this past year we were able to have premium holidays in both November and December, says Senior Vice President Allen Jones.
Sometimes, of course, self-insured companies encounter periods when claims far exceed expectations, as occurred at Health Enterprises of Iowa, self-funded since 1997. The health care services provider, headquartered in Cedar Rapids, has had to bear the brunt of some heavy-cost years, says Caroline Gibbings, vice president.
Step 1: Examine the Books
To determine if self-insuring could pay off for your company, experts say, you should have both a risk analysis and a cash-flow analysis performed. Examine the demographics of your employees and covered dependents, and review your claims history, Kushner says. Knowing the age and distribution of the claims filed by your health plan participants can help you determine the risk you would take on with self-insuring. You can better calculate your risk by considering the general age of your employees and whether their aggregate health claims reflect, for example, the costlier conditions of age, such as heart disease and cancer, or whether they are disproportionately overweight and thus potentially diabetic, or whether they are young and prone to sports injuries.
For example, when Arco Concrete looked for health-cost savings and examined its employees use of health coverage, Carr says, it decided it didnt need a plan with all the "bells and whistles," because most of its employees are young males who rarely use medical insurance.
Next, review your utilization rates for the past three to five years. Health Enterprises of Iowa was able to get its claims information from its previous provider, but not all companies are that fortunate. It can be especially difficult for smaller firms to access such information because in many states, firms with fewer than 100 employees are grouped with other similar-size companies in the same industry, and insurance companies dont separate the data by employer.
Finally, be realistic about your companys cash flow. Claims dont arrive in one-twelfth increments over the course of the year, Kushner notes. Opting to self-insure does not enable a company to postpone paying a hospital bill or set up a monthly payment schedule for a surgeons charges. You have to have the cash flow or an adequate reserve to handle the unexpected.
Step 2: Cap Your Exposure
To protect themselves from unexpectedly high health claims expenses, most companies that are self-funded purchase stop-loss insurance. Under stop-loss coverage, the self-insured employer is responsible for paying all claims up to a predetermined amount, and then the stop-loss policy takes over.
The two principal types of stop-loss are “specific” and “aggregate.”
Specific stop-loss coverage kicks in if any one person’s claims exceed a predetermined limit. The trigger may be set as low as $10,000 per individual or as high as six figures, depending on the company’s size and cash flow capabilities.
Aggregate stop-loss covers claims for an entire participant base and takes over when claims exceed a particular figure—either a certain dollar amount or a certain percentage of estimated costs.
Deciding which type of coverage to buy depends on your analysis of your employees’ demographics and claims distribution—the assessment you did when you were deciding whether to self-insure and how much risk you could take.
Aggregate coverage presumably would be better if you have a number of older workers who might submit costly claims, or if you’ve seen a relatively even distribution of claims over the years. But if you have just a few older workers whose claims might exceed an individual ceiling yet altogether would not push your total claims above the ceiling for all participants (the ceiling at which aggregate coverage would be helpful), then specific stop-loss coverage would be better. Specific coverage also would be better if you have young workers who are accident-prone.
“With 66 employees,” says Gibbings of Health Enterprises, “we have to assume that we are probably going to have at least one, possibly two claims a year that are going to hit the specific stop-loss.” The firm has a $25,000 specific stop-loss threshold and has increased the figure gradually over time, says CFO Bruce Barnes, to take on more risk and try to hold down the cost of the stop-loss coverage.
First Victoria, with more than 400 employees, has a $50,000 trigger on its specific stop-loss coverage. It’s also one of the self-funded companies that has both types of stop-loss coverage. Its aggregate stop-loss policy takes effect at 125 percent of projected claims.
Even with the safety net of stop-loss coverage, however, a company can face unexpectedly high self-insurance expenses. “You can run out of money,” says Jones of First Victoria; he says he has seen it happen twice in the past 15 years. One instance stemmed from an employee’s treatment for a severe illness, and “the claims were running $20,000 to $30,000 a month,” he says. The stop-loss coverage took over, but during the renegotiation of the policy for the subsequent year, the insurer raised the threshold for that employee to $175,000. “We had to absorb that for a couple of years,” he says, until the person became eligible for Medicare.
Stop-loss can be purchased from an ASO, through a TPA or from a different provider. If you enlist the services of an ASO to manage your health plan, you probably could get a better deal on stop-loss coverage by using that provider, says Jerome Mattern, SPHR, a member of the Society for Human Resource Management’s Special Expertise Panel on Total Rewards/Compensation and Benefits. The ASO, he explains, already collects administrative fees from you and will negotiate to keep the insurance portion as well.
The Federal Rules
Potentially offsetting the increased financial risks of self-funding are pluses that are accorded to self-funded arrangements under ERISA—the Employee Retirement Income Security Act, which sets standards for employee benefits plans. ERISA exempts employers who self-insure from most state regulations, taxation, benefits mandates and control. Such requirements apply to insurance companies, but employers that self-insure are exempt because they are not regarded under the law as insurance companies.
Attorney Levitt offers the example of a California mandate that requires insurance products to offer benefits to domestic partners for employer-sponsored plans that offer benefits to spouses. Companies in California that provide self-funded health care do not have to abide by that mandate, however, and many don’t.
ERISA’s exemptions for self-funded plans make it easier to design coverage that’s best-suited to the needs of your employees, says Frederick D. Hunt Jr., president of the Society of Professional Benefit Administrators in Chevy Chase, Md. For instance, agriculture organizations may want to cover testing for pesticides, or some factories may want their employees to have no-cost tests for lead levels in blood.
While large companies that are fully insured can probably negotiate such add-ons to their health policies, smaller companies—and even some mid-size ones—typically lack such negotiating power. Smaller employers in particular are lumped with others into plans with established coverages.
And since fully insured plans have to bear the costs of state mandates, they may not be able to afford coverage over and above what their policies provide.
The Control Factor
“If I had to put the reason why we chose to be self-funded into one word, it would be ‘control,’ ” says Jones of First Victoria. “We determine the premiums, the plan, and on rare occasions we can make an exception or amend the plan.”
One exception that Jones cites arose from a person’s need for general anesthesia for a procedure that usually didn’t require it; the bank’s self-funded plan did not cover the anesthesia. But the company concluded the anesthesia made sense and decided to cover it anyway. “We realized we had now set a precedent that we would have to live with, but we were willing to make that commitment,” Jones says. “We couldn’t have done that with a commercial plan in mid-year.”
Nancy Hatch Woodward is a freelance writer based in Tennessee and a frequent contributor to HR Magazine .