Have you ever wondered exactly how insurance companies determine the premium you pay? It’s a complicated process; many factors are taken into account.
Health insurance premiums paid by businesses are as much a human resources issue as a financial issue, says Albert Ertel, COO of Alliant Health Plans. “It’s a decision requiring balance. You have to determine if the benefits that HR wants to provide fit the budget,” he says.
Smart Business spoke with Ertel about how insurance companies determine your premium and how health care reform may affect the price you pay.
What do insurance companies look for when determining a premium?
The insurance company is looking for sufficient premiums to pay for estimated claims during the upcoming policy year. It is an educated estimate, using a simple formula that requires very complicated input. Underwriting and pricing is as much an art as it is a science. Insurance companies try to use past claims history as a predictor of the future. The goal is to develop a premium rate to cover future medical expenses and administrative costs.
Whether it is health, homeowner’s or auto insurance, there are two pieces of any premium dollar: the cost of doing business (administrative costs) and claims paid. The difference is that health insurance companies process a lot of claims — many low cost, high volume and others very low utilization but very high cost. ‘Normal’ utilization can be predicted for most groups. A small percentage of individuals will generate 70 percent to 80 percent of medical claims. Will those be one time or ongoing?
Why are premiums trending upward at the moment?
Premiums have outpaced wages for a number of years. Recently, the government has weighed in with a new law that may only exacerbate the increases. The Patient Protection Act has mandated new benefits, which focus on prevention and wellness. These benefits have to be paid for by the insurance companies at 100 percent with no cost sharing.
A few insurance carriers have been using health care reform as a reason to increase premiums, whether warranted or not. The real reason is fear of the unknown. Note, insurance pays for eligible treatments and nothing is holding down medical cost increases, yet.
What are the steps in the premium determination process?
First, the insurance company analyses the prior two to three years of claims and compares it to covered lives. Then they apply medical trend, which takes into consideration medical inflation, technology improvements, utilization, new treatments and drugs.
Second, they see where the group is located and compare this to available care in that region and adjust accordingly. For example, if new services become available in an area it will affect cost of coverage. New technology is expensive and needs to be paid for; supply and demand economics does not work in health care, as greater supply leads to greater utilization and costs. One of the variables when predicting premiums, or predicting medical costs, may be a new ‘miracle drug’ a patient just has to have. Or the local hospital bought a new CT scanner and it will be utilized.
What other factors go into pricing?
The size of the company, its industry and the age, sex and health status of eligible individuals, where they are located and the plan of benefits chosen are all considered. Lifestyles tend to be different between workers in varying industries. Those differences could include education, recreational activities, nutrition, and smoking and drinking habits. The age and sex of the people within the group has a lot of influence in the numbers. Young males tend to be healthier, young females are risk adjusted for potential maternity claims. Geography comes into play and may be coincidental to industry. Northwest Georgia is the ‘Carpet Capital’ of the world and jobs tend to be in a factory. That area has a high percentage of smokers. Also, consider the higher cost of healthy food. Atlanta has a much higher concentration of ‘white-collar’ jobs. Education levels may be higher and health awareness is commonplace.
Location also comes into play when considering available services. Availability of specialty services and referral patterns has to be considered when pricing health coverages. Known health concerns within a ‘group’ can have a significant impact on premium rates. An insurance carrier must price any risk to cover known claims; current cancer treatment, end stage renal disease or uncontrolled diabetes with multiple complications are conditions that could impact premiums. Finally, the benefits are considered; deductibles, co-pays and out of pockets affect required premiums.
Does anything else impact pricing?
Administrative costs will be added to the potential cost of claims. Those costs include customer service, underwriting, sales, claims processing, printing, postage, Internet and website maintenance, agent commissions and taxes. These costs cover the insurance company’s overhead or cost of doing business. These are generally lower than one would expect. Overall general and administrative costs run around 14 percent to 20 percent depending on the size of the covered group.
What can companies expect in the future?
Costs will continue to rise until we all make a stand; we need to improve our lifestyle choices today. Companies and insurers alike should be pushing employee awareness to improve prevention, wellness and personal responsibility. It’s fairly easy — less care equals less cost. And insurance should be there for the unexpected illness or injury.
Albert Ertel is COO of Alliant Health Plans. Reach him at (706) 629-8848 or firstname.lastname@example.org.