What Is the Medical Loss Ratio and Why Does It Matter?

Consumers Have Received Billions of Dollars In MLR Rebates

The ACA's MLR rules ensure that most of your premiums are spend on medical claims.
 Alfred Gescheidt / Getty Images

The Affordable Care Act, enacted in 2010, made sweeping changes to the regulations that apply to health insurance coverage. One of those changes was a rule governing the percentage of premiums that insurance companies have to spend on enrollees' medical costs, as opposed to administrative expenses.

Before the ACA, insurance companies could set their own guidelines. State insurance commissioners would review premium justification that insurers proposed, although the review process wasn't always robust.

And if an insurer had particularly high administrative expenses, there wasn't much in the way of recourse for regulators or consumers.

But the ACA imposed a medical loss ratio (MLR) requirement, which specifies the maximum percentage of premiums that insurers can spend on administrative costs. In the large group market, insurers must spend at least 85 percent of premiums on medical costs and health care quality improvements. In the individual and small group markets, the threshold is 80 percent. So insurers can spend at most 15 or 20 percent of claims revenue on administrative costs (depending on whether the plan is sold in the large group market, or in the individual and small group market), and the rest of the premium dollars that the insurer collects have to be spent on medical claims and things that improve patients' health care quality.

"Large group" generally refers to insurance policies that are sold to employers with more than 50 employees.

But in California, Colorado, New York, and Vermont, large group plans are sold to employers with more than 100 employees, as the small group market in those states includes employers with up to 100 employees.

What Were Insurer's MLRs Before the ACA?

The ACA's MLR rules went into effect in 2011. Before that, nearly two-thirds of insurers were actually already spending the majority of their members' premiums on medical claims, but there wasn't a mechanism in place for addressing the ones that weren't.

And it varied significantly from one market to another. According to a Government Accountability Office analysis, 77 percent of large group insurers and 70 percent of small group insurers were already meeting the new MLR guidelines in 2010 (before they went into effect), but only 43 percent of individual market insurers were spending 80 percent of premium revenue on medical costs that year. And according to CMS data, 45 percent of people with individual market insurance coverage in 2010 were covered by plans that were spending at least 25 percent of premium revenue on administrative expenses.

It's important to note here that only about 7 percent of Americans have coverage in the individual market, whereas 49 percent have coverage in the employer-sponsored market, including large and small employers.

Administrative costs have always been lower when the insurer can cover more lives with each plan purchase. That's why the MLR requirements are more stringent for large group insurers than for small group and individual market insurers.

How Are the MLR Rules Enforced?

The ACA's MLR rules apply to all fully-insured plans in the individual, small group, and large group markets, including grandmothered and grandfathered plans.

But it does not apply to self-insured plans (the larger the employer, the more likely they are to self-insure, rather than purchase coverage for their employees; 61 percent of all workers with employer-sponsored coverage are covered under self-insured plans).

By July 31 each year, insurers report to CMS with their applicable revenue and expense data from the previous year. Insurers are deemed to have met the MLR requirements if they spent at least 85 percent of large group premiums on medical care and quality improvements, and 80 percent of small group and individual market premiums on medical care and quality improvements.

Insurers that don't meet those targets have to send rebates to policy-holders, essentially reimbursing them for what amounting to premiums that were too high. The MLR requirements took effect in 2011, and the first rebate checks were sent out in 2012. Since 2014, the rebate amounts have been based on an insurer's three-year average MLR, rather than just the prior year's MLR.

HHS can impose monetary penalties on insurers that don't report MLR data, or that don't comply with the rebate requirements. 

Who Gets Rebates?

In 2017, roughly 3.9 million people got MLR rebates, either directly from their insurance companies, or passed through from their employers. That's only about 1.2 percent of the US population, so most people are not getting MLR rebates. Of course, the ACA's MLR rules only apply to fully-insured employer-sponsored plans and individual market plans. They don't apply to self-insured group plans, or to Medicare and Medicaid, which cover a large chunk of the population (but there are separate MLR rules for Medicare Advantage and Part D plans, and for Medicaid managed care plans).

But even among health plans that are subject to the ACA's MLR rules, most are in compliance and do not have to send rebate checks. And compliance has improved over time. 95 percent of people with individual market health coverage were covered by plans that met the MLR requirements in 2016 (as opposed to just 62 percent of members in 2011). In the large group market, 96 percent of enrollees are in plans that met the MLR rules in 2016, and in the small group market, 90 percent of enrollees were covered by MLR-compliant plans in 2016.

MLR rebates are based on an insurer's entire block of business in each market segment (large group, and individual/small group). So it doesn't matter what percentage of your premiums were spent on your medical costs, or what percentage of your employer group's total premiums were spent on the group's total medical costs. What matters is the total when all of the insurer's members' premiums are combined, and compared with the total amount that the insurer spent on medical costs and quality improvements.

Obviously, it wouldn't work to look at MLR on a more individual level, since a person who stays healthy all year might only have a few hundred dollars in claims, versus a few thousand dollars in premiums, while a person who is very sick might have millions of dollars in claims, versus the same few thousand dollars in premiums. The whole point of insurance is to pool everyone's risk across a large population of insurers, so that's how the MLR rules work, too.

In the individual market, insurers that don't meet the MLR requirements simply send rebate checks directly to each policyholder. But in the employer-sponsored market (large group and small group), the insurer sends the rebate check to the employer. From there, the employer can distribute cash to enrollees, or use the rebate to reduce future premiums or improve benefits for employees.

MLR rebates are generally not taxed, but there are some situations in which they are (including situations in which self-employed enrollees deduct their premiums on their tax return). The IRS explains the taxability of MLR rebates here, with several example scenarios.

How Much Are the Rebates?

Total rebates were much higher for 2011 than they have been in subsequent years, once insurers got used to the new rules. Each year, CMS publishes data showing the total rebate amounts and average rebates for households in each state that received rebates. In the first six years, MLR rebates have returned about $3.24 billion to consumers:

In 2017, the average person who received an MLR rebate got $113, but it varied considerably from one state to another. People in California who got rebates received an average of $599, while people in 11 states got no rebates at all, because all of the insurers in those states met the MLR requirements.

Insurers spend several months each year determining what their premiums should be for the coming year, and those proposed rates are double-checked by state and federal actuaries. But health claims can fluctuate significantly from one year to the next, and the projections that insurers use don't always end up being accurate. So the MLR rebates serve as a backstop, in case the insurers end up not needing to spend 80 percent (or 85 percent in the large group market) of premiums on medical costs and quality improvements.

For example, in 2017, when insurers were setting rates for the individual market for 2018, there was considerable uncertainty in terms of whether the Trump Administration would continue to provide federal funding for cost-sharing reductions (CSR). Ultimately, the Administration terminated that funding, but that decision came just a few weeks before open enrollment started, and rates in most states had already been established. Insurers scrambled in many cases to adjust their rates in the days leading up to open enrollment, but many states had already advised insurers to base their rates on the assumption that CSR funding would be terminated, with lower backup rates that would be implemented if that didn't end up being the case.

But in Louisiana, regulators noted in September 2017 (a month before CSR funding was eliminated by the federal government) that insurers in the state had filed rates based on the assumption that CSR funding would end, and there was no backup plan in place to adjust those rates if the federal government decided to continue to provide CSR funding to insurers. Instead, the state clarified that the MLR rules would be used to sort it out later on, with enrollees receiving rebates starting in 2019, if they ended up having double funding for CSR (via higher premiums as well as direct federal funding).

Ultimately, that did not come to pass, as CSR funding was indeed eliminated. But Louisiana's approach to the situation is an example of how the MLR rules can be used to ensure that consumers are ultimately protected in situations where it's uncertain how claims will end up comparing with premium revenue.

How Would Democrats' Health Care Reform Proposals Change the MLR Rules?

In March 2018, Senator Elizabeth Warren (D, Massachusetts) introduced the Consumer Health Insurance Protection Act, aimed at stabilizing and protecting health insurance coverage for consumers. The first section of the legislation calls for increasing the MLR requirements for the individual and small group market to 85 percent, bringing them into line with the current large group requirements.

This legislation is co-sponsored by several prominent Senate Democrats, including Maggie Hassan (New Hampshire), Bernie Sanders (Vermont), Kamala Harris (California), Tammy Baldwin (Wisconsin), and Kirsten Gillibrand (New York). But it is unlikely to gain traction in Congress until if and when Democrats have a majority. 

So for the time being, the current MLR rules are likely to remain in place. But the Consumer Health Insurance Protection Act serves as a roadmap for where Democrats would like to go if they regain a majority, so it's possible that we could see tighter restrictions on insurers in future years. To be clear, many insurers, especially in the individual market, have had MLRs well above 80 percent over the last few years. Some have been in excess of 100 percent, which is clearly unsustainable and is part of the reason premiums have increased sharply in the individual market—insurers obviously cannot be spending more on claims than they collect in premiums.

But for some insurers, a switch to a higher MLR requirement in the individual and small group markets would force them to become more efficient. On the other side of the coin, however, people argue that the MLR rules don't incentivize insurers to put pressure on medical providers (hospitals, doctors, drug manufacturers, etc.) to reduce overall costs since premiums can simply be raised to keep up with increasing health care costs. Insurers just have to spend the bulk of those premiums on medical costs, but for consumers, the premiums can continue to rise at levels that are unsustainable without premium subsidization.

Sources:

Centers for Medicare and Medicaid Services. Center for Consumer Information and Insurance Oversight. Medical Loss Ratio

Centers for Medicare and Medicaid Services. Summary of 2016 Medical Loss Ration Results. Reported and Published in 2017.

United States Government Accountability Office. Letter to House Committee on Education and Workforce. Private Health Insurance: Early Indicators Show That Most Insurers Would Have Met or Exceeded New Medical Loss Ratio Standard. October 31, 2011.

Warren, Elizabeth. Senate.gov. Consumer Health Insurance Protection Act. Introduced March 2018.