The Role of Reinsurance in State Efforts

The Role of Reinsurance in State Efforts

to Expand Coverage

by Deborah Chollet, Ph.D.

Over the past several decades, manystates have sought to stabilize healthinsurance markets and to expandcoverage by developing reinsurance programs,which assume a portion of insurers’high-cost claims. In the 1980s, some statessponsored these programs in an effort toreduce steep premium increases for smallemployers with high claims experience. Bythe early 1990s state reinsurance programsto support the small-group market generallyhad ended as discussion of national healthinsurance reform increased.

The failure of more ambitious reform proposedby the Clinton administration ultimatelyled to enactment of the Health InsurancePortability and Accountability Act of 1996(HIPAA), which requires guaranteed issue ofgroup coverage and renewal of individual coveragebut does not address either the cost ofcoverage or insurers’ rating practices in thegroup or individual markets.

Recently, some states have revisited the conceptof reinsurance to spread risk in insurancemarkets, improve the predictability of claims,and reduce the mark-up of premiums thatinsurers charge as a buffer against unanticipatedclaims. Connecticut, Idaho, New Mexico,and Massachusetts currently use reinsuranceto support small-group coverage, improveindividual access to coverage, or both. Arizona and New York also operate reinsuranceprograms that subsidize health insurancefor small groups or low-income workers.

Conventional Reinsurance Programs

Background

As insurers began to underwrite moreaggressively in the 1980s, small employershad increasing difficulty finding and keepingcoverage. Some states responded to this problemby curbing insurer underwriting directly,enacting small-group insurance reforms torequire guaranteed issue and renewal ofpolicies, prohibiting within-group underwriting,and banning rating on the basis of healthstatus as well as durational rating (i.e., settingrates higher for small groups that hadrenewed for a number of years, diminishingthe initial effects of underwriting).

Many states proposed reinsurance programsas a way to address insurers’ incentives tounderwrite in the first place, reasoning thatuniform reinsurance levels for all carrierswould reduce their motivation to compete onthe basis of underwriting.

While few insurers greeted proposals formandatory reinsurance warmly, the largestinsurers actively opposed them. They arguedthat their large business was not a source ofmarket instability, and therefore mandatoryreinsurance made no sense for them fromeither a business or public policy perspective.

In response, state reinsurance programsrarely, if ever, required Blue Cross and BlueShield plans to participate, and many madethe entire program voluntary. Without the support of the largest insurers,most states ultimately abandoned reinsuranceprograms; whether they were or couldhave been effective was never evaluated.

Eventually, HIPAA probably achieved someof the same general objectives in the smallgroupmarket: It required all small-groupinsurers to guarantee issue and renewal,and prohibited underwriting within groups.Combined with state regulations that limithow small-group insurers price coverage,HIPAA forced carriers to abandon theirmost aggressive underwriting in this market.But in doing so, it likely reinforced the waveof mergers and acquisitions that swept thehealth insurance industry during the late1990s, as well as most group insurers’ focuson “larger” small businesses—groups of atleast five employees.

Currently, at least 21 states have reinsurancepools, though many have very low enrollmentand some are inactive.1 Connecticut,Idaho, Massachusetts, and New Mexico offera range of examples of such pools: thesestates operate reinsurance programs to support(variously) the small-group and individualmarkets, guaranteed issue of standardindividual “high-risk pool” products, and astate-created alliance of insurers for smallgroups including sole proprietors.

Connecticut’s Small Employer HealthReinsurance Pool

Established in 1990, Connecticut’s smallemployerreinsurance pool was the nation’sfirst such pool, and became the NationalAssociation of Insurance Commissioners(NAIC) model for reinsurance.The pool reinsures all small-group carriers;in Connecticut, these insurers are requiredto guarantee issue coverage to groups of 1 to50. Any small-group insurer in the state mayreinsure individual covered workers ordependents, or entire small groups, in thereinsurance pool within 60 days of issuingcoverage. Insurers have additional opportunitiesto reinsure the smallest groups, withjust one or two employees, every third yearat the anniversary date of first issue.

Only permanent employees who work at least30 hours per week (and their dependents)are eligible for reinsurance.2 The programaccepts each insurer’s minimum enrollmentrequirement for coverage. Insurers maynot disclose to employers, employees, ordependents whether they are reinsured.Insurers pay a $5,000 deductible per reinsuredlife; above that amount the reinsurancepool pays all claims. Premiums are based onlyon demographics; rating for health status,location, tobacco use, or other characteristicsis prohibited in statute.3 Since its inception,37 carriers have enrolled more than 27,000employees and dependents in the pool.

As of October 2004, 3,116 were enrolled foran average reinsurance premium of approximately$4,500 per year.4

The pool is funded by the reinsurancepremiums paid by insurers who cederisk to the pool, as well as an annualassessment on all licensed health insurersin Connecticut based on their respectiveshares of the small-group market. The poolmay assess carriers as much as 1 percent oftheir small-group premium base, but annualassessments have never reached that level.

The pool is credited with maintaininga relatively large number of insurers inConnecticut’s small-group market, easingthe transition to modified community ratingof small groups, and reducing incentives torate up the smallest groups. These assertionshave not been formally evaluated.

Idaho’s Small-Group and IndividualReinsurance Pools

Idaho has operated its Small EmployerHealth Reinsurance Program since 1994. Because all carriers may be assessed to coverany net losses to the program, in effect allinsurers participate in it. Within 60 days ofissue, any small-group insurer may notifythe program of intent to reinsure an entiregroup, an individual employee, or an eligibledependent.

Reinsurance is effective as of the date theprimary coverage took effect. However, theinsurer may not use actual claims experienceduring the 60-day period to determinewhether to cede the business to the program,and may not notify the employer, employee,or any other eligible individual or dependentthat they have been reinsured.

The reinsurance benefit limits mirror the benefitdesigns of the small-employer plans establishedby Idaho’s Small Employer HealthInsurance Availability Act.5 The small-groupcarrier is responsible for the first $12,000 ofclaims for each reinsured employee or dependenteach calendar year, and 10 percent of thenext $13,000 (basic), $88,000 (standard), or$120,000 (catastrophic). As of April 2004,Idaho reinsured eligible employees and dependentsin 44 small-group plans.

As in Connecticut, the pool is funded byreinsurance premiums paid by insurersthat cede risk to the pool and an additionalassessment on all insurers as neededto cover pool losses. In 2003, the totalassessment was just $538,062.

Since 2001, Idaho also has operated anIndividual High-Risk Reinsurance Pool. This pool reinsures the four “high-riskpool plans” that all individual (nongroup)carriers must offer guaranteed-issue. Idaho’sHigh-Risk Reinsurance Pool sets premiumsfor the high-risk pool plans; both premiumsand benefit designs are the same for everyindividual carrier in the state.6 (Individualcarriers may deny applicants for otherproducts and also set premiums within ratebands to reflect health status.)

Each carrier is responsible for the initial$5,000 of benefits paid per calendar year foreach enrollee in a high-risk pool plan, as wellas 10 percent of the next $25,000. Abovethese amounts, the High-Risk ReinsurancePool fully reinsures the enrollee. As ofMarch 2004, Idaho reinsured 1,358 individualsin high-risk pool plans. The High-RiskReinsurance Pool has been fully funded byreinsurance premiums and a portion of thestate premium tax.

Massachusetts’ Nongroup and Small-Group Health Reinsurance Plans

Massachusetts also operates small-group andindividual reinsurance programs, but enrollmentin both is very low. The MassachusettsSmall Employer Health Reinsurance Planreinsures all commercial small-group healthcoverage written in the state; health maintenanceorganizations (HMOs) do not participate.

In operation since 1992, this programaccepts only full-time permanent workers(who work 30 hours per week and are hiredto work 5 months or more) in firms with 50or fewer employees, sole proprietors or partners,and dependents.

As in Connecticut, small-group insurersmay cede whole groups or specific, eligibleworkers or dependents within groups within60 days of their enrollment in a small-groupproduct. However, the Massachusettsprogram requires that the insurer haveenrolled at least 75 percent of reinsuranceeligibleemployees in the small group(at both issue and renewal)—a provisionintended to minimize adverse selection.

Insurers that cede risk to the reinsurance planmust pay the first $5,000 in covered claimsexpense and 10 percent of the next $50,000. The reinsurance plan fully pays claims above

$55,000 per year. Premiums per person permonth vary from $300 (for whole-groupreinsurance) to $2,100 (for individual reinsurance).

In 2004, the average premium paidwas $800 to $1,000 per person per month—approximately twice the level of premiumsin Connecticut’s reinsurance pool. While all commercial insurers are membersof Massachusetts’ small-employer reinsurancepool and may be assessed for unanticipatedprogram losses, premiums are set to avoidan assessment. As of October 2004, 8 planswere reinsuring just 13 lives. Low enrollmentin the small-group reinsurance plan isprobably due not only to high premiums butalso to the fact that HMOs do not participate.

In Massachusetts, HMOs account for asignificant share of the new enrollment thatmight be ceded to a reinsurance plan.

The Massachusetts Nongroup Health

Reinsurance Plan is intended to supportthe state’s requirement that insurers offerindividual coverage guaranteed-issueand rate without regard to health status. Massachusetts also constrains individualrate variation overall.7 Within 60 days of the start of coverage, nongroupinsurers may reinsure any individual inthe plan. The primary insurer must cover the

first $10,000 of claims plus 10 percent of thenext $40,000; the reinsurance program fullypays all claims above $50,000 per year. Massachusetts’ nongroup reinsurance plan hasoperated since December 2001. Reinsurancepremiums range from $4,000 to $6,500 peradult member per month and $4,500 to $7,800per child member per month, depending on theprimary plan type (HMO, PPO, or indemnity)and whether it offers drug coverage.8

All nongroup insurers—including HMOs—are required to be members of the reinsuranceplan: any nongroup insurer may cede risk andalso may be subject to paying an assessmenton their total premiums to cover any plandeficits that occur. By statute, the assessmentmay not exceed 1 percent of earned premiums. Premiums for the nongroup reinsurance plan,like those for the small-group reinsurance plan,have consistently been set high enough to avoidan assessment.

Enrollment is very low—in October 2004,just three individuals were enrolled. This isprobably for reasons similar to those thatexplain low enrollment in the small-groupreinsurance program: the reinsurance premiumsare steep, and benefits are low. Inaddition, Massachusetts’ individual market isextremely concentrated, further reducing thedemand for conventional reinsurance.9

The New Mexico Health Insurance Alliance

Created in 1994, the New Mexico HealthInsurance Alliance (NMHIA) partners withinsurance carriers to offer coverage to employeesin small groups (with 50 or fewer employeeswho work 20 hours per week or more),self-employed workers, and individuals whohave lost coverage involuntarily. NMHIA doesnot require an employer contribution to qualifyfor group coverage, but stipulates that atleast half of eligible employees must participate.10 For self-employed workers and theirfamilies, NMHIA is the only source ofguaranteed-issue coverage in the state.

Enrollment in NMHIA has been as high as8,800 but fell in recent years with the loss ofcommunity-rated HMO plans and premiumincreases.11 At present, NMHIA contracts with11 carriers to cover nearly 4,000 lives; approximately35 percent of these are individual policies,and 65 percent are in small groups.

NMHIA does not directly subsidize premiums,but instead provides reinsurance forparticipating carriers, withholding a reinsurancepremium from premiums paid toNMHIA carriers. For small groups, the reinsurancewithhold is 5 percent in the firstyear of coverage and up to 10 percent inrenewal years. For individuals, the withholdis up to 10 percent of premiums in the firstyear and up to 15 percent for renewal years.

The average reinsurance withhold for theoverall premium has been 10 percent.12 Each year, the reinsurance fund pays participatinginsurers the amount by whichincurred claims and reinsurance premiumsexceed 75 percent of earned premiums. Anannual loss that exceeds the reinsurancefund’s resources triggers an assessment onall carriers’ premium income (not just thosewriting NMHIA coverage) to compensate theparticipating carriers for net expenses in theprior year. The claims loss assessment wastriggered in each year of NMHIA’s operationthrough 2003 to cover losses of up to $4.5million (in 2003). Alliance members mayoffset 50 percent of the assessment againsttheir state tax liability, but otherwise the programis unsubsidized.

Subsidized Reinsurance Programs

Two states—Arizona and New York—haveestablished programs with subsidized reinsuranceto encourage coverage among smallgroups, low-wage workers without coverage,or both. Each state sponsors a primary insuranceprogram that operates as a purchasingpool, contracting with insurers for coverage.

In each program, the reinsurance componentassumes some or all of the risk of highcostcare for qualifying small groups or selfemployedindividuals, but does not subsidizepremiums directly. Neither program replacesthe role of employers in sponsoring insurancecoverage. In fact, administratively, theprograms are invisible to employees. Whilethese programs target the small-group market,they also enroll self-employed individualsand their families.

Health Care Group of Arizona

Arizona’s Health Care Group (HCG) contractswith insurers to offer coverage to smallfirms and self-employed individuals; HCGreinsures that coverage. There are no incomecriteria for participating employees. Historically, HCG has not required that selfemployed

individuals be insured previouslyor that employers not have offered coveragebefore participating in HCG. However, toprotect the program against adverse selection,HCG requires high employee participationfor an employer group to qualify. Forgroups of six or more, 80 percent of employeesmust participate, and smaller groupsmust have 100 percent employee participation.

No employer contribution is required,and, as in the general market, HCG premiumsare age-rated. Participating carriers must guarantee issue ofcoverage to all HCG applicants, including selfinsuredworkers and their families who are notguaranteed issue in the commercial market. Inreturn, HCG protects them from the highestcosts. In fiscal years 2004 through 2006, thestate has appropriated $4 million per year toprotect HCG plans from medical losses thatexceed 86 percent of premiums and to buycommercial reinsurance for annual claims of$100,000 or more.

As of August 2004, HCG covered 11,734lives, of which about 70 percent are soleproprietors. HCG operates as a separateorganization within the Arizona HealthCare Cost Containment System (AHCCCS,called “Access”), which manages the state’sMedicaid program. HCG does not subsidizepremiums, and eligibility is not based onincome or wages.

Historically, HCG has contracted with threeHMOs that also serve as AHCCCS managedcare contractors. HCG health plans mayearn up to a 2 percent margin on premiumswithout contributing to the reinsurance pool.

Participating carriers are required to reportboth financial and medical data to HCG, helpingit to manage the overall cost of the programand to predict reinsurance needs. As part of an initiative to expand enrollment inHCG, commercial insurers will be allowed to participatein HCG in fiscal year 2005 without alsoparticipating as an AHCCCS carrier. In addition,responding to commercial insurers’ concerns thatsmall groups would leave commercial plans toenroll in the same (or other) carrier’s HCG plans,the program will require HCG-eligible smallgroups to have been uninsured for at least sixmonths before applying for HCG coverage.

Healthy New York

Established in 2001, Healthy New York (NY)targets the employers of middle- to low-wageworkers, sole proprietors, and individuals. Employers with 50 or fewer employees mayparticipate if at least 30 percent of theiremployees earn less than $32,000 annually(an amount that is adjusted each year), andthe employer did not offer or contribute substantially(more than $50 per month) to comprehensivegroup coverage in the prior year.

Healthy NY also sets participation rules toprotect the program from adverse selection.For example, at least half of eligible employeesmust participate and the employermust contribute at least half the premium.

As of July 2003, qualifying small employersmay select the level of premium contributionthey make on behalf of part-time employees. Sole proprietors and individuals may participateif the applicant (or his or her spouse)is employed full- or part-time, or wasemployed at some time during the prior year;if their gross household income does notexceed 250 percent of the federal povertylevel; and if they have been uninsured for thelast year and are ineligible for Medicare.13

However, applicants with COBRA coverage orpublic program coverage in New York mayenroll directly in HealthyNY. The programs described in this brief offera number of useful lessons for states thatmay be considering reinsurance programsto expand small-group or individual coverage.

These include the following:

* Reinsurance programs can be useful instates with very different market rules,and for both individual and small-groupmarkets. Massachusetts and New Yorkoperate reinsurance programs in marketswith extensive regulation guaranteeingaccess to group and individual coveragethroughout the market. New York’s program,in particular, is intended to addressthe remaining problem of affordability forlow-income workers. In Connecticut,small-group reinsurance helps to supportguaranteed issue to groups of one.

In contrast, Arizona and Idaho operatetheir reinsurance programs in lightly regulatedmarkets, and each principally addressesproblems of access. Arizona’s programaccepts self-employed individuals who otherwisehave no access to group coverageand no underwriting protections in the individualmarket. Idaho’s mandatory programsupports specific guaranteed-issue productsin the individual market; in all otherproducts, insurers can reject individualapplicants with health problems.

*Reinsurance premiums, benefits, and insurerparticipation rules are important to thesuccess of the pool. Connecticut’s reinsurancepool offers high benefits: It pays allclaims that exceed the $5,000 deductible.