Self-funding Your Small Business Medical Plan
The Patient Protection and Affordable Care Act (“PPACA” or “ACA” or “Obamacare”) has increased medical costs, constricted benefit and provider choices and put pressure on small companies trying to maintain a medical plan for employees. And now it may be replaced – by what?
In response, an increasing number of small and mid-size companies across America are adopting a technique previously used principally by large companies (of hundreds or thousands of employees)—and it’s allowing them to sidestep the principal Obamacare cost-drivers. The technique generally is known as self-funding, and because self-funding is regulated under ERISA (the Employee Retirement Income Security Act of 1974), plans under ERISA are therefore excluded from full compliance with ACA rules.
This movement to self-funding is being made possible by innovative insurance and administration companies who have joined forces and developed plans which allow smaller companies to benefit. How small? Ideally, a very healthy group of 10 or even less might be insurable. The larger the group, the more ongoing medical conditions that might be tolerated.
How does it work? Instead of a single fixed premium, a self-funded plan is unbundled into its three key components:
- “Stop-loss” insurance limits employer cost liability for large claims – it is a negotiated fixed cost.
- The plan is administered by a third-party administrator – administration is also a fixed expense.
- Claims costs belong to the employer – they are capped at a maximum, with lower actual claims resulting in employer savings.
So whereas the costs of administration and insurance coverage remain fixed, the cost of claims can vary to the employer’s benefit. Plans put a lid on claims cost, and normally in 2 of every 3 years the total cost will be less than the maximum, with resultant savings accruing to the employer.
We’re actually talking here about a variant of the technique known as self-funding, where no insurance company is involved. This is partial self-funding: stop-loss insurance is purchased to limit the employer’s exposure—if you will, “self-funding on training wheels.”
To recap, the employer starts with a maximum cost that is already saving money, compared to a fully-insured plan. The savings can then be increased if participant claims are relatively low. It’s not unheard of for a company to complete a year with no net cost, made possible if employee contributions for dependents are greater than the employer’s total fixed and claims expenditures for covered employees.
A major reason for the maximum cost of a partially-self-funded plan being lower than the lowest cost fully-insured plan is that the ERISA umbrella allows the avoidance of the two principal ACA cost-drivers. Every self-funded plan avoids the:
- ACA requirement to “guarantee issue” (not consider participant health conditions); and the
- ACA provision for “community rating” (no rate differentiation allowed for gender or industry).
In addition, some state mandated benefits are excluded under ERISA. For example, in Texas the most costly mandate is the requirement for plan coverage of drug rehabilitation.
The bottom line is that the maximum cost of a self-funded plan is invariably less than the lowest cost fully-insured plan. And if claims are favorable, the actual cost should be below that maximum.
Other potential advantages for the employer include improved visibility into the medical condition of the group and the nature of its claims expenditures.
Potential disadvantages include increased employer involvement in the plan and the assumption of additional legal responsibility. And one caveat: with Obamacare rules changing frequently, self-funding provisions could also vary.
And the future? Because ACA utilizes a “pooled” model, we anticipate that Obamacare (if it endures) will increasingly attract the sickest business groups, while healthy groups will self-fund under ERISA jurisdiction. And the gap in cost between these two alternatives will continue to widen.