Have you ever wondered how your insurance company uses the money you pay for your premium? As it turns out, many insurance companies spend a significant portion of consumers’ premium dollars on things other than healthcare, like administrative costs and profits, executive salaries, overhead, and marketing.
One study1 estimates that administrative costs like these make up about 34% of total healthcare expenditures in the United States—to put that in perspective, that’s twice the percentage what Canada pays.
The solution the federal government created to help counteract this problem is the medical loss ratio (MLR) provision—a rule put in place to make sure insurance companies spend more money on actual medical expenses to keep health insurance costs down.In this article, we’ll cover what MLRs are, how they’re calculated, and what they mean for you as a policyholder.
What are the medical loss ratio rules?
The MLR standard is a policy created by the Affordable Care Act (ACA) and implemented in January 2011.
It mandates that health insurance companies must use a larger percentage of their premium income on medical care, like claims and quality healthcare improvement, than they use to collect for profit or pay for marketing and administration costs.
Insurer expenses that qualify as improving the quality of care might include:
- Advancement of health information technology to improve quality, transparency, or patient health outcomes.
- Provider credentials to establish its ability to give proper healthcare.
- Programs to help support patient care, such as managing serious health conditions.
- Hospital discharge planning to reduce frequent hospital readmissions.
The ACA, as well as some state laws, set MLR standards for different size markets. Individual and small group markets—insurance plans geared toward organizations with 50 or fewer full-time employees—are expected to spend at least 80% of their premium income on medical-related expenses, with 20% leftover for administration costs.
On the other hand, a large group market segment—with plans for organizations with more than 50 full-time employees—needs to spend at least 85% on medical-related expenses, leaving 15% for administrative costs.
In either case, if administrative expenses exceed those amounts, the insurer must remit rebates to their enrollees ( we’ll talk more about rebates later).
How are medical loss ratios percentages calculated?
To calculate an MLR percentage, an insurer would divide the cost of medical services (things like claims paid and any expenses for healthcare quality improvement) by the total premiums collected over a period of time, minus any federal or state taxes, licensing, and regulatory fees paid in that same period.
For example, let’s say an insurer uses $850 out of a customer’s $1,050 monthly premium to pay for that customer’s medical claims. The insurer also pays $50 in taxes and fees, so we’d subtract $50 off the premium price. Their MLR would be calculated by taking $850 divided by $1000, which is 0.85, or 85%.
An MLR of 85% means that an insurer spent 85 cents of every premium dollar on appropriate clinical services for the participant and won’t suffer any consequences for underspending on actual medical costs.
Why are medical loss ratio rules important?
Regulation of MLRs is one of the most notable consumer protections in the ACA. While it’s ultimately something insurance companies have to keep track of, it should also matter to you as a policyholder.
The rules put in place by the MLR standard offer several benefits to you as a customer and peace of mind when it comes to how your premium dollars are being spent. Let’s go over some of those benefits below so you can better understand how they can help you.
Increased transparency and accountability
The MLR standard doesn’t just mandate that insurance companies keep track of their spending internally—they’re also required to report everything publicly. That means every dollar of your premium is charted and categorized for the world to see.
You can check out your insurance company’s MLR and look through their past reports using the Center for Medicare and Medicaid Services’s medical loss ratio search tool2.
Each year's report is due by July 31 of the following year. So, for instance, an insurer must submit its yearly report for 2022 by July 31, 2023.
This kind of public availability of how insurance companies spend their premium income is a great way to keep companies accountable. It also helps keep you informed on which companies are compliant and provide a credible experience for you as a customer.
You can be sure your premium is being spent wisely
While the MLR rule helps cushion an insurer’s losses over time, it also protects consumers against overpriced qualified health plans.
Given that healthcare costs have been rising for the last several decades, it’s comforting to know whether or not your hard-earned money is being spent on the medical expenses and healthcare quality improvements that you personally benefit from.
Additionally, considering the standard was set in place by the federal government, the rules apply to every state and insurance company in the U.S.
This way, you can be sure that wherever you go, you can expect the same standard for how your premium dollars are spent.
If your premium isn’t used responsibly, you’ll get a rebate
Insurers that fail to meet the MLR threshold are required to pay back excess profits or margins in the form of rebates to their participants. However, annual rebates aren’t based on a single year’s MLR. The ACA requires insurers to issue rebates based on their rolling average MLR from the previous three years.
Let’s say you’re a customer of an insurance company with a plan from the large group market, and your insurer only reports an 83% MLR. Remember, for large group markets, the requirement is 85%, so there’s a 2% gap here.
In this case, a 2% rebate would be paid back to all its policyholders to make up the difference. This rebate would be paid directly to you through a rebate check, a direct deposit, or simply as a reduction in your premium.
In other cases, the rebate may go to the employer that paid the premium on the enrollees' behalf, and they’ll see that it’s used for their employees’ benefit.
So what would a 2% rebate look like for you in dollars? The cash rebate amount is calculated based on the amount of premium paid by the policyholder, minus any taxes or fees associated with the premium.
For example, if a policyholder paid $1,000 for their premium and the insurer paid $50 in taxes related to that premium, the 2% rebate would be applied to the $950 difference, getting you a total rebate of $19.
That might not sound like a lot, but rebates add up. From the time rebates were created in 2012 through the end of 2021, health insurers had returned $9.8 billion3 worth of rebates to their policyholders.
However, 2022’s rebates are estimated to fall short of recent record-high rebate totals of $2.5 billion issued in 2020 and $2.0 billion issued in 2021. But even so, according to Kaiser Family Foundation4, the average rebate for those eligible to receive one is on track to reach $128 per person this year, which is larger than amounts issued in previous years.
With the creation of MLR rules, you can be sure that your insurance company will use your premium dollars toward medical expenses and improvements that will benefit you and your family. No matter where you live or what insurance company you choose, there are standards to ensure that no American’s premium is gone to waste.
Looking ahead, insurers are having the difficult task of predicting premiums due to the continuing pandemic, inflation, and uncertainty about the fate of the American Rescue Plan Act. If your employer offers alternative health benefits, such as an HRA through PeopleKeep, it could be your best bet to control rising premium costs in an unstable individual market.
This article was originally published on July 18, 2021. It was last updated on July 22, 2022.