Self Insurance vs Health Insurance

July 30th, 2009 | Healthcare Reform | Market Approach | Regulatory Matters

I have been more than a little perplexed as the debate rages on Healthcare Reform.  There has been a lot of talk aimed at small business claiming that their rates will go down as they get combined purchasing power like the big employers.  No one seems to mention that large employers do not, in fact, buy health insurance: they self-insure.  Large employers utilize health insurance companies for their Provider Networks and claims processing but are responsible directly for the dollar amount of those claims, subject to purchase of Stop Loss insurance for catastrophic losses on individual employees. This line of business is known as "ASO" (Administrative Services Only) in the trade. 

The ability to self-insure depends upon what is commonly referred to as the "law of large numbers."  Populations oft-times (not always!) follow a statistical Normal Distribution that results in a "Bell Curve" of characteristics.  In a large group of insureds, one would expect the center of the Curve to contain the greatest number of individuals whose claims experience or medical costs would cluster around a value known as the median or midpoint in the distribution.  At the extreme ends of the curve would be very low cost individuals (left side) and high cost individuals (right side).  It is the high cost individuals whose added expenditures are insured with Stop Loss insurance (also called Re-insurance.)  The Stop Loss level could be $100,000, $250,000 or whatever number is actuarially or statistically viable, subject to the employing entity’s willingness to assume or not assume risk.  An analogy elsewhere in insurance is so-called Umbrella Liability insurance.

It is hard to believe that Healthcare Reform would outlaw Self Insuring and effectively require large employers to share risk with small employers – and one can be certain that large employers would set their PACs into high gear to prevent that.  Although I have not studied this particular issue in recent years, from prior consulting work in this area, I know that small employers do not have the same statistical distribution as large employers, even if a number of small employers are combined.  Thus, the Normal Distribution or Bell Curve with its related cost per employee does not look the same – costs are higher.  Similarly, the distribution of costs for a high tech company with many young employees tends to be different and lower than a manufacturing concern.  The employees of different sized employers and employers in different industries have very different healthcare cost characteristics.  The Chapter I wrote and annually update for Thompson (PPC’s) Guide to Healthcare Consulting discusses the implications of these Cost Distributions.

Another perplexing claim is that as millions of uninsured come into the healthcare system, costs will go down.  I must be missing something here as it seems to be saying that if you allow 100 extra people to eat dinner, it will cost less.  In the latter example, the only way dinner could even cost the same would be if everyone already at the Table ate less and new diners partook in their reduced intake.  How dinner for an extra 100 would cost less than dinner without that extra 100 is math I have not learned and therefore cannot posit a theory.




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