Community Rating: Is It Time for Small Businesses to Self-Insure?

The PPACA has already changed the health insurance landscape in the United States. In 2014, the health insurance landscape will continue to shift when several of the PPACA’s provisions are implemented. The PPACA’s community rating rules are one of the key provisions that will be implemented in 2014.

The community rating rules apply to two classes of insurance purchasers, individuals and small groups. Small groups are defined by the PPACA as employers with between 1 and 100 employees; however, states will have the option to define small groups as employers with up to 50 employees up until 2016.

For those affected by the community rating rules, the PPACA allows rates to vary based on four factors. First, rates can vary by age, but rates cannot vary by more than a 3:1 ratio across rating bands established by the Secretary of Health and Human Services (herein “Secretary”). Second, rates can vary by tobacco use, but rates cannot vary by more than 1.5:1 ratio. Third, rates may vary between self-only insurance coverage and family insurance coverage. Fourth, rates may vary by rating area, which will be established by state governments. If a state elects to forego setting its rating areas or if the Secretary determines that the state failed to do so “adequately,” the rating areas for that state may be established by the Secretary.

Some commentators expect the PPACA’s community rating rules to increase insurance premiums for both individuals and small groups. One commentator estimates that premiums will increase for individuals 116% on average. Premiums are expected to increase the most for younger individuals because of the PPACA’s limit on age band variance. Although the PPACA does allow some age band variance (3:1 ratio), the variance allowed is significantly lower than the current variance in most states. A total of 42 states currently have a ratio of 5:1 or higher. Because insurers will not be as free to charge younger individuals less and older individuals more, insurers will be forced to raise rates for younger individuals and lower rates for older individuals. The increase will likely be even higher for young and healthy individuals that will be subsidizing the older and sicker individuals in the insurance pool.

Businesses that are classified as a small group are also expected to see increases in their premiums. Small businesses with a young and healthy workforce will likely pay more for health insurance coverage then they would have before the implementation of the community rating rules because insurers will be forced to charge small businesses with young and healthy workforces approximately the same rate they charge small businesses with older and unhealthy workforces. One estimate indicates that small businesses with young and healthy workers in Indiana could see premiums increase by as much as 91%.

The PPACA’s community rating rules may be advantageous for small businesses with older and unhealthy workforces, but community rating will simply encourage small businesses with younger and healthier workforces to drop out of the insurance marketplace or self-insure. A small business with young and healthy workers could utilize either option because self-insurance is not covered by the PPACA’s community rating rules and any employer could choose to drop out of the insurance marketplace, leaving the small business’s employees without insurance. Dropping out of the insurance marketplace altogether could have the adverse consequence of exposing the small business to the PPACA’s penalty provisions, but this consequence may be acceptable for small businesses if rates begin to rise.

As the employers that are the least costly to insure drop out of the insurance marketplace or self-insure, the cost for the small businesses that remain in the marketplace will rise because insurers will need to raise rates to remain profitable. One insurer expects small-group premiums to increase by 13% to 23% on average in 11 states studied by the insurer. Other commentators have said small-group premiums nationwide may rise as much as 20% to 50% on average. There is already a trend towards self-insurance on the part of small businesses. If these forecasts are accurate, this trend will continue for young and healthy small businesses once the implementation of the community rating rules takes place.

About Jim Hamilton

I am an employee benefits partner with Bose McKinney & Evans LLP. My broad-based practice covers health and welfare arrangements, insurance, executive compensation and federal and state taxation. Among other areas, I have specific experience with PPACA, HIPAA, COBRA, ERISA and numerous other state and federal laws affecting employee benefit plans.
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