Health Benefit Funding Method (Benefit Tips ® - © 2001)
Insured benefit plans set monthly premium rates based on future claim predictions that are arrived at by applying health inflation and trend factors to historical claims experience of the employee group. Groups with fewer than 100 staff most often use the non-refund method of underwriting where the insurer accepts the risk of underwriting losses and keeps underwriting profits. Groups with more than 100 staff often use retention accounting with an annual financial accounting to determine the true cost of the plan based on claims paid, expenses charged and interest on cash flow and reserves or administrative services only contracts.
While an uninsured benefit plan can be budgeted, costs are incurred with each purchase an employee makes and recognized when the invoice is presented by the claims adjudicator. Standard administrative costs are often expressed as a percentage of paid claims but could be fixed or variable amount based on submitted claims. Extra administrative costs are billed as incurred.
An insured benefit plan uses the accrual method of accounting that matches claims to premiums using incurred but not reported claims reserves (IBNR). This provides a more accurate picture of profitability for pricing and funding purposes. Various approaches are used to calculate the IBNR, but most are based on either claims or premiums of the previous year. The reserve formulas should be tailored to your plan design and applied consistently over time unless modified.
The IBNR is established when coverage is introduced in order to account for the lag in reporting and paying claims. Annual adjustments are made to the IBNR, which reflect changes in the estimated claims lag. The change in IBNR is added to the paid claims to estimate the claims that were incurred during the experience period. Changes are in direct proportion to the changes in claims or premium levels. During times of growth the IBNR will grow and during times of contraction it will shrink. The IBNR is ultimately used to pay claims that are submitted after coverage terminates.
An uninsured benefit plan uses the cash method of accounting to recognize expenses when they are paid rather than when the liability is incurred.
The insurer of an insured benefit plan accepts all risk, during the contract period, in exchange for a monthly premium. All expenses as well as the underwriting profit or loss belong to the insurer.
An uninsured benefit plan requires the employer to accept all risks while contracting out claims paying services. Common expenses are quantifiable, but claims investigation and legal defense costs are unpredictable and the responsibility of the employer. The employer is directly responsible for the costs claim payments.
It is the purchasing habits of employees that are the primary driver of benefit cost. Your benefit plan can be designed to shift some of the claim cost to government plans, private plans, suppliers and employees. Additional cost savings can be realized through:
- Eliminating the 2% insurers charge to accept underwriting risk.
- Lowering administration cost through electronic data capture, adjudication and benefit payment.
- Buying through the most efficient distribution channel.