When an employer moves from a fully insured health care plan to a self-funded plan, it becomes responsible for 100 percent of the claims risk. That transition can be frightening, especially as medical costs continually increase. But purchasing stop-loss coverage from reinsurance carriers can help mitigate some of that risk.
“Stop loss allows an employer to transfer a portion of the claims risk to the reinsurance carrier in exchange for a monthly premium,” says Donna Cowden, senior vice president with Aon Hewitt, Health & Benefits.
Smart Business spoke with Cowden and Jim Gloriod, resident managing director, Aon Risk Solutions, about how stop-loss coverage can help protect your business.
How can an employer limit risk with stop-loss coverage?
The employer can limit risk by purchasing aggregate coverage, which insures against an employer’s total annual claims exceeding an estimated dollar amount (with a corridor of 20 to 25 percent added), or specific coverage, which insures against a single, large, catastrophic claim that exceeds a selected dollar amount (deductible) during the plan year. They work well together by protecting the employer if the year’s claims have exceeded the carrier’s claims estimate plus margin, and monthly by limiting the loss of a large, unexpected claim. Aggregate claim reimbursement occurs at the end of the contract period, while specific claim reimbursements take place as they occur during the plan year.
How can an employer determine which type of coverage is the best fit?
Employers need to determine what risk they are trying to protect against. Are they concerned about overall claims exceeding a budgeted amount and feel comfortable absorbing large losses that might occur during the year, or are they only concerned about a hit if a large, unexpected claim occurs?
Aggregate stop-loss coverage protects an employer against claim volatility, if annual claims exceed what is budgeted. Smaller employers have a more difficult time absorbing the claim fluctuations, so they will purchase aggregate coverage.
Most employers will purchase specific coverage but the level of the specific deductible will depend on their size and risk tolerance. Specific-only coverage is typically for employers with more than 5,000 covered lives.
How does stop-loss coverage work with a self-funded benefit plan?
Self-funded employers that purchase stop-loss coverage have the benefit plan document and the stop-loss contract. The employer’s plan document outlines benefit provisions and how benefits are paid. Ideally, a stop-loss contract will overlay the provisions in the employer’s benefit plan. The employer does not want the stop-loss contract to have exclusions or limitations that contradict or add to the employer’s benefit plan.
How can an employer determine whether it should purchase stop-loss coverage?
It is critical for employers to understand their risk tolerance and determine how much they can tolerate paying out without creating a cash flow issue. How easy is it to fund a $500,000 claim month when claims generally run $100,000 per month? Once that is determined, they can purchase the contract that provides them the appropriate protection.
In what other ways within the contract can employers share risk to keep the premium down?
One way is an ‘aggregating-specific,’ or ‘split-funded specific,’ contract and the other is a ‘tiered,’ or ‘coinsurance,’ contract. With an aggregating-specific/split-funded contract, the employer shares in the risk for a reduction in premium. The employer will accept claims up to the specific deductible and will accept additional claim liability generally equal to a 20 to 30 percent premium reduction. If the employer has no claims over its specific deductible during the year, it saves the amount of the aggregating deductible. If there is a claim in excess of the specific deductible, it is paid by the employer until the aggregating deductible is exhausted and the carrier pays the remainder. With a tiered/coinsurance contract, the employer agrees to share in more risk after the specific deductible has been exceeded for a reduction in premium. Once the specific has been exceeded, the employer may take on a reduced percentage of claims above the deductible up to a specified dollar amount, after which the carrier accepts all risk.
What potential pitfalls should employers be aware of when switching plans?
The first year an employer switches to a self-funded plan, claims incurred but not paid when it moved are the responsibility of the fully insured carrier. So instead of 12 months of claims for that first self-funded plan year, the employer has only nine to 10 months. The stop-loss rates and contract are referred to as immature and are discounted up to 20 percent. The second-year rate increase will look very high because not only is the rate increasing by trend but by the additional 20 percent because of a full claim year. An employer should purchase complementary contracts to prevent gaps in coverage.
How is health care reform affecting stop-loss coverage?
The most immediate impact is the change requiring benefit plans to have unlimited lifetime maximums. The stop-loss contract generally duplicates the benefit plan maximum, so when unlimited lifetime maximums were implemented, carriers struggled to determine the financial impact on their rates. Stop-loss contracts should be reviewed to make sure the maximum reimbursement matches the employer’s maximum and the carrier hasn’t put a cap on the maximum. That would leave the employer at risk once the reimbursement maximum has been exceeded. We are also finding large employers that never had stop loss request very high specific deductibles because of the unlimited lifetime maximum.
Donna Cowden is senior vice president, Aon Hewitt, Health & Benefits. Reach her at (336) 728-2316 or Donna.Cowden@aonhewitt.com. Jim Gloriod is resident managing director at Aon Risk Solutions. Reach him at (314) 719-5148 or firstname.lastname@example.org.