The fourth meeting of the Joint Subcommittee on the State Health Insurance Program, of the Interim Joint Committee on State Government and the Interim Joint Committee on Banking & Insurance, was held on Monday, December 16, 2002, at 1:00 PM, in Room 149 of the Capitol Annex. Senator Alice Kerr, Co-chair, called the meeting to order, and the secretary called the roll.

Present were:

Members: Senator Alice Kerr and Representative Robert Damron, Co-Chairs; Senators Tom Buford, Lindy Casebier, Ernie Harris, Marshall Long, Albert Robinson, and Johnny Ray Turner; Representatives Carolyn Belcher, James Bruce, Brian Crall, Jimmie Lee, Paul Marcotte, and Susan Westrom.

Guests: Representatives Mike Cherry and Mike Weaver; Carol Palmore, Carl Felix, and Diane Collins, Personnel Cabinet; Barbara Alvey, Mercer Human Resource Consulting, Inc.; Ginny Cady, American Federation of State, County, and Municipal Employees (AFSCME); and Joe Ewalt, Kentucky League of Cities.

LRC Staff: Mark Roberts, Greg Freedman, Emily Bottoms, Rhonda Franklin, Jamie Griffin, and Peggy Sciantarelli.

The minutes of the November 25 meeting were approved without objection, upon motion by Representative Lee.

The first speaker was Ginny Cady, from the Washington, D. C. office of AFSCME. She was accompanied by several state employees who are members of the organization. Ms. Cady discussed AFSCME's December 12, 2002, white paper, "Fairness for Families: The Crisis in Public Employee Health Insurance in Kentucky and a Program to Fix It." Ms. Cady said that state employees are paying too much to insure their families. She said the average state worker spends 22 percent of salary for family coverage, compared with about five percent in nearby states, and fewer employees are electing family coverage. As of 2001, 33 percent were enrolled in any of the dependent plans, down from 36 percent in 1999. In Kentucky's neighboring states, the average percentage of employees electing family coverage is 60 percent. Kentucky's employer contribution now covers only 35 percent of the cost of the family premium, while neighboring state governments pay about 81 percent. Large private employers in Kentucky pay an average of 70 percent toward family coverage; nationwide, private employers pay 73 percent.

Ms. Cady said that AFSCME recognizes the state's budget problems but believes that the state can cut health care costs in several ways. AFSCME recommends that all flexible spending account (FSA) forfeitures be used to reduce employees' cost of family coverage. Also, Kentucky should investigate joining a prescription drug purchasing pool. Ms. Cady said that a purchasing pool begun recently in West Virginia expects the program to reduce prescription drugs costs by $6-$7 million in the first year. She said that AFSCME supports the concept of requiring local governments and universities that do not insure their active employees through the state group to contribute fairly for their retirees' health coverage. AFSCME encourages the state to be more active in negotiations for health insurance purchasing and to consider developing a self-insured, statewide PPO plan. She also spoke about the value of shared decision-making between patients and providers. In conclusion, Ms. Cady said that AFSCME believes that the Commonwealth needs to contribute a greater share of the premium cost for dependent coverage. Otherwise, election of family coverage will continue to decline, and the cost will continue to grow as adverse selection occurs. Several state employee/AFSCME members then presented life-size, autographed "Christmas" cards to the Subcommittee with the message to "make their holiday season bright" by working to solve the health insurance problem. Senator Kerr thanked Ms. Cady and the employees.

Next on the agenda Barbara Alvey of Mercer Human Resource Consulting, Inc., discussed the pros and cons of self-funding (also termed self-insuring) the Commonwealth's group health insurance program. Personnel Cabinet Secretary Carol Palmore introduced Ms. Alvey. Diane Collins, Personnel Cabinet staff, assisted Ms. Alvey with her PowerPoint presentation (copies were provided to the Subcommittee).

Key elements of Ms. Alvey's presentation are summarized as follows. Self-funding basically relates to risk assumption and does not define a particular type of plan. It also does not mean "self-administration." A survey of all 50 states conducted by Mercer Human Resource Consulting in January 2002 showed that 30 percent of state governments, including Kentucky, are fully insured for all health insurance benefits, and 32 percent self-fund for all of their health insurance benefits. The remaining 38 percent of state governments typically self-fund their PPO or indemnity plans but insure for their HMO plans. Louisiana is the only state that handles health insurance claims payments in-house.

In 2002, 67 percent of employers with 500 or more employees self-funded their PPO plans, down from 73 percent in 1997. The percentage of large employers that are self-funding their HMO plans has increased—from about 10 percent in 1997 to about 14 percent in 2002 (based on the Mercer-Foster Higgins National Survey of Employer-Sponsored Health Plans, an annual survey of more than 3,000 large employers).

Some important considerations relative to self-funding are risk assumption, network disruption, third-party buffer loss, regional health plan impact, and requirements of the Personnel Cabinet's Office of Public Employee Health Insurance (OPEHI). It is usually expected that self-funding will ultimately cost less than an insured program because of the elimination of the risk margin that is typically factored into insured rates. However, self-funding does not always cost less. Whenever funding arrangements are changed, there can be disruption in the provider network, but self-funding can allow greater flexibility in negotiating with providers. Unless fiduciary responsibility for claims decisions is transferred to the TPA (third-party administrator), the state would lose the third-party buffer—the insurance company—and have "final say" on payment eligibility of health care claims. Self-funding allows for plan design flexibility but may also result in fewer plans being offered. Under a self-funding arrangement, OPEHI or some other entity, would have new administrative responsibility. One of the biggest advantages of self-funding would be consistency in the program, which is difficult to achieve under an insured arrangement.

Under an insured medical plan, cost is predictable for any given year because the premium rates have been set by the carriers. On a self-funded basis, a surplus would result if claims are less than projected; however, if claims exceed projections there would be a deficit. Enrollment changes become a bigger issue under self-funding. If people who are better health risks leave the plan, adverse selection can occur, resulting in higher cost. Recently, in the health insurance marketplace there has been more pressure from health care providers to increase reimbursement rates for private employer plans, due in part to wage pressures resulting from a nursing shortage or from reductions in Medicaid and Medicare reimbursements. Employers participating in the 2002 survey predicted that costs would increase by 12.7 percent in 2002, but the increase was actually 14.7 percent—which would be considered a sizable increase in a program as large as the Commonwealth's.

In the initial year of self-funding there is more uncertainty in projecting costs, due to changes in network, reimbursement rates, claims and care management. One advantage of self-funding is that the Commonwealth would have use of claims payment reserve funds. However, the Commonwealth would be responsible for protecting those funds and replenishing the reserves in the event of a deficit.

An insurance carrier will normally build a 2-5 percent risk margin into premium rates. Cost savings normally would be expected in a self-funded arrangement due to elimination of that risk margin. Costs may also be lower under self-funding also because a large percentage of formulary rebates from pharmacy manufacturers would flow back to the employer, rather than being retained by the insurance companies. The amount rebated is usually about 2-5 percent of pharmacy claims, or about one-half to one percent of total claims.

The Commonwealth's 2001 actual claims experience showed that the average monthly fixed cost was about $32 per contract (employee/retiree). Under a self-funded bid, that cost would have been higher—a little over $34 per month, assuming no change in claims or reimbursement.

Aside from claims being higher than anticipated, other factors that may cause costs to be higher than expected in a self-funded plan are the arrangements negotiated with providers and the management of claims and patient care. The additional resources that would be needed by the Commonwealth to administer a self-funded plan would also affect cost.

Based on March 2002 enrollment, if the Commonwealth were to self-fund its health insurance program in 2003, the projected cost would be between $625-$679 million. This cost was derived by projecting the 2001 claims cost forward to 2003 at a trend rate of 14 percent per year and adding in the fixed costs and stop-loss premiums that were quoted in the only qualified bid for self-funding that the Commonwealth received for 2003. Under the current insured arrangement, the projected cost for 2003 would be $588 million. Thus, self-funding would have increased the Commonwealth's cost 17-27 percent over 2002; the increase would have been less than 10 percent under the current insured arrangement. If the Commonwealth would have self-funded its program for 2003, approximately 124,000 people who have had to change health plans. Under the current insured arrangement, about 30,000 people had to change plans because their previous carrier did not participate or was no longer available in their coverage area.

Had the Commonwealth chosen to self-fund in 2003 under the bid that was received, the HMO/POS plans currently chosen by 66 percent of enrollees would not have been available. Because self-funding permits flexibility in plan design, an HMO "look alike" plan could be offered, however. The pharmacy co-pay structure could be designed under self-funding, and there could be consistency in drug formularies.

In a fully-insured plan, the carrier determines whether a claim is payable and, in essence, serves as a third-party buffer for the employer. In a self-funded arrangement, if the Commonwealth did not delegate fiduciary claims responsibility to a TPA, claim denials could be attributed to the Commonwealth. This would potentially increase the pressure to pay ineligible expenses and for the Commonwealth to be susceptible to legal action.

Under the current insured arrangement, the risk pool is splintered between carriers. Insurers cannot predict the size, age/gender mix, health status, or geographic area of enrollment. Because of the potential risk, fewer carriers are willing to bid, and others are willing to bid only in certain geographic areas. When the risk pool is splintered and people change plans each year, it impedes a health plan's ability to help members manage their health. An advantage of self-funding is the ability to unite the risk pool, which provides flexibility in allocating cost. Based on regional differences in employee contributions for the lowest cost "parent plus" coverage in 2003, the insured weighted average would be $143; the projected weighted average under self-funding would be $151 or more. If the Commonwealth self-funded and decided to allocate cost consistently across the Commonwealth—unless self-funding resulted in significantly lower costs—members in a few areas of the state would benefit from the blending of premium rates, but premiums would increase for those in other areas.

A prime consideration relative to self-funding is the sizable additional administrative responsibility that the Commonwealth would have to assume. All entities participating in the state health insurance group, as well as about 1,000 people covered under Cobra, currently remit their premiums directly to the carriers. Under a self-funded arrangement, OPEHI, or other designated entity, would receive the premium payments and be responsible for reconciling them with the eligibility database. The Commonwealth would control the dollars to pay the TPA's administrative fees and reimburse the TPA for claims payments. On an ongoing basis the Commonwealth would need to monitor experience in the program, monitor fund reserves, and establish annual funding and COBRA rates.

The eligibility/premium billing and reconciliation system currently being developed by OPEHI will not be fully operational before March, 2004. From all indications, it would be 2005 before the Commonwealth would be able to fully implement a self-funded program.

Concluding her presentation, Ms. Alvey said that consistency across the Commonwealth is possibly one of the greatest advantages that self-funding would bring to the health insurance program. She said that there are both advantages and disadvantages to self-funding and that whether it would be appropriate for the Commonwealth would depend on the priorities and perspective of those making the decisions.

Senator Robinson told Ms. Alvey he finds it hard to believe that self-funding would cost as much as indicated by the 2003 projections. She explained that the insurance carriers' risk is split and that they are using historical experience to set premium rates for the future. However, the risk pool on which they are making their projections can change dramatically if a carrier drops out of the plan or stops covering a particular geographic area. She said that Mercer's projections are based on the total historical data. Mercer feels that premium rates for a self-funded plan should be based on the difference in benefits that are paid under the plan, rather than enrollment. In Mercer's judgement, the differential that exists today in the premium rates for the HMO, POS and PPO plans is too broad. As people migrate between plans, depending on utilization, premium rates may not be sufficient to handle the risk. Projections for self-funding are made on a holistic basis rather than on a plan-by-plan or carrier-by-carrier basis. She added that Mercer believes some carriers may possibly lose money in 2003 due to unforeseen changes in the risk pool.

Senator Robinson asked whether it would be an option under self-funding for the Commonwealth to contract out services to an insurance company and whether doing so might save time and money. Ms. Alvey said it could be done, although insurance companies typically do not assume responsibility for holding money under an employer's self-funded program. She said it might possibly save time but that she doubts it would save money, since the insurance company would need to make a profit.

Senator Harris asked whether offering a variety of insurance plans—for example, one for catastrophic coverage only and others with more add-ons—would affect cost, under either an insured or a self-funded arrangement. Ms. Alvey said that whether a plan is insured or self-funded, depending on the options that are available, the more discrete the choice of services covered, the easier it becomes for members to predict their plan needs. This generally results in greater adverse selection—and the costs associated with it.

Sen. Harris said it would seem to be a fairly good money saver under self-funding to have the ability to customize the health insurance program—that is, to subcontract to get the "best in class" for a variety of services. He asked whether other states have done this successfully. Ms. Alvey said she cannot answer specifically about other states but said that there would be that opportunity.

Representative Lee asked Ms. Alvey whether she knows how much profit the carriers have built into their premium rates. She replied that in the 2003 bids, carriers disclosed how they developed their premium rates—which would have included their fixed cost. Representative Lee asked whether there is any way to determine whether those fixed costs are inflated. Ms. Alvey said the actual claims payments for 2001 were reported by the carriers and that fixed cost can be determined by subtracting the actual claims paid from the total premiums paid. She said that whether that amount actually covered operating expenses or included a profit is "a tougher question."

Representative Lee said that paid claims is not the whole story—that over the years the Commonwealth and its employees have been paying more but getting less. He said he feels that the consistency provided by a self-funded plan would add stability to the health insurance program. He also questioned whether the cost information that is now available is reliable enough for comparison purposes.

Representative Lee asked whether TPA's usually charge on a per-person basis or on the basis of claims paid. Ms. Alvey said they usually base their charges on the number of claims paid but that it would be possible to negotiate "per contract per month" fees. Representative Lee asked which is the preferred method of states that self-insure. Ms. Alvey said she did not know, since that was not asked in the survey.

Representative Lee asked Ms. Alvey whether the cost comparisons she presented between self-insured and fully-insured would be applicable to states that currently self-insure. Ms. Alvey said that Mercer could try to obtain that information but that claims payment and negotiated arrangements for other states' health plans would be considered proprietary information.

Representative Lee questioned how the Subcommittee can make informed decisions about employee health coverage when much of the information that is needed is proprietary. He went on to say that the information given to the members today is not the whole picture and that he doubts the information that is needed for a valid comparison will ever be available. He said he is committed to providing stability in the health coverage and that cost may not necessarily be the overriding factor. He said that based on what he has heard today, it appears that the Commonwealth will not save money by being self-insured.

Senator Long asked whether there is an estimate of how many employees would be needed to administer a self-funded program in state government. Ms. Alvey said her best "guestimate" is that it would require 8-10 additional employees if the supporting systems are already in place. Senator Long said it does not appear that self-funding will save money and that the only solution to the dilemma may be to increase the amount of money that the Commonwealth pays for state employees' health insurance.

Senator Buford said he would assume that most states have plans that are either fully or partially self-funded. Ms. Alvey said that about 70 percent of the states entirely or partially self-fund their health insurance programs. Senator Buford asked whether any provisions of Kentucky law would put self-funding at a disadvantage. Ms. Alvey said that she is not aware of any. Senator Buford asked why public employee health insurance costs less in Ohio, which is self-insured. Ms. Alvey said that Kentucky has taken a different philosophical approach than other states. For example, some states allow retirees to participate in the health insurance plan but don't fund any portion of the cost. Also, the Commonwealth allocates a substantial amount of money for health care FSA's for individuals who waive coverage, and this is not typical in other states. Senator Buford asked how much was paid in claims and premiums in the Commonwealth in 2001. Ms. Alvey said that $558 million was paid in premiums. Total claims paid was $505,272,000. Senator Buford asked whether the $53 million difference between premiums and claims paid would be considered reasonable, compared to other states. Ms. Alvey said yes—that 9.5 percent is reasonable, based on market data. Representative Crall later clarified that the insurance companies would not have profited by that amount, since it would also include their operating costs.

Representative Marcotte asked who would assemble the provider network under a self-funded program. Ms. Alvey said that, in most cases, the employer would contract with the TPA to assemble the network. Representative Marcotte said that a recent lawsuit by a group of doctors in Cincinnati will probably also affect his area of the state, northern Kentucky. He asked whether the Commonwealth would be involved in such litigation if it was self-funding its health insurance program. Ms. Alvey said it would depend on whether the Commonwealth would have delegated to some other organization the responsibility for contracting with doctors.

Representative Crall remarked that, although a significant number of people would be disrupted by initiation of a self-funded program, in the long term there should be far less disruption, and more stability, than under the current insured arrangement. Ms. Alvey agreed. Representative Crall said it is likely that the Commonwealth, if self-funded, would still face the pressures of continually increasing medical costs, just as the insurance companies do, and would inevitably need to reduce or alter coverages. Ms. Alvey said that Representative Crall is correct—that self-funding will not "take that out of the picture." She agreed with him, too, when he stated that consistency cannot realistically be disassociated from cost.

Senator Casebier asked whether there is an estimate of the immediate and long-term fiscal impact of moving to a self-funded program. Ms. Alvey said that the immediate impact in 2003 would have been between $40 and $90 million. She said that, ultimately, the cost for a self-funded program, compared to an insured program, should be fairly consistent, with a slight savings on a self-funded basis over the long term, if premiums are negotiated appropriately.

Representative Damron said he is not sure that there is expertise at the state level to negotiate with providers throughout the state. He said he is concerned that this issue might drive up the costs of self-insuring, in that political pressures would hinder the Commonwealth's ability to effectively negotiate with providers. Ms. Alvey acknowledged that there could be different dynamics and tensions associated with contracting directly with providers. Representative Damron went on to say that it is his understanding that the counties with the highest employee contributions (see page 14 of PowerPoint presentation) have no competition in the provider market and that this was a significant factor in driving up the premium costs in those counties. Ms. Alvey said that actual claims cost for those counties was much higher and was definitely a factor. Representative Damron said he sees no indication of any specific health problem that would make residents of those counties more likely to use their health insurance. He said it is unfair for providers in most areas of the state to be reimbursed 50-60 percent less than providers in the higher-cost regions. He asked Ms. Alvey if she has any recommendations or knows of anything that has been tried successfully in other states which might help the Commonwealth achieve better pricing in the high-cost regions. Ms. Alvey said she is not necessarily recommending it but that a few states have stipulated what provider reimbursements are to be for specific services. She said this, obviously, would have cost ramifications for both public and private employers in those states. She said that, typically, when revenue decreases on one side, health insurance providers—like any other business—will try to increase revenue from another source. This might be a factor in eastern Kentucky, since West Virginia is one of the states that has stipulated provider reimbursement rates. Representative Damron said he would not advocate price controls but wonders whether allowing regional rating in the bid process might have any value for the Commonwealth. Ms. Alvey said that it might result in the people in those counties having only a different choice of carriers, rather than more choices. Representative Damron said carriers are concerned that unwillingness of providers to negotiate reimbursement rates prevents them from bidding the same rates in those areas that they are able to bid in probably 90 percent of the state. Ms. Alvey said that, in her opinion, regional rating is good for the insurance companies but not for the Commonwealth or the employees covered under the program. She said she believes that one carrier is on record as saying that not having to provide the same rate statewide is helpful in rate negotiations with providers in some areas.

Secretary Palmore asked for clarification of the information the Cabinet should provide for the Subcommittee. Senator Buford said he would like to know what would be considered an acceptable percentage of premiums that TPA's nationwide might expect to net as profit each year. Ms. Alvey said that 12-16 percent would typically be included as a "premium load." She said she would encourage the Commonwealth to negotiate a per-head administrative fee, rather than a percentage of claims or premiums, so that administrative fees would not of necessity increase over time at the same rate as claims cost. She said that TPA's, however, usually prefer to be reimbursed on the basis of a percentage of claims.

Secretary Palmore said that OPEHI is in the process of putting together cost projections for the number of additional employees that would be needed to perform eligibility and premium reconciliation, as well as other administrative functions that the insurance companies are now providing. She said she would try to have that information ready prior to the next meeting of the Subcommittee. She said that OPEHI is already preparing the systems to perform reconciliation, since they will be utilized regardless of whether the health insurance program is fully-insured or self-insured. Representative Lee said he would submit his own information request to Secretary Palmore in the near future.

Senator Casebier asked what other states and private employers are doing to hold down their employees' health insurance costs. Secretary Palmore said there are few opportunities for an "apples to apples" comparison. She said that Indiana is often used as an example, since that state has very comprehensive coverage and contributes toward dependent care. She explained that Indiana, however, does not pay for retiree health insurance nor offer its employees the option of flexible spending accounts. Compared to other states, the Commonwealth is also very liberal in its policy regarding retirees' eligibility to participate in the state health insurance group. She noted that the Health Insurance Policy Board is going to recommend increasing the number of years of service required for participation from five to ten, since some employees have been working for five years just to gain access to the retiree health insurance.

Representative Westrom asked how it would impact cost if FSA's were eliminated. Secretary Palmore said that Mercer did projections in 2001 of the number of people who would elect coverage in the state group if "flex" benefits were altered. She said she didn't have that information with her but believes it was included in the October 2001 report of the Kentucky Group Health Insurance Board.

Representative Belcher asked how many states pay for dependent coverage. Ms. Alvey said she didn't know specifically but that it is very common for both state and private employers to pay a portion of the cost of dependent coverage. Large employers typically pay 50-75% of the cost. She pointed out, however, that when the employer contributes toward dependent care, employees are required to pay a portion of the cost of their own health insurance.

Senator Kerr thanked Ms. Alvey and Secretary Palmore. She then called on Joe Ewalt of the Kentucky League of Cities. Mr. Ewalt said he had asked to speak to the Subcommittee regarding KLC's concerns and possible recommendations but would like to defer his presentation until a future meeting, so that KLC can further study the issues.

Representative Damron moved that the Subcommittee request the House and Senate chairs of the State Government and the Banking and Insurance Committees to submit a request to LRC as soon as possible after the January organizational session, asking for reestablishment of the Subcommittee, so that it may continue studying the health insurance program during the next interim. Representative Belcher seconded the motion, and it passed unanimously by voice vote. Senator Robinson said it is important for the work of the Subcommittee to continue and that, as Chair of the Senate State and Local Government Committee, he endorses its reestablishment. Senator Kerr said that if the request is granted, the Subcommittee will probably schedule a meeting during January. Business concluded, and the meeting was adjourned at 3:10 p.m.