Since the enactment of Medicare in 1965, there has been a market for supplemental insurance designed to fill the gaps in the program's coverage. The possession of supplemental insurance is essential for most Medicare beneficiaries because there are a number of gaps in Medicare coverage, some of which can result in catastrophically high out-of-pocket costs. Under Part A (Hospital Insurance), patients face very high daily co-payments ($792 in 2001) in the unlikely event that they experience a hospitalization lasting over sixty days, and no coverage whatsoever if a hospital stay exceeds 150 days. Under Part B (Supplemental Medical Insurance), there is no cap on out-of-pocket payments for the 20 percent co-payment that is applied to the costs of physician and other professional services. There is also no coverage provided for other potentially costly goods and services used by beneficiaries, particularly prescription drugs and long-term nursing home stays. Consequently, most beneficiaries feel the need to acquire additional health coverage.
Supplemental insurance is the norm, therefore, and not the exception. An estimated 91 percent of Medicare beneficiaries have such coverage, with only 9 percent having Medicare as their sole protection. Of the 91 percent, 17 percent are enrolled in Medicare managed care programs, 27 percent have individually purchased (or "Medigap") coverage, 36 percent have coverage from an employer or former employer, and 11 percent are covered by Medicaid. Each of these sources of coverage are discussed below.
Although all supplemental insurance is sometimes referred to as "Medigap," true Medigap means something more specific: individually-purchased coverage that "wraps around" the benefits included in the traditional, fee-for-service Medicare program. Medigap policies always provide coverage for some or all of the copayments required of beneficiaries under Medicare, and often provide additional benefits that are not covered at all by Medicare.
More so than almost any other type of insurance, Medigap policies have been subject to a great deal of federal regulation. In 1980, Congress passed the Baucus amendments, which established voluntary certification standards subsequently adopted by nearly all states. This legislation specified that Medigap policies contain certain minimum benefits, meet minimum loss ratios (defined as the percentage of premiums collected that are spent on providing covered health care benefits), and provide various information to prospective purchasers.
Under the law, a Supplemental Health Insurance Panel, composed of the secretary of health and human services and four state insurance commissioners, determined whether the regulations in an applicant state met or exceeded the model standards established by the National Association of Insurance Commissioners. In states meeting these standards, Medigap policies issued in that state were considered to be in compliance with the legislation, and companies were allowed to use this information in their marketing. In cases where a state did not conform, insurance companies could ask the secretary to review their policies individually. If a policy was deemed to be conforming, then it would be viewed as receiving certification, just like in states that were in full compliance. All but a few states adopted these standards; those that did not established requirements of their own, which were often far from stringent.
Although the Baucus amendments were deemed a success in reducing marketing abuses and ensuring that policies provide decent benefits with reasonable payouts, the problem that remained was that with so many different configurations of benefits available, it was almost impossible for consumers to engage in effective comparison shopping. This problem was dealt with through the passage of the Omnibus Budget Reconciliation Act of 1990 (OBRA-90), which stipulated that all Medigap policies conform to one of ten particular sets of standardized benefits.
The ten different types of Medigap coverage are shown in Table 1. Each carrier selling Medigap coverage must cover policy type A, which includes several "core benefits" contained in all ten benefit packages: the inpatient daily hospital copayments for stays lasting more than 60 days; the 20 percent Part B co-insurance; and a deductible for the first three pints of blood used. Benefits that are contained in some of the other nine packages include coverage for:
- The skilled nursing facility (SNF) daily copayment
- The Part A hospital deductible
- The $100 Part B deductible
- • Either 80 percent or 100 percent of nonassigned physician charges in excess of Medicare's reasonable charge
- Medical emergencies while traveling outside of the United States
- At-home visits when recovering from an acute illness when patients need help performing activities of daily living, with a limit of 40 visits per year and $40 per visit
- Fifty percent of prescription drug costs after a $250 annual deductible is met, with a maximum annual limit of $1,250 or $3,000 in benefits
- Coverage for preventive medical care visits with an annual limit of $120
Most analysts have considered Medigap policy standardization under OBRA-90 to have been successful, particularly because it has vastly simplified consumer understanding of, and shopping for, coverage. There are, nevertheless, a number of problems remaining in the Medigap market. First, the possession of Medigap policies results in higher utilization and, therefore, higher health care costs. Furthermore, because Medigap is tied to the fee-for-service system, there is a financial incentive for providers to deliver more services.
Although other types of insurance also encourage the use of more services, there is one peculiarity about Medigap: most of the extra costs are borne not by policy owners, but by the Medicare program as a whole. This is because ownership of such policies does indeed result in higher costs, but these extra costs are covered, and therefore mainly paid for, by Medicare. To illustrate, Medicare pays 80 percent of the costs of physician services. If owning a Medigap policy stimulates a person to use an extra service, Medicare pays for most of the associated costs. This allows Medigap insurers to sell policies more cheaply than they could otherwise. Thus, the Medicare program is essentially subsidizing the purchase of Medigap policies, which would be more expensive (and presumably less appealing) were it not for these cross-subsidies.
Another problem with Medigap concerns the benefit structure. Some of the benefits are not terribly useful, and there are some notable gaps in coverage as well. Some Medigap benefits being purchased do not provide real insurance coverage (e.g., under half of beneficiaries do not have coverage for the $100 annual Part B annual deductible) or do not seem worth the cost. For example, about 45 percent of Medigap owners have coverage for nonassigned physician services, often at a substantial cost. This covers physician billing above the amount Medicare deems to be "reasonable," but this is a very uncommon practice now, and there are strict limits on how much extra physicians can bill.
The benefits are also limited; the main limit being the lack of effective coverage for long-term care. In addition, beneficiaries cannot choose a "catastrophic coverage" option, where they are allowed to choose to pay a high annual deductible for lower premiums.
Medigap policies are very expensive, and, therefore, not evenly distributed among seniors. The most popular policy, Plan F, costs over $1,000 annually (in 1996) for a sixty-five-year old, and can cost much more for older beneficiaries. On average, Plan F premiums constituted about 8 percent of a 75-year old's total income in 1996. The plans with prescription drug coverage are particularly expensive, not only because they cover drugs, but because beneficiaries with higher overall utilization tend to join. For example, the additional premiums associated with the Medigap plans providing a maximum of $1,250 annually in prescription drug benefits average about $600 annually for a sixty-five-year old, $1,000 for a seventy-five-year old, and $1,300 for an eighty-five-year old.
Partly because of these costs, those who are better off are more likely to have Medigap coverage. In 1999, 12 percent of poor and near-poor seniors had no supplemental insurance of any kind, compared to 8 percent of middle-income seniors and 6 percent of high-income seniors.
Medicare managed-care plans
In recent years, many beneficiaries have chosen to receive their supplemental benefits through Medicare managed-care plans. These plans, which, unlike Medigap policies, do not have standardized benefits, usually provide benefits in addition to those provided by Medicare. In 2000, for example, two-thirds offered coverage for pharmaceuticals. Although plans are allowed to charge a premium in addition to the Medicare Part B premium, many (42 percent in 2000) do not, and those that do tend to charge much less than for Medigap policies.
Growth in such plans was rapid through 1998—from 1.3 to 6.3 million beneficiaries between 1990 and 1998. Enrollment fell by about 10 percent between 1998 and 2001, mainly because many plans pulled out of the market due to reduced payments from the federal government. Between 1998 and 2000, the number of Medicare managed care plans fell by almost 30 percent.
A second concern involves selection bias. Prior to 2001, healthier beneficiaries tended to join Medicare managed-care plans, leaving those who are in poorer health in the fee-for-service program. The main reason for this is that seniors who are in poor health are more likely to have a relationship with a doctor that they want to preserve. To many of them, the great advantage of the traditional Medicare program is that it offers complete freedom of provider choice. A second reason for selection bias is that healthier beneficiaries are likely to be better informed than others, and thus more likely to avail themselves of managed-care options. Finally, although Medicare HMOs are required to accept all applicants, they have a strong incentive to aim their marketing to those who are younger and healthier.
Selection bias is a problem for two reasons. First, it means that those who are sicker and who could most benefit from the coordinated care provided by HMOs are less likely to avail themselves of it. Second, it drives up premiums for those who remain in fee-for-service, making Medigap coverage increasingly unaffordable.
Although they have received almost no attention from policymakers, even more common than individually purchased Medigap policies is coverage provided by employers and former employers. Typically, retirees with this coverage enjoy the same benefits as active workers in a firm, and they pay less in premiums and cost-sharing requirements than do owners of Medigap policies. For example, in 1997, the average premium paid by those with employer coverage was $712 annually, compared with $1,249 for those with Medigap. In spite of their paying lower premiums, those with employer-sponsored policies tend to be better off economically, and they receive more in benefits. The primary example is in the area of prescription drug costs, where 72 percent of those with employer-sponsored coverage have such coverage, versus only 25 percent of those with Medigap.
The trend in employer-sponsored coverage for retirees is for fewer firms to promise these benefits, and when they are offered, there are more eligibility restrictions and higher costs for the retiree. Most notable is the decline in firms offering coverage. One study reports that among large employers, just 31 percent of Medicare-eligible retirees were offered health benefits from their former employer in 1997, compared to more than 50 percent in 1988. Another finds that in 1998, 40 percent of large employers offered such benefits, down from 67 percent in 1984. These changes stem from many factors, but were sparked by the Statement of Financial Accounting Standards No. 106, which was adopted by the Financial Accounting Standards Board (FASB) in 1992. This rule requires employers "to treat obligations for present and future retiree health benefits on an accrual rather than a pay-as-you go basis." This means that the anticipated costs of future retiree benefit payouts have to be accounted for in current financial statements.
Employer-sponsored coverage, when it is offered, has several advantages over individually-purchased Medigap policies: employers share in the cost; these employers may be more effective than an individual in purchasing good coverage; and it is likely to be cheaper than individual coverage, irrespective of any subsidization by the employer, because insurers are less at risk when they insure a large pool of employees. But, like Medigap, there are problems as well, including the potential for high utilization of services and the resulting costs. The main problem, however, is the lack of security of these benefits, which are almost always subject to the Employee Retirement and Income Security Act (ERISA). Although ERISA provides various protections for pension benefits, little protection is required of health benefits.
There are four ways in which Medicare beneficiaries with low incomes can qualify for Medicaid coverage. Under the traditional or "full coverage" mechanism, low-income Medicare beneficiaries who qualify for cash payments such as Supplementary Security Income, or who are deemed to be medically needy by their states, can qualify for Medicaid benefits. The second route is the Qualified Medicare Beneficiary (QMB) program, which is aimed at beneficiaries without full Medicaid coverage whose incomes are at or below the poverty level.
Third, the Specified Low-Income Medicare Beneficiary (SLMB) Program is aimed at those with incomes just above the poverty level (not more than 20 percent higher). Finally, the Qualified Individual Programs (QI-1 and QI-2) covers some individuals with incomes that are 20 to 75 percent higher than the poverty level.
Of the 16.5 percent of Medicare beneficiaries who are also covered by Medicaid, just over half (8.3 percent) are enrolled under the traditional program, almost half (7.4 percent) are eligible through QMB, and 0.8 percent have SLMB coverage. Only a negligible percentage (about 0.1 percent) have QI coverage. Those eligible for full coverage, as well as those with QMB coverage, do not have to pay the Medicare Part B premium or the Medicare deductibles and coinsurance. Furthermore, those with full coverage can take advantage of other benefits provided by their state Medicaid program, such as coverage for preventive services, prescription drugs, and long-term nursing home care. In contrast, those with SLMB and QI coverage do not receive any covered benefits besides those provided by Medicare. Rather, they are just exempted from paying the monthly Part B premium ($50.00 per month in 2001).
Disadvantages to Medicaid supplemental coverage include the cost of this coverage to the state and federal government and the fact that seniors are not permanently eligible for coverage. One way to ensure continuous coverage is to purchase individual Medigap coverage, but this is very expensive and generally not recommended. Otherwise, when individuals lose their Medicaid eligibility they find themselves at considerable financial risk as a result of Medicare's substantial premium and cost-sharing requirements.
Another major problem with Medicaid supplementation is the fact that many individuals who are eligible for this coverage are unaware of the fact. It is estimated that between 1.9 and 2.4 million people are eligible but not receiving QMB benefits, and 1.4 million are eligible for but not receiving SLMB. Altogether, this represents about 45 percent of eligibles. Almost none of the half million people eligible for QI have it. These figures are of concern to policymakers, in part, because these individuals are likely to receive less medical care, but also because of the financial cost. If someone is eligible for but not receiving QMB, SLMB, or QI, they receive $546 less annually in Social Security benefits because the Part B premium is withheld. Furthermore, those who should be receiving QMB are paying the substantial Medicare cost-sharing requirements, or alternatively, have a Medigap policy that they do not need.
Having Medicaid coverage makes a tremendous difference in how much a person has to pay out-of-pocket for medical care. On average, those with Medicaid pay a total of $337 per year out-of-pocket, compared to $1,735 for those with Medicare coverage only. Those below the poverty level who have Medicaid pay an average of only 8 percent of their income towards medical expenses and insurance premiums, compared to 54 percent for poor beneficiaries who have Medigap coverage, and 48 percent for those with HMO coverage.
See also Employee Health Insurance; Health Insurance, National Approaches; Medicaid; Medicare.
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