How employers can gain control of rising health plan expenses

Set to regain the inflation spotlight – medical care

Much of today’s economic news concerns the path of inflation and the actions to bring it back to the Federal Reserve’s target. While energy, food and other costs have received much attention, a usual star contributor to inflation has been less prominent – medical care. Over the last two decades, the cost of medical care services has increased 78% faster than the general rate of inflation, according to Consumer Price Index data from the Bureau of Labor Statistics. But more recently, the relationship reversed. Over the 12-month period ended June 2023, general inflation was 3.0% versus -0.8% for medical care services.

Nevertheless, employers should not grow complacent about preparing for the impact of higher medical costs in their employee health plans. Contracts with medical care providers typically last three years, which means many providers have been unable to pass on recent significant increases in their underlying costs. For instance, labor costs for hospitals increased by more than one-third from March 2019 to March 2022, according to Kaufman Hall. Drug expenses increased by 37% on a per-patient annual basis from 2019 – 2021, and the cost of medical supplies jumped 21% over that same period, according to an American Health Association report.

As a result of being locked into multi-year contracts while underlying costs increased, hospitals saw EBITA decline by as much as 50%. With many contracts now coming up for renewal, there will be great pressure to make up for those losses. Medical care is very likely to regain the inflation spotlight in employers’ eyes.

Exploring solutions to manage costs

Given this looming challenge, companies would be wise to explore solutions to gain better visibility, flexibility and control over their costs, especially if they are currently using a traditional health insurance plan. The first step for these companies is to consider self-funding for their health insurance plan. This means a company pays for the cost of care and the administration of the plan via an outside vendor. They can work with an expert to design the plan to best fit their needs, instead of choosing from among a list of off-the-shelf options offered by health insurance plan providers.

To guard against the risk of unexpected spikes in cost, a company would then purchase medical stop-loss insurance coverage for both individual and aggregate claims. For instance, if a company typically expects an annual outlay of $10 million for claims in total and no single claim greater than $200,000, they can buy insurance that will cover expenses above those two amounts. In some cases, the plan administrator can also provide the medical stop-loss coverage, but many companies choose to use a separate, or independent, insurer. Using a separate insurer offers the advantage of having a second set of eyes to the plan administrator when reviewing any high-dollar claims. Savings can often be achieved by catching duplicate and erroneous payments due to corrected bills and network repricing discrepancies, or care that should have been paid by another carrier such as Medicare.

Leveraging captives

The second step is to put the medical stop-loss insurance within a captive structure, which is when the employer forms and owns a licensed insurance company. Keeping all or a portion of the medical stop-loss within a captive can help insulate a company from a potential spike in insurance rates as insurers contend with their own increased costs.

On top of having significant tax advantages, this alternative risk financing option addresses specific risk management needs which is why approximately 90% of Fortune 500 companies have established wholly owned captive subsidiaries. Smaller businesses can also enjoy the benefits of captives by joining other companies in a group captive to reach the size needed to spread risk and operate efficiently. Counting both wholly owned and group structures, nearly 3,400 captives exist in the United States to insure a wide range of insurance risks.

Captives can mitigate higher medical plan costs by lowering fixed insurance expenses and keeping investment returns and underwriting profits that ordinarily would go to the health insurer. Along with pricing stability, other potential financial benefits include superior control of cash flow and flexibility of plan and cost containment measures.

Importantly, organizations with self-funded health insurance plans in a captive have a better view of the key factors driving medical claims, which can facilitate more proactive and cost-effective health care. Dialysis treatment for an employee with kidney disease offers a good example. If the employee chooses to be treated miles from home at a hospital, which can be very costly, the employer with traditional health insurance may not know. An employer with a self-funded captive alternative, however, has a better opportunity to tailor plan language that can lead to better outcomes at a lower cost – such as arranging for a trained nurse clinician to perform the dialysis treatment at the employee’s home.

Considering stop-loss coverage in a captive

If an employer already has a captive for their other lines of coverage, such as property and casualty, then it’s a logical step to add medical stop-loss. Since it is a short tail risk, medical stop-loss would complement the other lines of coverage and improve diversification. If an employer doesn’t have a captive with other lines, more work and upfront costs are required. The upfront expense is usually a worthwhile investment over the long term, and many captive professionals, consultants and companies exist to help advise companies on the process.

Joining a group captive

An attractive alternative for employers to consider is joining a group captive. Many group captives exist in the medical stop-loss space and in other lines with proven track records. In these cases, employers in a group get the benefit of both being in a captive and also the greater spread of risk over a larger population of covered individuals. The scale provided by the captive can also increase negotiating power with health care and other services providers supporting the captive.

Related: Stop-loss premiums increased 16% from 2021 to 2023, survey finds

Untapped opportunities

Surprisingly, only one quarter of the Fortune 500 companies with a captive have included their medical stop-loss coverage in the captive. In other words, captive medical stop-loss insurance accounts for about $1.5 billion to $2 billion in premium when the total stop-loss insurance market has $30 billion in premium.

Considering current trends, this relationship may soon change for large, medium and small employers alike. There are advantages that will always be present for placing stop-loss insurance in a captive, but as the impact of inflation starts to hit health care and the payers, the benefits will become even more compelling.

Matt Drakeley, vice president of accident & health at QBE North America