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Group Medical Captives, Level Funding and US Healthcare Policy
Tuesday, June 18, 2024

In a recent article in Managed Healthcare Executive, Peter Wehrwein examines the trend of self-funding of group health benefits by smaller employers who used to depend mainly or entirely on fully insured programs.

The shift to self-funding, the article explains, is grounded in the Employee Retirement Income Security (ERISA), which exempts self-funded plans from state health insurance mandates, and in the Affordable Care Act, which strictly regulates small group and individual health insurance policies. Wehrwein presents the issues from the perspective of state and federal policymakers and regulators, which the article characterizes as “worrisome.” But what of the perspective of small employers?

Healthcare costs are rising at rates that are well in excess of the growth of real gross domestic product. This appears unsustainable, but these costs nevertheless keep climbing inexorably. For employers, the pressure to do something is compelling.

The article claims that self-funding is more expensive than fully insured coverage. But compared to what fully insured coverage, exactly? By definition, many small employers can only purchase coverage in the small-group market. This is, however, the very market these same employers are fleeing, and they are doing so precisely because it is too expensive. Indeed, the prohibitive cost of small-group market coverage is why individual coverage Health Reimbursement Arrangements have failed to gain widespread acceptance, particularly in large urban environments.

Wehrwein correctly identifies two options for self-funding: group medical captives and level funding, both of which he views as problematic. Small employers appear to disagree, however, based on their actions. In their view, these options instead represent viable options in their quest to provide competitive group health coverage to their employees. The two options for self-funding identified in the article are fundamentally different solutions that are appropriate for different cohorts of small employers.

Group Medical Captives (50 – 200 Covered Lives)

The term “captive” insurer traditionally referred to a “single parent” captive, which is a subsidiary of an operating company/parent that insures the risks of the operating company/parent and in some instances its affiliates. Historically, single-parent captives insured property and casualty risks and workers’ compensation, but they have more recently been pressed into service to cover employee welfare plan risks.

A group captive allows a group of unrelated employers to form a collective insurance company to manage some portions of their risks. Where, as is the case here, the risk is most often medical stop-loss coverage, the arrangement is referred to colloquially as a “medical stop-loss group captive.” For an extended discussion of medical stop-loss group captive funding arrangements and their accompanying legal and regulatory issues, please see our Special Report.

There is some debate over what size employer might most benefit from participation in a medical stop-loss group captive. While the conventional wisdom is that 200 covered lives is the sweet spot, credible estimates go as low as 50 covered lives. Whatever the appropriate number, medical stop-loss captives can in the right circumstances offer substantial savings when compared to fully insured coverage. To be fair, they are also a bit more complicated, and they usually require the assistance of a captive program manager. (Program managers are typically benefits consultants, managing general underwriters, or other sponsors, organizers, or promoters. They generally provide, bundle or otherwise facilitate access to the various products and services required for captive-program maintenance and operation.)

The principal objection part of state policymakers and regulators is that medical stop-loss group captives tend to attract groups with better risk experience. Complaints of “cherry-picking” abound. The vast majority of the groups that are a good fit for medical stop-loss group captive coverage are not in a state’s group market, however. This means that their costs are a function of their individual, employer-level claims experience. These groups are generally unable to obtain claims data from their carriers, which means, among other things, that they may not get credit for their good claims experience and can by unduly punished for their bad claims experience. Captive funding is attractive to these group because it offers transparency.

Level-Funded Products (2 – 10 Employees)

Level-funded plans are sometimes described as a hybrid between a fully insured health plan and a fully self-funded health plan. What distinguishes a level-funded plan from a traditional stop-loss program is that the employer pays a fixed annual sum paid monthly in an amount that covers claims, fixed costs, stop-loss premiums and administrative expenses. The Managed Healthcare Executive article cites the following KFF data: “In 2018, just 6% of workers for small employers (less than 200 employees) were covered by level-funded plans. In 2023, 38% were.”

Level-funded plans are usually marketed to employers with 2 to 50 employees. These are employers whose only other option is the state small-group market. The predictability of monthly premiums is part of the reason that level funding is attractive to this cohort. Because a portion of a level-funded plan’s costs are paid with employee contributions, which are always plan assets, any rebate paid to the plan sponsor as a result of favorable claims experience must be shared with covered employees.

The article reports that the cost of stop-loss insurance in level-funded plans “can be as much as 20% to 30% of your total healthcare costs.” This is likely correct, and it may even be low. Even at these percentages, level-funded plans can still offer a compelling bargain when compared to their small-group counterparts. That this is the case is, in our view, not so much an indictment of level funding as it is an unvarnished assessment of the state of small-group coverage. No one should be surprised that employers are increasingly opting for level-funded arrangements. They are, after all, purchasing coverage in an insurance market. These employers are merely reacting to market forces.

The challenge with level funding, in our view, has nothing to do with product design. It is rather that level-funded plans are at bottom self-funded plans. This means that they are subject to all the compliance obligations – e.g., the ERISA fiduciary standards and Health Insurance Portability and Accountability Act privacy and security rules – with which all self-funded plans must comply.

The insurance markets should be able to provide the robust, affordable health coverage that employers need, but that is not currently the case – which is why these employers are looking to self-funding.

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