Every state has adopted certain basic standards for health insurance that apply to all types of health insurance products. These standards protect consumers by requiring insurers to be financially solvent and capable of paying claims, pay claims promptly, and adhere to certain market conduct requirements. Regulation begins with the licensing of entities that sell insurance within the state. Licensing involves reviews of finances, management, and business practices to ensure an entity can provide coverage promised to policyholders. States also license agents and brokers who sell insurance within the state.
Examples of several financial standards include periodic financial reporting and minimum capital requirements, or amount of net worth that an insuring organization must have in order to operate. This minimum must be available to pay for claims submitted by policyholders. States also examine investment practices and may perform on-site financial examinations. As another measure of financial protection for policyholders, states have established guaranty funds which are non-profit organizations set up to pay claims of insurers that become insolvent. These non-profit organizations are created by statute and financed by imposing assessments on insurers in the market.
Market conduct requirements relate to claims and underwriting practices, advertising, marketing, rescissions of coverage, and payment of claims. These allow states to address unfair trade and claims practices, such as failure to pay claims fairly or promptly, and perform market conduct examinations to make sure insurers are complying with state regulations such as describing products accurately, avoiding deceptive advertising, and using sound actuarial principles to price products. Insurers must adhere to requirements of prompt claim payment and claims appeals processes. They must also have policy forms (i.e. the documents that establish the contractual relationship between the insurer and purchaser) reviewed and/or approved by the state to conform to standards of definition and content. Most often, states review forms issued to individuals and small groups, presuming larger groups are more knowledgeable and need less state oversight.
Other aspects of regulating the business of insurance vary by state and by type of coverage. Although most states have instituted patient protection laws like access to emergency services and specialists, these standards vary by state. An example of state variation exists with external review laws [2]; while most states have external review laws, different standards exist as to the types of disputes eligible for review, the amount of applicable fees, filing time frames, etc.
Other types of health insurance regulations that can vary by state can be grouped into several major areas including access to health insurance, rating, and covered benefits. The following paragraphs describe these regulations as they apply to the individual insurance market.
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Access
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States have sought to improve access to insurance policies through several regulatory approaches. Absent state individual insurance regulation, insurers in the individual insurance market adopt practices that seek to minimize risk to avoid losses, including denial of coverage for applicants who have health conditions or a history of health problems. Because most health care expenses are concentrated in a relatively small percentage of individuals, even a small number of high cost individuals can substantially impact overall insurance results (benefit costs, administration, profitability, etc.) in a particular group of individuals with the same insurance policy. As a result, an estimated 10 percent of individual insurance applicants are denied coverage for some medical reason(s) (AHIP, 2007).
Standards relating to access address when, and on what terms, health insurers must accept an applicant for coverage. While most states require insurers to provide coverage to small employers, few apply these requirements to the individual insurance market. State regulations addressing access involve requirements for guaranteed issue and/or guaranteed renewability of health insurance policies. Federal law also includes requirements for access under HIPAA.
Guaranteed Issue
Guaranteed issue laws prohibit insurers from denying coverage to applicants based on their health status. While all health policies sold in the small group market (generally employers of 2 to 50 employees) must be sold on a guaranteed issue basis, only a handful of states require insurers to sell coverage on this basis in the individual health insurance market. Some states require limited guaranteed access based on HIPAA eligibility [3] and some require open enrollment periods during which insurers may not deny coverage due to a medical condition. Because these requirements vary by state, this results in consumers in some states having more protections than consumers in other states.
Another means of access to health coverage is through high-risk pools. Approximately two-thirds of states have implemented high-risk pools as a safety net for the “medically uninsurable” population. These are people who have been denied health insurance coverage because of a pre-existing health condition, or who can only access private coverage that is restricted or has extremely high rates. Risk pools are not created expressly to serve the indigent or poor who cannot afford health insurance. The indigent can access coverage through state medical assistance, Medicaid or similar programs. Risk pools are designed to serve people who would not otherwise have the right to purchase health insurance protection. However, some state risk pools do have a subsidy for lower income, medically uninsurable people.
Though differing by state, risk pools operate as a state-created non-profit association overseen by a board of directors made up of industry, consumer and state insurance department representatives. The board contracts with an established insurance company to collect premiums and pay claims and administer the program on a day-to-day basis. Insurance benefits vary, but risk pools typically offer benefits that are comparable to basic private market plans. Generally, there are no exclusions. However, risk pools do have waiting periods for coverage of pre-existing conditions. Risk pool insurance generally costs more than regular individual insurance, but the premiums are capped by law in each state. The caps range from as low as 125 percent of the average for comparable private coverage, up to 200 percent of the average or more.
Risk pools are not a panacea for coverage of the uninsured because of their higher premiums and typical funding concerns. All state risk pools inherently lose money and need to be subsidized at roughly 40 percent of overall operating costs. Subsidy arrangements include assessments levied on insurance carriers, HMO's and other insurance providers; appropriations from state general tax revenue; special funding sources, such as a tobacco tax, or a hospital or health care provider surcharge; or a combination of these. Because of these funding concerns, access in some states is limited by waiting lists. There are currently less than 200,000 people enrolled in high-risk pools.
Guaranteed renewability
Guaranteed renewability laws prohibit insurers from canceling or not renewing coverage based on medical claims or diagnosis of an illness. This is a protection afforded to policyholders once coverage is obtained. Following the passage of HIPAA, all group and individual health insurance policies must be guaranteed renewable.
While guaranteed renewability is at the option of the policyholder, the insurer may increase premiums based on the claims experience of the group of individuals with the same policy. Insurers are generally prohibited from singling out policyholders for premium increases, called re-underwriting, because they got sick after buying coverage. However, insurers are not prohibited from canceling all their policies and leaving the market, though there is a time penalty on market re-entry.
Other protections for access to individual private health insurance coverage implemented by states include guaranteed access for special populations such as continued coverage for dependent handicapped adults who were covered by their parents’ policies as minors and automatic coverage of newborns for 30 days under their parents’ policy provided the policy covers dependents.
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Rating Practices
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With some variation, there are two distinct approaches to rating methods, or the process by which insurers calculate policy premiums, allowed by states. Insurers in a handful of states must offer policies to all applicants (guaranteed issue) and are limited to rates that are similar regardless of health status. This is called adjusted community rating. For these states, rates will generally vary by age and gender but not with health conditions. In states that do not require community rating, individual health insurance policies are underwritten, meaning that past health conditions of individuals are examined and rates are set according to the health risk of the applicant. A number of other factors are also considered in determining the rates charged.
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Factors Utilized in Rating Practices in the Absence of State Regulation
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Medical underwriting (examining health status) is the process that insurers use to evaluate an application for insurance. An insurance application is an offer, by the applicant to the insurer, to enter into an insurance contract. In states that allow medical underwriting, the insurer may evaluate an applicant’s health status and then accept that offer, decline it, or make a counteroffer with different benefits, a different premium, or both. Insurers use information reported by the individual, as well as medical records. Based on this examination, there are generally three possible outcomes:
- An applicant answers a variety of health status questions and is underwritten as a “standard risk” and receives an offer of insurance at standard rates that are generally lower than those for an employee or dependent in the group market. This occurs because the person is found to be healthy at time of policy issue, rather than being of “average health” typical of an employee or dependent of an employee that is covered by a group plan offered through their employer.
- An applicant with some past or current health conditions might be offered a policy at higher rates than average (called a “rate up” offer) or with coverage of certain specified conditions excluded for a period of time (called a “pre-ex” offer, for a pre-existing condition). Some applicants may be offered a policy with an elimination rider which specifies that coverage is provided except for the particular condition(s) that existed prior to the issuance of the policy.
- Some applicants with more serious health conditions will be denied coverage since the insurer would not be able to charge a sufficient premium in an underwritten market to pay for the average claims for these individuals.
Prior health care claims are examined to determine if premiums need to be adjusted to sufficiently cover expected claims in the future. As mentioned above, insurers are generally prohibited from singling out policyholders for premium increases, but will look at the experience of the class of individuals with the same policy when considering rate changes.
Age can be used in determining premiums with insurers usually charging older people higher premiums than younger people. Premiums also generally rise as the group of policyholders gets older.
Gender is a factor in some policies with insurers often setting higher premiums for women of childbearing age than they do for men. However, for older individuals, insurers may charge more for men than women.
Particular types of business or industry present higher or lower risk to the individuals working within them. Insurers often charge people in higher-risk occupations, such as the construction trades, higher premiums than they charge to people in lower-risk occupations, such as office workers.
Geographical location is taken into consideration because higher premiums are charged for residents and workers in locations where health care expenses are typically higher.
Family composition is more important than the number of persons in the family when determining health insurance policy premiums. Insurers often set lower premiums for a parent with a child than they do for a couple. Similarly, they may set different premiums for other kinds of families.
Lifestyle or participation in wellness activities has become more important in recent times as interest in cost containment has increased. Insurers have long charged higher premiums to smokers than nonsmokers, but have recently also begun to charge higher premiums for obese enrollees and lower rates to people who participate in health plan “wellness programs.”
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State Rate Reforms
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A handful of states have enacted rating reforms for the individual health insurance market, prohibiting or restricting insurers from charging higher premiums based on health status or the risk of having future medical claims. These rating restrictions are generally of two types: rate bands and community/adjusted community rating.
Rate bands limit how much insurers can vary premiums for each policyholder based on the health and claims of the policyholder. These limits force insurers to spread some of the risk more broadly across all policyholders. The extent to which premiums can vary depends on the size of the rate band and the factors that insurers can consider when setting premiums.
The rate band sets an upper and lower limit around an “average” premium. For example, if an average individual premium is $200 a month and a state allows an insurer to vary premiums by plus or minus 50 percent from the average premium, this allows a three-fold variation in premium from $100 (50 percent of the average) to $300 (150 percent of the average). Some states that use rate bands also allow variation based on factors other than health status, such as age and geographic location.
States that use rate bands also often limit price increases for individuals who renew their policies. In such a state, an individual whose health has deteriorated will not suddenly be charged significantly higher premiums. This limit is based on the health status and past claims experience of the individual and may be in addition to any increase that would otherwise apply to all policyholders due to increases in the cost of medical care.
Community rating, sometimes called pure community rating, requires insurers to charge the same premiums for everyone with the same policy. Insurers are not allowed to vary rates based on the health status or claims of the person. In theory, the price reflects the value of the benefits and not the risk factors of the people who purchase the policy. The community rate may be different for different insurers based on the claims experience (and other factors such as administrative costs) of people enrolled with that insurer. At the time of renewal, premiums are based on the claims experience of all people with the policy, so that people who had claims for health expenditures are not charged higher rates than others with the same policy who may not have submitted any claims. Variation is allowed depending on the family composition of the person(s) applying for the policy.
Adjusted or modified community rating likewise prohibits insurers from varying premiums based on health status. All persons in the same community are charged the same premiums, but premiums can vary by geography. Additional variation may be allowed for age, but adjustments for gender are usually not allowed.
The amount of variability among states in the extent of regulation surrounding insurers’ premium rates reflects states’ attempts to balance the challenges of greater access to private health coverage with the policies’ affordability. Additionally, states change rating practices over time in response to changing markets and political circumstances.
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Covered Benefits
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While almost all health insurance policies cover the usual medical expenses associated with hospital, surgical and out-patient care received from licensed facilities and medical personnel, other requirements for coverage can be implemented through state regulations. One way to spread the cost of a medical condition or treatment among a broad population, making it less expensive for the group of people who need such coverage, is through a benefit mandate. It is also a way to encourage people to seek certain care that otherwise may not be received.
Mandates are laws that require health insurers to offer or include coverage for certain benefits or services. These required benefits may include coverage for certain providers such as chiropractors and social workers, certain benefits such as well child care and acupuncture, and certain populations such as adopted and non-custodial children. The number and type of mandates varies considerably across states. States may apply these mandates to certain markets, differentiating between group and individual policies, and between types of plans such as health maintenance organizations (HMOs) versus other health insurance policy types.
It is sometimes difficult to determine whether a mandate in a particular state applies to only the group health insurance market or to individually purchased policies as well because some states allow health insurance coverage issued to “groups of one” (i.e., one person is considered a group) to be classified as a small group.
While mandates make health insurance more comprehensive, they also make it more expensive because mandates require insurers to pay for care consumers previously funded out of their own pockets. However, in the absence of mandates, adding optional benefits to a policy may distort premiums if only those people who need the benefit select the coverage.
Policymakers make tradeoffs, balancing higher premiums with the need to help finance certain illnesses. Many times mandates are implemented due to the strength of a particular advocacy group representing a particular constituency (advocates for coverage of diabetic self management and disposable testing materials) or because an instance of a denial of benefits caused some harm to a constituent patient (non-coverage of cancer medications). However, because mandates increase the cost of health insurance, states have begun to consider costs before passing new legislation with some states requiring a cost impact study before mandates would be approved.
An analysis of the number of mandates that have been enacted over the past decades is shown below. This chart indicates that there were over 1400 mandates in effect in the year 2000. A more recent report on mandates compiled by the Council for Affordable Health Insurance (CAHI) (Bunce and Wieske, 2008) indicates that as of early 2008 that number had risen to almost 2000.
Graphic shows a bar chart for number of mandates by year, from "pre-1965" with close to zero mandates, through 1976 when there were 200, through 1990 with almost 800, to the year 2000 with over 1400 mandates.
A grid developed by CAHI which shows the number and types of mandates by state for 2008 is shown in Appendix A. As this grid demonstrates, some of the more frequently state-mandated services are breast reconstruction, diabetic supplies, and mental health parity (even before federal legislation was considered). Frequently, mandated providers include chiropractors, optometrists, and psychologists, with coverage of adopted, handicapped, and newborn children among categories of frequently covered persons.
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Other State Insurance Regulations
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States have issued other types of regulations to ensure access to the individual private health insurance market. Among the more common are pre-existing condition limitations and medical loss ratios.
Pre-existing conditions are those conditions for which a policyholder was diagnosed, sought advice, sought treatment, or received care during a specific period of time prior to an application for insurance. Some insurers use pre-existing condition limitations to manage insurance costs by limiting or eliminating coverage of these conditions for some defined period of time after the initial purchase of a policy. Most states have implemented limitations on how far an insurer can go back to find prior claims for conditions (the look-back period) and how much time can elapse before coverage of these conditions begins (the exclusionary period). (See the subsequent section on Variation in Regulations within States for examples.)
A medical loss ratio is the percentage of dollars paid out as benefits to policyholders in relation to the premiums collected for the policies. For example, a state may require that an insurer spend at least 75 percent of the premiums they collect on medical claims. Loss ratios can be calculated for a particular policy form or design, a line of business, or a health insurer’s overall business. Only a handful of states require all insurers in the individual market to spend at least 75 percent of every premium dollar on medical care (Families USA, June 2008). Some states establish minimum loss ratios and reserve the right to review or approve the rates submitted by state-licensed insuring organizations. Insurers must estimate what they will spend on medical claims over the course of a year and set their premiums accordingly.
Because premiums must be set at the start of a policy year, actual claims may be more or less than anticipated. If an insurer has underestimated or overestimated the amount of claims, it may adjust the policy premiums in the following year to make up for the discrepancy. In some states, if claims are lower than expected and medical claim expenses do not meet the loss ratio, the insurer must refund the excess premium to policyholders at the end of the year.
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Variation in Regulations within States
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The previous sections of this report describe some of the types of regulations that states can implement in their governance of the individual insurance market. However, within each of the major areas of regulation there is wide variation in the requirements that have been implemented. For example, within a rating structure that may be imposed on health insurance premiums, there are state actions that range from no rating requirements to pure community rating with various levels of rate bands in between. Similarly, states have a range of requirements for regulating pre-existing condition limitations from no restrictions to very tight time frames of a six-month look back and six-month exclusionary period.
To illustrate this variation, Appendix B displays a chart of states and their market reforms compiled by the National Association of Health Underwriters (NAHU, 2007). Though individual market reforms are the focus of this report, the chart displays both individual and small group policy regulations.
A majority of states (27) have no requirement for guaranteed issue (GI) of individual insurance policies and no rating structure for variation in premiums. Where states have implemented some form of GI (11 states), this is often accompanied by some rating requirement, usually pure or modified community rating. Several states (12) use the HIPAA requirements to grant access to the individual insurance policies, but this applies to persons with prior group insurance coverage and there are usually no rate restrictions on the amount of premiums insurers can charge for these policies, depending on the health status of the applicant. Most states (37) allow policy elimination riders (policy provisions that eliminate coverage for particular conditions).
Almost all states have some limitation on the pre-existing condition look-back/exclusionary periods. While some states indicate they have none, this usually applies to persons exercising their group to individual portability rights under HIPAA (persons whose pre-existing limitations are eliminated because of previous coverage). The most common look-back period was either a twelve month (14 states) or six month (13 states) period. The most common exclusionary period was 12 months (22 states) followed by 24 months (10 states).
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Impact of State Regulation
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States, in their actions, can and do make very different decisions about how to regulate the individual health insurance market. These actions reflect different values, political climates, and expectations. They also are designed to achieve specific policy goals, such as expanding access, with most states having considered laws and/or regulations of guaranteed issue, guaranteed renewability, and rate reforms. However, achieving these goals often requires trade-offs. For example, establishing rating rules that allow high-risk, older individuals to get low-cost health insurance without exclusions can make health insurance affordable for this population, but increases the price that younger, healthier persons would otherwise pay in this market (New, 2005). When the pool of insured persons does not include the participation of younger individuals, their absence heightens the need for increasing premiums as health care use and costs rise among the existing pool of older persons.
A paper by the Heritage Foundation (New, 2005) examined several studies on insurance regulation and presented an analysis of state health plan premiums, comparing premiums to the number of mandates and the existence of several types of reforms in the states. The author concluded that while some of the variation in health insurance premiums could be due to regional differences in underlying health care costs, overall “state level regulations of heath insurance are correlated with higher premiums.” In terms of the impact state regulation has had on the market for individual health insurance, the research examined indicates that while access to coverage generally increases, affordability is still a major problem.
A study by the Commonwealth Fund (Turnbull and Kane, 2005) examined insurance markets in seven states with varying degrees of market reforms. Among its key findings was the determination that stricter regulation made an important difference by creating “individual health insurance markets where comprehensive coverage is available to all,” but with premiums more affordable for higher-risk people at the expense of less-affordable coverage for younger and healthier people. It also found that older and less healthy people faced a range of problems in less regulated states including higher rejection rates for applicants. Of five states in the study with relatively strict regulations, only three still maintain all of those in place at the time of the study; the other two states subsequently rolled back many of their reforms.
A similar study of eight states by Milliman (Wachenheim and Leida, 2007), that included several of the same states as the Turnbull and Kane analysis, found consistent results of decreasing individual insurance enrollment and increased premiums. An additional finding in the Milliman study, which concentrated on guaranteed issue and community rating reforms, was that a deteriorated market resulted after reforms were enacted, with insurance companies choosing to stop selling individual insurance.
The table in Appendix A - state mandates compiled by CAHI – includes a column of information that attempts to quantify the cost impact on premiums for each of the mandates listed. CAHI estimates that mandated benefits increase the cost of basic health coverage from less than 20 percent to more than 50 percent depending on the state and its mandates.
Several other studies conclude that the effect of regulation is small. While persons with higher expected expenses due to chronic health conditions living in unregulated states paid higher health policy premiums and were somewhat less likely to obtain coverage, the variation between premiums and risk is far from proportional (Pauly and Herring, 2007; Herring and Pauly, 2006). This is because in looking at regulated versus unregulated states, using guaranteed issue and community rating as measures of regulation, that there was considerable pooling of risk in unregulated states. They concluded that the effect of regulation was to produce a “slight increase in the proportion uninsured, as increases in low risk uninsured more than offset decreases in high risk uninsured.”
These studies are not inconsistent. Pauly and Herring do agree that requirements such as community rating and guaranteed issue do cause higher premiums for some insured and lower premiums for others, and lead to an increase in the total number of uninsured. However, they observe a higher degree of risk pooling in unregulated states that would otherwise be believed. Additionally, other studies looked at requirements beyond community rating and guaranteed issue to include coverage mandates that affected the amount of premiums paid by policyholders.
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