More small businesses are choosing to pay out-of-pocket for employee health claims, rather than a fixed monthly premium to an insurance carrier. Here are the pros and cons.
As insurance premiums skyrocket and uncertainty surrounds the 2010 health care reform bill, small and mid-sized companies are increasingly looking to contain a spiraling employee health bill. To do so, more are choosing to pay for individual employee health claims out of pocket—known as "self-funding"—instead of a monthly fixed premium to a health insurance carrier.
"Savings can be in the range of 10 to 20 percent," says Joseph Berardo, Jr., CEO of MagnaCare, which administers self-funded health insurance plans along with other plans to both businesses and municipalities in New York and New Jersey.
In deciding whether or not to self-fund, the potential for a lower monthly health care bill is weighed against the financial risk of covering employee health care costs—and the possibility of getting hit by a catastrophic bill if an employee gets in an accident or comes down with an illness. Sometimes employers weigh the demographics of their employee base—young and healthy versus aging and out-of-shape, for instance.
While more than 93 percent of covered workers in firms with at least 5,000 workers are in self-funded plans, according to a 2010 Kaiser Family Foundation survey, the practice is not as common among smaller companies because of the potential to get hit by that huge bill—and not have the cash flow to cover costs. That said, only 16 percent of covered workers in small firms (with three to 199 workers) are in self-funded plans, Kaiser says, but that figure is up one percent since 2009.
Industry analysts expect more interest from small companies seeking to keep health care costs in line. A 2010 survey by Aon Corp.'s Aon Hewitt consulting unit found that seven percent of businesses with 500 or fewer employees plan to switch from being insured to self-insured in 2011.
In addition to MagnaCare, several big players offer to service self-funded health plans for smaller companies including Cigna, which targeted the market in 2008 when it acquired Great-West Healthcare, as well as WellPoint, UnitedHealth Group, Aetna, and Humana.
The Pros of Self-Funding Employee Health Care Costs
1. Customized Plans
You decide what the plan will cover including employee eligibility, covered benefits and exclusions, employee cost-sharing, policy limits and retiree benefits rather than buy into a one size fits all insurance policy. In addition, exemptions from state mandates means you decide what you want to cover or not cover regardless of state rules.
2. Better Data
You have more access to your employee health claims data and demographic information. Your exposure is limited to your own employees, not a broader population and risk pool (as may be the the case with a typical health insurance plan).
3. Cash Flow Control
You can manage your health care payments more effectively. First off, coverage is not pre-paid so you have access to cash and interest income not available under a standard insurance policy. A plan can also delay payment of recurring health plan costs until the services have been rendered. And if claims are lower than expected, you retain the savings, not the insurer. In addition, self-funded companies are not subject to state health insurance premium taxes, which may total two to three percent of the premium's dollar value.
4. Federal ERISA Laws Apply, Not State Regulations
The ERISA (Employee Retirement Income Security Act of 1974) law exempts self-funded plans from state rules including insurance laws, reserve requirements, mandated benefits, premium taxes, and consumer protection regulations. However, you do have to follow the U.S. tax code and federal anti-discrimination laws such as the Americans with Disabilities Act (ADA), the Mental Health Parity Act, the Health Insurance Portability and Accountability Act, the Pregnancy Discrimination Act, the Newborn's and Mothers' Health Protection Act and the Women's Health and Cancer Rights Act.
5. Lower Premiums for Your Employees
Workers in firms that are self-funded have lower single and family premiums than workers in firms that have insured benefits, according to the Employer Health Benefits 2010 Annual Survey by the Kaiser Family Foundation. Plus, workers with family coverage in firms that are partially or completely self-funded pay less out of pocket than at those firms that are fully insured.
6. Potential for Lower Costs
The Self-Insurance Institute of America estimates plan savings of an estimated three to five percent each year because of improved claims management.
The Cons of Self-Funding Employee Health Care Costs
1. Financial Risk
With fewer employees (than a big company) to spread over the likelihood of accident or illness, you have a higher risk of costly claims. Most self-insured employers purchase so-called stop-loss insurance so they can get reimbursed for claims above a specified dollar level. (The Self-Insurance Institute of America describes stop-loss as resembling catastrophic coverage that indemnifies a plan sponsor from abnormal claim frequency or severity. Big companies like Zurich, Arch Insurance and Gerber Life provide this.)
2. Administrative Cost
You can either administer the self-insured claims in-house, or subcontract to a third party administrator (TPA). TPAs can also help employers set up their self-insured group health plans and coordinate stop-loss insurance coverage, provider network contracts and utilization review services—but that's an added cost.
3. Administrative Risk
The U.S. Department of Labor has interpreted the failure of self-funded employers to implement an efficient administrative system as a breach of fiduciary duty if you don't administer a plan right. You the employer are legally responsible for operating the plan. You also have to follow strict rules regarding private claims information since you will now have access to information not previously available; This information must be kept secure and may require a privacy officer.
4. Recession/Weak Economic Cycle
You may have to stay with a self-funded plan for at least three to five years to reap benefits. This can be more difficult in an economic downturn.