How a defined contribution strategy could optimize health care spending

To better manage the rising cost of health care, more employers are moving away from employer-sponsored group health coverage in favor of a defined contribution strategy. While the concept itself isn’t new, many organizations are trying to understand the approach and whether it would work for their health care benefits.
“Many organizations adopted defined contribution years ago with retirement benefits, moving from pensions to 401(k) plans,” says Amber Hulme, Medical Mutual Vice President, Central and Southern Ohio. “It’s the same idea for health care coverage, where the responsibility of the benefits shifts from the organization to the employees.”
Smart Business spoke with Hulme about how defined contribution works, why it might be a good fit for some organizations and what they can do to make sure employees understand their health care options and get engaged in the process.
What does defined contribution mean?
The term refers to an arrangement where organizations give employees a set dollar amount as part of their benefits. It’s the way most 401(k) retirement plans work.
Organizations decide how much they want to give employees each month and employees usually add to that amount by making pretax contributions through payroll deductions. Employees are then free to manage their benefits and use the money as they see fit.
How does it work with health insurance?
Again, employees have a set amount of money allocated to pay for a policy — from their employer, their own contributions or both. Organizations typically work with their insurance carrier to create a selection of plans for their employees, who then use the money to buy a policy that’s right for them. Of course, they have to pay any difference in cost above their employer’s contribution.
Why is defined contribution getting so much attention?
One of the biggest drivers is health care reform — specifically, the Pay or Play rule, which requires some organizations to give employees the chance to enroll in health care coverage. This year, the rule applies to certain employers with 100 or more full-time employees. That includes full-time equivalents, which is a calculation that makes sure part-time workers are reflected.
In 2016, the rule will apply to certain employers with 50 or more full-time employees. Organizations that haven’t offered health insurance may see defined contribution as a cost-effective way to meet the requirement.
What are the main advantages?
Defined contribution can free up resources organizations use to select and administer health benefits for their employees. And because contribution amounts are set ahead of time, they know what their costs will be upfront. In addition, this type of arrangement allows more transparency and gets employees more engaged in choosing their health benefits.
Organizations are always looking for ways to attract and retain good employees, which is one reason they need to offer competitive health benefits. But if insurance costs go up, there may not always be a good way to adjust group coverage to make up the difference. With defined contribution, employees can get the plans they want and employers don’t have to absorb the entire cost.
What else should organizations know?
First, they should know that defined contribution isn’t something you can implement overnight. It takes long-term planning. Organizations need to consult with their broker or insurance carrier before renewing health benefits to determine which options to choose.
There may also be a financial component, depending on the carrier. Medical Mutual offers a defined contribution platform at no charge, but the charges vary across the industry. Those costs need to be taken into account before making any decisions.

Finally, education is critical. Most employees aren’t going to be familiar with purchasing their own health insurance, so they will need help. Organizations should work with their carrier to develop customized communications to help their employees understand the process.

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