Courtney Rubin

Why Small Businesses Overpay for Health Insurance

And what you can do about it.

 

Small businesses overpay for health insurance by an average of 29 percent, says new research that highlights the trouble small firms have shopping for plans.

The study, titled "Unhealthy Insurance Markets: Search Frictions and the Cost and Quality of Health Insurance," was published in the August issue of the American Economic Review.

When they began taking insurance markets' vital signs a few years ago, the four researchers noted that small employer groups changed plans very frequently. It's not cheap to change plans, and a competitive market would mean plans of similar value are available at similar prices, so the constant switching suggested something was getting in the way of competition.

The problem, they concluded, was that businesses can't easily comparison shop the different plans—a phenomenon known as "search frictions," in economist-speak. The competition becomes less about value and more about marketing.

"It's this part of the market that's very unhealthy," says James Rebitzer, a professor at Boston University School of Management and one of the study's four authors. Why is it so hard to plan-shop? Health insurance is a complicated product and there are a vast array of policies to choose from, Rebitzer notes.
So instead of competition forcing all insurers to offer similar plans at similar (hopefully low) price, the search frictions let insurers pursue high margin/low volume strategies. Net effect: Small businesses pay more for health insurance, and insurers spend more on marketing—a vicious cycle.

It also means lower quality plans: "High turnover rates undermine the quality of health plans by reducing insurers’ incentive to finance care that makes their policyholders healthier in the future," says study co-author Dr. Randall Cebul, a professor of medicine at Case Western Reserve University. "Why spend money on wellness or disease management programs, programs which yield a return on investment only after several years, for a policyholder who probably isn’t going to stick around long?"

What should small business owners do? Take caution when using insurance brokers to navigate the market. Rebitzer says the results suggest that brokers aren't fully reliable expert advisers, in part because they are paid by the insurance companies. 

"Adopt Ronald Regan's famous dictum when working with your broker: "trust but verify," Rebitzer advises.
Some good news: There is a chance things will get much better with the insurance market reforms on the horizon. States can set up insurance exchanges, and if done well, he says, these exchanges will keep the number of policy choices to a manageable level and they will force insurers to present information about their policies in ways that make comparisons easy. 

His other advice: You should be carefully monitoring the ways your state implements exchanges, and make sure that the resulting market is transparent about pricing and about insurance policies.

Inc. contributing editor Courtney Rubin was for five years a London-based staff writer for People magazine. Rubin, a former senior writer for Washingtonian magazine, has written for the New York Times magazine, Time, Marie Claire, and other publications. She is the author of The Weight-Loss Diaries.