Reprinted with permission from Managed Care Interface, December 2000
http://www.medicomint.com

Is the Market Ready for Defined Care? 

CLIVE RIDDLE 

Mr. Riddle is President of Managed Care On-Line (www.mcol.com), which is headquartered in Modesto, California. 

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Defined care, based on the use of a defined contribution by employers rather than a defined health benefit, would put the power of the people to work--enabling employees to choose their own health plans, based on personal values, price, and insurance needs. What does this really mean? Are employers moving towards this concept today? The author, a proponent of defined contribution plans, answers some of the crucial questions involving this trend.

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 “Defined care” describes the health care system model in which group benefits are provided through defined contributions. Considerable attention has been given to discussion revolving around defined contribution health plans, and the changes that such a system might bring.¹ 

The primary questions that emerge from such discussions include the following: How do defined care and other defined contribution health plan models work? Has the stage been set for change in the health care system, or will the status quo prevail? Why is defined care receiving attention, and how will it change things? Would employers and consumers benefit from a transition to defined care? Is the market ready for defined care? 

HOW DOES DEFINED CARE WORK? 

To illustrate exactly how defined care differs from the system of health benefits provision that is prevalent today, one may assume that an employer is willing to spend $5,000 per year on an employee’s medical, dental, and vision benefit package. This amount becomes the defined contribution. Like a 401(k) pension program, the employee has $5,000 to spend each year for his or her benefits and selects from a wide menu of health plan options, including MCOs, medical savings accounts (MSAs), or fee-for-service arrangements. The burden of responsibility for being knowledgeable about plan features and selection shifts to the employee. 

In order to choose the best value possible, the employee must have information about the costs of each option and knowledge about the benefit features and how care will be delivered. Of course, an empowered consumer not armed with adequate information or understanding to select applicable benefit plans faces considerable downside risk. Selection of a benefit plan that ultimately does not fit the consumer’s needs could result in expensive but necessary medical services not being covered, or coverage rules and requirements of which the consumer was unaware. Furthermore, uninformed consumers might select plans that are financially unstable, provide poor quality of care, or possess poor customer service ratings. 

Large employers currently hire benefit managers that specialize in analyzing these complex issues. Of course, the employer’s needs are not necessarily the same as those of each individual employee. Expanded choices available for consumer selection will present much better opportunities for each consumer to select a benefit package that best fits his or her situation, but the consumer might make poor choices. This tradeoff is similar to that made by employees when deciding on their 401(k) retirement investment options. 

In order to examine further how defined contribution health plans work, it is important to understand the competing models that fall under the defined contribution umbrella. The two models receiving the most attention have been referred to as (1) the voucher model and (2) the defined care model. 

Both models assume the general characteristics discussed above. Defined care assumes that employers wish to become less involved in the selection of group benefits. The voucher concept goes further and assumes that employers desire to disassociate themselves from arrangement of group benefits altogether. The employer would issue a defined contribution voucher to employees and would cease to provide group benefits directly; the employees would use the vouchers to obtain benefits on an individual basis. The defined care model assumes that the defined contribution still involves group provision of benefits, just as 401(k) defined contributions still involve employee selection of investment option arranged by the group or a third-party company (e.g., Fidelity Investments and MassMutual) on behalf of the group. 

The voucher system goes beyond the defined care model in reducing employer involvement and increasing consumer involvement. However, numerous issues are associated with this type of arrangement: 

Insurability. The individual benefits market is currently subject to medical underwriting. As such, some employees would be unable to obtain coverage. 

Age Rating. Individual products are most always age-rated, meaning older employees would have to pay much higher costs using the same voucher contribution as younger employees (unless employers were willing to age-adjust their vouchers). 

Loss of Leverage for Large Groups. A larger group typically commands better premium rates, owing to risk reduction of the larger pool of employees plus the negotiating power of the group size. This clout is lost in a voucher setting, causing employees to pay higher premiums. 

Stability. Insurers underwriting this market have often subsequently withdrawn from the market or made significant changes to premiums and benefits if the enrolled population’s experience varies adversely with that projected by the insurer. 

Potentially Negative Employee Reaction. Employees may react poorly to voucher changes that result in a reduction of benefits and/or increased employee costs. If the labor market remains tight, this will become a major business risk for employers. 

Legislative changes could address these problems, and the regulatory environment in a handful of states is more favorable to vouchers than others. Although state legislation does not specifically address defined contribution health plans, states with legislation mandating guaranteed issue of health insurance for individuals or small businesses (without the ability to deny a policy for underwriting reasons) have a more favorable environment for vouchers than states allowing denial of coverage for underwriting reasons. A person holding a voucher in a state without guaranteed issue might not even be able to purchase any medical policy. Specific restrictions on underwriting, age-rating, and premium-setting practices can create a more favorable individual product market. Still, the looming issue will be insurers’ willingness to underwrite products in these markets. 

Although new legislation is not needed for the defined care model to be implemented, legislative and regulatory issues could have a tremendous influence ultimately on the success of defined care programs. For example, current MSA legislation has stifled their development. The Health Insurance Portability and Accountability Act of 1996 (HIPAA) included the introduction of the MSA, but as a four-year pilot program. The total number of accounts that could be issued were limited to 750,000, and at the end of the pilot period, no new accounts could be issued (unless new legislation were passed). With these kinds of constraints, many health insurance players did not dedicate significant resources toward developing the MSA market.² Defined contribution benefit arrangements might best accommodate MSA selection and growth, thus fueling defined care as well. On the other hand, new legislation or regulations could be introduced with new provisions that are designed, intentionally or unintentionally, to inhibit defined care growth. For example, a state could adopt legislation prohibiting employers from issuing vouchers altogether. States could also prohibit any plan or program from being marketed as a defined contribution plan without going through a significant state certification process. Should defined care experience significant growth, legislators and regulators will undoubtedly consider new consumer protections, such as how benefit information and disclosures are presented in defined care arrangements. 

The defined care model involves the employer making a defined contribution for each employee and arranging a menu of available benefit options with numerous choices from which the consumer can select. Consumers are empowered to make their own purchase decisions using their defined contribution allowance. Consumers can choose not to spend their defined contribution allowance on a specific benefit at all, such as health benefits (if they are receiving health coverage through their spouse or other means). The employer, or the purchasing administrator acting on behalf of the employer, negotiates the prices to be charged by applicable benefit plans and sets the parameters for MSAs and other direct-spending arrangements. The consumer pays for the entire negotiated price of the benefit using their defined contribution allowance, plus supplemental consumer payments if the defined contribution fails to cover all the costs. 

HAS THE STAGE BEEN SET FOR CHANGE IN THE HEALTH CARE SYSTEM? 

The key to defined care is not in the above process but rather in how behavior and systems change. Is such change necessary? There is a convergence of events unfolding before us. With the continued onslaught of managed care backlash, the recent sharp upswing in premium rates, prescription and other medical costs, a sharp rise in managed care liability activities, a recent softening by managed care plans in their management techniques, and the heightened level of health care as a national policy and political issue, the stage has already been set for some significant changes. The only question is what the change will be. 

The following trends shape the emergence of defined care: (1) Health plan and health care costs are again sharply on the rise, even in tightly managed health plans; (2) recent trends, including a resurgence in PPO popularity, HMO coverage increases, HMO liability settlements, and loosening of HMO cost controls, will push costs even higher; (3) employees are still not involved enough in addressing costs or in purchasing decisions such as selection of benefit plans to be offered; (4) new tools, particularly through the Internet, are now widely available to keep employees more informed and involved; (5) employers would like to distance themselves more from the benefit decision process, both as a result of the managed care backlash and the managed care liability cases weaving their way through the courts; and (6) employers are running out of other ideas. However, the emergence of defined care could certainly stall if the current conditions in health care stabilized over an extended period so that premium increases and medical costs subsided substantially, and public and provider dissatisfaction with managed care waned. Defined care could also disappear as a movement if significant national legislative reform occurred (universal health care coverage, nationalization of health care, etc.) and defined care was not part of the legislative package. 

Employer cafeteria-style plans have existed for years, in which employees can pick from a number of plan options. A number of various defined contribution models could also be structured individually. In general, the unique elements that fit the defined care model include: 

• Employees are exposed to the total cost for benefit options, not just the employee contribution
• Employees get a wider choice of benefit options, including newer innovations, such as MSAs
• Employees shift savings from the defined contribution allowance to purchase additional benefits or spend more in another benefit area
• Roles and behaviors change for all involved, which significantly affects how care is delivered

The resultant behavior changes are the cornerstone of the defined care model. The concept involves a domino effect throughout the system as motivations change. Employers will behave differently, because they will be more in the business of arranging, rather then selecting, benefit options. Consumers, empowered with the selection decision, will gradually behave differently, faced with the responsibility of living with their own choices. Health plans will behave differently as consumers will jump ahead of employers in terms of the plan selection process, and plans will evolve to become more consumer oriented. Providers will behave differently in how they relate to their patients, as they will be treating consumers who are more involved in the financing, selection and delivery of their care. Cambridge, Massachusetts-based Harvard University Professor of Business Regina E. Herzlinger said, “Once consumers start paying the health care bills . . . the health care industry will be forced to become more consumer friendly . . . [C]onsumers will increasingly be more responsible for maintaining their own health and reducing costs. And the market will respond by providing more focused providers, more information, and more supportive technology.”³ 

Various marketing and operational issues must be addressed in order for consumers to accept and desire defined care, and change their behavior accordingly. Above all, employers must provide employees with a sufficient defined contribution allowance so that employees do not view the program as a benefit takeaway; a sufficient menu of choices so that employees buy into the concept that they are really getting to make the decision; and adequate information and decision support tools to assist employees with choosing and using their benefit options. 

From an employer’s perspective, the major potential benefits include fixing benefit costs to a set amount, reducing the administrative resources required to deliver benefits to their employees, and improving employee relations by creating more benefit choices while not being held accountable in the employee- benefit plan relationship. From a consumer perspective, the benefits include being able to select benefit options and spend benefit dollars that better fit individual needs, and receiving care in a more consumer-oriented system that behaves differently than the current, heavily criticized system. 

However, the potential exists for many things to go wrong and for none of these benefits to materialize, and, in fact, for the system to be worse than before. If employers cannot arrange sufficient funds, selection, and information, employees will view the package as a takeaway. Employers providing defined contribution health plans under voucher models are particularly vulnerable on these points. 

IS THE MARKET REALLY READY FOR DEFINED CARE? 

It has been estimated that within three to 10 years, the market will be ready for a large-scale conversion to defined care.⁴ One major hurdle is the tax code, which must place any tax deduction for health plan premiums in the hands of the consumer, not the employer, in order for the transformation to occur.⁵ 

Could it happen sooner, or will it happen at all? If defined care is such a big deal, why has it not already taken hold in businesses throughout the country? One reason may be simply that the previously discussed convergence of events that sets the stage for change is just beginning to take shape. Furthermore, a critical element for defined care is the consumer’s need for a wealth of information in order to be truly empowered. The Internet, a significant change agent for providing this information, did not fully exist in years past. 

The timing of the introduction of defined contribution health plans also requires that a defined contribution product be in place for employers to shift to this system. In the case of voucher programs, a number of Internet-based products have emerged this year that facilitate this approach. Whereas serious challenges in implementing vouchers for large groups have been detailed here, significant venture capital is backing the notion that small groups will grab at the concept, and some products have in fact already been sold. 

A handful of health plans have step forward to underwrite these products, such as Portland, Oregon-based Regence Blue Cross and Blue Shield, underwriting the defined contribution program of MyHealthBank, also in Portland. In voucher-based models, the plans are looking for relative exclusivity to help address underwriting concerns and hope to provide adequate selection by offering numerous benefit options as well as other direct purchasing through spending and saving accounts. In the defined care model for mid-sized and larger groups, plans have to be willing to participate in larger pooled enrollment, similar to multiple plan purchasing pool arrangements, such as the Federal Employees Health Benefit Program in Washington, DC, or the California Public Employee Retirement System in Sacramento. 

As the products are implemented, their true test will be the degree to which they can deliver on consumer satisfaction. Given the magnitude of change--new companies delivering new products under a new concept--major challenges will have to be addressed, particularly in the early stages. Potentially, the managed care backlash could expand to become the defined contribution backlash if market growth occurs with all of the operational glitches and if employers provide insufficient funds, selection, and information. 

Several surveys have been conducted to help measure market receptivity to defined contribution health plans.^6,7 Watson Wyatt’s survey⁶ specifically addressed reaction to a voucher-based model and found that employers are moving slowly, wanting to bring employees into the decision-making process. However, only 20% of employers surveyed believe that the United States will eventually adopt a system in which employees will be fully responsible for obtaining their own health coverage. 

Earlier this year, KPMG⁷ released the results of a survey with the stated focus, “What if the current system were changed so that employees, using funds provided by their employers as well as their own contributions, could evaluate and select their own plans from the health care options available in the marketplace?” Even though 93% of senior executives surveyed indicated their satisfaction with the insurance options they currently offer their employees, 46% were receptive to the new concept (31% were unreceptive, and 11% were neutral/undecided). On the employee side, 73% expressed an interest in the defined contribution plan. 

CONCLUSION 

Based on the information available, the very small group market is ready for voucher-based plans today. Significant venture capital has funded numerous voucher-based products, with a number already available on the market. However, the degree of customer receptivity remains to be proven. Will voucher-based defined contribution health plans become a major market force or a niche product? The surveys indicate that although large employers are interested in defined contribution health plan models, the large group market is not yet ready, particularly for voucher-based products. The next 18 months will indicate the future for this market. 

REFERENCES

1. Mehr S: Defined contribution versus defined benefit (editorial). Managed Care Interface 2000;13(6):13.

2. Guide to medical savings account (MSA)/high deductible health plans: What are medical savings accounts (MSAs)? Health Insurance Association of America, Washington, DC, July 1997 (www.hiaa.org/cons/msaguidel.html).

3. Feehan AS: From medical monoliths to focused factories. Healthcare Informatics, Minneapolis, April 2000. (www.healthcareinformatics.com/issues/2000/04_00/feehan.htm).

4. Knott D: When consumers rule: The next revolution in U.S. healthcare. Strategy & Business, New York City, Booz Allen & Hamilton, McLean, VA, (Reprint No. 00204), 2000.

5. Winslow R, Gentry C: Companies consider letting employees handle their health-benefits decisions. Wall Street Journal February 24, 2000. (www.careerjournal.com/careers/resources/documents/20000224-winslow.htm).

6. Putting employees in charge: A survey of employers, health care providers and health plans. Watson Wyatt, March 2000. (www.watsonwyatt.com/homepage/us/res/HCvalue/index.htm).

7. A new direction for employer-based health benefits. A survey of Fortune 1000 employers and employees. KPMG, May 2000. (www.definedcare.com/ submit10.pdf).  

Address for correspondence/reprints: Clive Riddle, President, Managed Care On-Line, 1101 Standiford Avenue, Suite C-3, Modesto, California 95350. E-mail: cliver@mcol.com.