The Medicare Advantage Program in 2014. II. History of Private Plans in the Medicare Program


The private plan option has been available in Medicare for over 30 years; it has grown considerably over that period from representing a small part of the program to accounting for nearly 30 percent of all enrollment today.2 Medicare Advantage (MA) is the name of the current program that allows beneficiaries to enroll in private health plans, rather than having their care covered through Medicare’s traditional fee-for-service (FFS) program. The rationale for allowing private plan participation in Medicare was to encourage private plans to: 1) use their provider networks to coordinate high-quality care for beneficiaries, 2) provide enhanced benefits, and 3) do so at a cost below that of the traditional FFS program.3 For example, the Tax Equity and Fiscal Responsibility Act (TEFRA) of 1982 provided assured savings for taxpayers by paying private plans 95 percent of the estimated cost of treating an average beneficiary in the traditional FFS program (known as the adjusted average per capita cost (AAPCC)). Based on data from the Centers for Medicare & Medicaid Services (CMS), Medicare private plan enrollment grew to about 6 million beneficiaries by 1997, primarily concentrated in urban counties, but various studies raised concerns about excess spending due to inadequate risk adjustment of payments to reflect the healthier-than-average population that was enrolled in the private plans.4

  • Medicare Private Plan Trends Prior to the Affordable Care Act

Beginning in the late 1990s, Medicare’s private plan program underwent several significant changes that weakened the linkage between private plan payment rates and FFS costs, and for the first time resulted in plan payments in some areas being higher than the costs of treating similar patients in the traditional FFS program. In particular, several provisions in the Balanced Budget Act of 1997 (BBA) and the Benefits Improvement and Protection Act of 2000 (BIPA) sought to expand Medicare private plans beyond urban areas by increasing the minimum payment rates in rural areas so that they exceeded comparable FFS costs;5 however, the increased payment rates for rural areas were not sufficient to attract increased plan participation. Meanwhile, overall private plan participation and enrollment decreased during this period because the BBA’s reductions in FFS payments and limits on annual increases in the capitation rates that Medicare paid private plans 6 7 occurred at a time when underlying health care costs began to rise much more rapidly.8 9 As a result, private plan enrollment decreased from 6.3 million in 1999 to 4.7 million by 2003 (see Figure 1).

Subsequently, the Medicare Prescription Drug, Improvement, and Modernization Act of 2003 (MMA) authorized the MA program, which included a new competitive bidding process in which MA plans were required to submit bids against a fixed benchmark to provide services to Medicare beneficiaries at the local or regional level, beginning with the 2006 contract year.10 The MMA also provided immediate enhancements to MA plan payment rates (such as a 6.3 percent minimum update for 2004) and other program improvements that were designed to encourage plan participation and reverse the downward trend in Medicare private health plan enrollment. As a result of the increased payment rates under the MMA, and facilitated by an increase in the number of private fee-for-service plans (PFFS) being offered,11 MA enrollment more than doubled between 2005 and 2010 (increasing from 5.5 million to 11.4 million).

Figure 1

Trends in Medicare Advantage Enrollment, 1996-2014

Figure 1: Trends in Medicare Advantage Enrollment, 1996-2014

Notes: Excludes Cost plans, PACE, Demos, and Pilots. The MMA required a transition from Medicare+Choice to the Medicare Advantage program, which began in 2006. Enrollment for 1996-1997 reflects risk plan enrollment. Enrollment for 1998-2005 reflects Medicare+Choiceenrollment.

Source: ASPE analysis of CMS Enrollment Data

The Medicare Improvements for Patients and Providers Act of 2008 (MIPPA) provided for a small reduction in MA payments by phasing out of the inclusion of indirect medical education (IME) costs in the calculation of MA payment rates. MIPPA also included a provision that was designed to slow the growth in PFFS enrollment: a requirement that most PFFS plans develop written provider contracts beginning in 2011.12

However, there continued to be considerable concern that payment rates for MA plans were too high relative to the costs of caring for comparable beneficiaries under the traditional FFS program. Indeed, MA payment rates were estimated to exceed FFS payments by a considerable amount; for example the average ratio of MA payments to FFS rates was 114 percent in 2009 nationally. Additionally, the Medicare Payment Advisory Commission (MedPAC) noted that “In 2009, Medicare spent roughly $14 billion dollars more for the beneficiaries enrolled in MA plans than it would have spent if they had stayed in FFS Medicare.”13

Higher payments: The concerns about the higher payments were greater than just their impact on Medicare program spending. The higher payments undermined the competitive rationale for private plan participation in Medicare. Because plans were submitting their bids (based on their expected costs for providing care to a beneficiary) relative to a known and generous benchmark, and rebates equal to 75 percent of the difference between their bid and the benchmark, there was no need to compete with each other or with the traditional program by becoming more efficient or by providing higher quality care.14

Quality Did Not Improve: Indeed, in spite of years of increased costs, prior to the enactment of the Affordable Care Act, there was no evidence of better quality in MA plans relative to the traditional Medicare program.15 Although MA enrollees generally expressed high levels of satisfaction with the care they received, and with their providers and health plans, the National Center for Quality Assurance (NCQA) found that MA plans’ performance on various quality measures for clinical processes and intermediate outcomes was “flat” between 2005 and 2008.16 Additionally, MedPAC found that there was considerable variation in quality performance across plans, with newer plans performing worse than established plans on many measures.17

  • Changes to Private Plans Under the Affordable Care Act

In 2010, the Affordable Care Act made significant changes to the MA program that were designed to reduce higher MA payments while providing incentives for quality improvements. Most notably, the Affordable Care Act required a transition from MA payments that were significantly higher than FFS (114 percent of FFS in 2009) to comparable FFS-based MA payment rates,18 beginning in 2012.19 Additionally, the law reduced MA plans’ rebate levels and based rebates on plans’ five-star quality ratings. The Affordable Care Act also provided for additional quality bonus payments (QBPs) for MA contracts that meet quality standards measured under the five-star quality rating system.

 2 Medicare’s ability to offer private health plans as options for beneficiaries began with the Social Security Amendments of 1972, which authorized risk contracting with managed care plans. However, it was not until changes made in the risk sharing arrangements under the Tax Equity and Fiscal Responsibility Act (TEFRA) of 1982 that plan participation and enrollment began to increase.

3 For example, the Medicare Payment Advisory Commission has noted that “Private plans, because they are paid a capitated rate rather than on an FFS basis, have greater incentives to innovate and use care management techniques.” Medicare Payment Advisory Commission, “The Medicare Advantage Program: Status Report,” Chapter 13, Report to the Congress: Medicare Payment Policy, March 2014.

4 General Accounting Office (GAO), “Medicare HMOs: HCFA Can Promptly Eliminate Hundreds of Millions in Excess Payments,” GAO/HEHS-97-16, Apr. 25, 1997, accessed at

5 For example, the Balanced Budget Act of 1997 (BBA), which established the Medicare+Choice program, set national payment floors for lower cost counties, and guaranteed a minimum 2 percent annual increase to all plans; and the Benefits Improvement and Protection Act of 2000 (BIPA) increased the national payment floor; created a second, higher urban floor; and increased the minimum payment update from March 2001 through the end of the calendar year.

6 Under the Medicare + Choice (M+C) program, the county-level payment rates were set based on the greater of: 1) a minimum increase from the previous year’s rate (2 percent), 2) the applicable floor rate, or 3) a blend of the local rate and a national rate. The 2 percent minimum increase was designed to provide protection for private plans due to the dramatic reductions in FFS spending under the BBA (Berenson and Dowd, 2008). Additionally, plans were required to submit Adjusted Community Rate Proposals to CMS for review, summarizing their estimated per-person costs for providing benefits to a Medicare beneficiary.

7 The BBA reduced the national payment update for private plans in 1998 and 1999. Medicare Payment Advisory Commission, “Medicare+Choice: Trends Since the Balanced Budget Act,” Report to the Congress: Medicare Payment Policy, March 2000, accessed at

8 Marsha Gold, “Medicare+Choice: An Interim Report Card,” Health Affairs, 20, no.4 (2001):120-138, accessed at

9 Researchers from Mathematica Policy Research found that the “Managed care organizations (MCOs) that withdrew from the Medicare+Choice program in 2001 had lower enrollments, higher premiums, and less-generous benefit packages than those that remained in the program.” Lori Achman and Marsha Gold, Mathematica Policy Research, Inc., “Medicare+Choice 1999-2001: An Analysis of Managed Care Plan Withdrawals and Trends in Benefits and Premiums,” Commonwealth Fund, February 2, 2002, accessed at

10 Specifically, plans whose bids are below the county benchmark receive their per capita bid risk adjusted for each enrollee, plus a rebate equal to 75 percent of the difference between the bid and the benchmark. Plans bidding above the benchmark amount receive a risk adjusted per capita payment equal to the benchmark and must charge a supplemental premium to beneficiaries.

11 Overall, MA enrollment increased by 68 percent between 2005 and 2008 (3.7 million new enrollees), with PFFS plans accounting for more than half of the total increase in MA enrollees during that period (2.0 million). PFFS plans, which were established under the Balanced Budget Act of 1997, were initially not required to have contracted provider networks in order to meet Medicare’s access standards; instead, they were allowed to deem that a provider had a contract with the plan if they agreed to accept Medicare FFS rates as payment and met other requirements. Studies have shown that the absence of network requirements made PFFS plans particularly attractive to MA organizations and enrollees during the first few years of the MA program. (For more information, see M. Gold & S. Peterson, “Analysis of the Characteristics of Medicare Advantage Plan Participation,” prepared for ASPE/HHS by Mathematica Policy Research, 2006.)

12 As discussed earlier, prior to 2011, PFFS plans were not required to have a contracted provider network as long as they paid willing providers based on Medicare FFS rates.

13 MedPAC also noted that “To support the extra spending, Part B premiums were higher for all Medicare beneficiaries (including those in FFS). CMS estimated that the Part B premium was $3.35 per month higher in 2009 than it would have been if spending for MA enrollees had been the same as in FFS.” Medicare Payment Advisory Commission, “The Medicare Advantage Program,” Chapter 4, Report to the Congress: Medicare Payment Policy, March 2010.

14 A. McDowell and S. Sheingold, “Payment for Medicare Advantage Plans: Policy Issues and Options,” Office of Health Policy, Office of the Assistant Secretary for Planning & Evaluation, U.S. Department of Health & Human Services, accessed at

15 For example, the National Committee for Quality Assurance (NCQA) found that “While payment policy in the MA program has led to growth in the number of plans available, growth in access to plans across the country, and increased enrollment, the higher funding has not necessarily resulted in cost containment or better quality of care for enrollees.” Cited in Medicare Payment Advisory Commission, “The Medicare Advantage Program,” Chapter 3, Report to the Congress: Medicare Payment Policy, March 2009, p. 263.

16 Medicare Payment Advisory Commission, “The Medicare Advantage Program,” Chapter 4, Report to the Congress: Medicare Payment Policy, March 2010, page 270.

17 Medicare Payment Advisory Commission, “Update on the Medicare Advantage Program,” Chapter 3, Report to the Congress, March 2008; Medicare Payment Advisory Commission, “The Medicare Advantage Program,” Chapter 3, Report to the Congress:Medicare Payment Policy, March 2009.

18 Under the Affordable Care Act section 3201, the county rates transition on a two-, four- or six-year schedule to a methodology based on a percentage of estimated FFS per capita costs in each county. Counties are grouped into quartiles by their relative FFS spending; rates for counties in the highest cost quartile are set at 95% of FFS costs and counties in the lower cost quartiles are set at 100%, 107.5% and 115% of FFS costs respectively.

19 The Affordable Care Act provides for a transition from the pre-Affordable Care Act rates to the FFS-based Affordable Care Act rates. During the transition period, county-level MA payment rates are calculated based on a blend of these two rates, with various counties transitioning to the FFS-based rates in two, four or six years, beginning in 2012.

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