GHDP 128-21 - Pricing Medicare Supplement Benefit

Question 1

Pricing Methodologies and Profit Studies

1. Rating Types
2. NAIC Model Regulation

Answer 1

1. Rating types:
a. Issue Age - the rate an individual pay will be based on his/her age at first issue

b. Attained Age - the rate will be based on individual’s current age, regardless of how long coverage has been inforce

c. Community-Rated - all participants will pay the same rate and experience the same rate increase

Selection of pricing methodology will need to consider the regulatory requirements and competitive considerations. Insurers will also need to consider the member experience and the extent of underwriting

2. Medicare Supplement premiums generally increase on an annual basis due to provider payment schedules generally increasing annually and utilization changes over time
a. Sometimes forces may be offset by demographic or coverage changes (e.g. recently Baby Boomers entering the market made the Medicare group younger; or Medicare increased coverage of preventive services due to Affordable Care Act)

3. NAIC Model Regulation requires rates and supporting documentation to be filed and approved annually

4. Three different loss ratios that must be met as part of annual filing:
(1) Accumulated value of past plus present value of future claims divided by accumulated value of past plus present value of future premiums (i.e. Total Claims / Total Premiums)

(2) Present value of future claims divided by present value of future premiums (i.e. Future Claims / Future Premiums)

(3) Expected third year loss ratio
- Applicable standard loss ratio to be met in each is the greater of the original expected loss ratio that was filed or the statutory minimum
- Minimum loss ratio for individual = 65% and minimum loss ratio for group = 75%
▪ [Note – these actual loss ratios of 65% and 75% are alluded to but not specifically called out in the sections of this chapter on the syllabus, but I think you should know them]

5. Compliance Manual lays out a number of items to be provided in a filing:
a. Description of policy benefits
b. Description of marketing, underwriting, issue age limits, etc,
c. Historical experience (by duration)
d. Projected future experience
e. Actuarial certification

6. Methods to project future experience are similar to any health insurance rating situation – projecting the current loss ratio forward to midpoint of next year being projected, using medical and utilization trend, along with projected aging and underwriting wear-off. Usually don’t assume trend beyond the next year because it is only the next year’s rate increase that is being determined

7. More elaborate method to project future experience would be to use an asset share type model, with explicit claim costs for each age, duration, benefit plan, etc. This type of model provides greater accuracy, as changes in distributions over time can be reflected

8. States vary widely in the amount of review they do of Medicare Supplement rate increase filings. E.g. Florida, Missouri and Iowa require specific formats for data or for justification.

9. At time of annual filing, an insurer may change its rating structure or methodology, and this change must be done within the existing policy form. An actuarial memorandum must be submitted describing the manner in which the revised rates differ and future rate increases are the same for “old” and “new” rates. Finally, new rates must be actuarially equivalent to old rates (but no equivalence standard is defined)

10. Issue Age / Attained Rates
a. Appropriate age bands need to be determined. Frequently issued in 5 year age bands (65-69, 70-74) and then older ages are grouped together (80-99 or 85-99). Also common to have specific rates for age 65 or age 65 -66, reflecting the impact of “guaranteed issue” at age 65

b. Example – Issue Age: age 80, male, non-smoker
▪ Rates are determined so ratio of PV of expected claims is equal to 65% of PV of projected premium (expected lifetime loss ratio of 65%)
▪ Example used an iterative approach to determine the premium to reach the desired lifetime loss ratio, based on a large table with the following calculation columns:
* Policy Year
* Attained Age
* Survivors
* Mortality Rate
* Lapse Rate
* Unadjusted Claim Cost
* Sex Factor Adjustment
* Smoker/Non-Smoker Adjustment
* Adjusted Claim Cost
* Incurred Claims
* Claim Reserve
* Investment Income
* Premium Income
* Commissions
* Administrative Expenses
* PV of Incurred Claims
* PV of Premium
* Loss Ratio
* Gain from Operations
* PV of Profits
▪ [See study note for detailed calculation]
▪ This example produces the desired lifetime loss ratio of 65: Note that you could also set the target premium rate to achieve a desired profit target

11. Profit Studies and Reserving
a. Actual to expected analysis should be performed on a level detailed enough to evaluate company’s past experience. Purpose of this study is to determine any necessary adjustments to claims costs or loss ratios to create a “best estimate” starting point for projections

b. Appropriate reserves must be established to accurately measure experience. Claim reserves are required to estimate the liability for claims incurred but not yet paid

c. Active life reserves are mandatory if policy form is noncancellable or guaranteed renewable and there is pre-funding in the premiums (Under current rules, all standard Medicare Supplement policies are guaranteed renewable). If approval can’t be obtained for necessary rate increases on active life reserves, deficiency reserves may need to be established

d. Loss ratios or per member per month costs should be calculated and reviewed for trend in order to test premium adequacy and the need for deficiency reserves

e. Amount of Medicare premium, claims and reserves enter into the risk-based capital calculation to determine capital requirements, and cost of capital should be a consideration in determining premium requirements

Question 2

Pricing Assumptions and Data Sources

1. Morbidity
2. Mortality
3. Persistency
4. Investment Earnings
5. Selection Factors / Underwriting
6. Age/Sex
7. Tobacco
8. Area Factors
9. Expenses and Taxes

Answer 2

1. Morbidity
   - Primary source for developing expected claims costs is Medicare Program Statistics from CMS. Additional info may come from SOA or NAIC
   - Important to trend the claim costs forward to the timeframe which the rates are intended to
   cover
2. Mortality
   - Not a significant assumption, and usually included with the persistency assumption as a single decrement. If it is a stand alone assumption, may use an ultimate table or select and ultimate table
3. Persistency
   - Chosen based on company’s experience for similar products and can be ultimate table or select and ultimate
4. Investment Earnings
   - Can be credited to claim reserve, active life reserves, cash flow, developed surplus and risk- based capital requirements. Medicare Supplement policies are not especially sensitive to cash flow assumptions
5. Selection Factors / Underwriting
   - Most companies use limited underwriting with yes/no questions for standard issues.
   Applicants must satisfy underwriting requirements, except during “open enrollment period”. Most purchasing insurance at age 65 or under qualify for open enrollment requirements and are not subject to underwriting (as a result, these claim costs may exhibit anti-selection)
6. Age and Sex Distributions
   - Most Medicare Supplement policies are sold when the prospect first become eligible for Medicare. Assumptions should be based on own experience when possible or a reasonable basis
7. Smoker / Non-Smoker Considerations
   - If rates will vary by tobacco use, the actuary must adjust the claims costs as well as the distribution of insured population that will be smokers
8. Area Factors
   - Claims costs vary be geographic area
9. Expenses and Taxes
   - Need to consider the following expense categories:
   ▪ Acquisition
   ▪ Issue and Underwriting
   ▪ Maintenance
   ▪ Premium Tax
   ▪ Federal Income Tax
   ▪ Other Expenses
   o All expenses to be incurred by the company should be included in both rate setting and in performing profit studies
10. Other Considerations
    a. Most Medicare Supplement policies are paid monthly, but a small percentage are paid annually, semi-annually or quarterly, so actuary must recognize that mode of premium
    payment can affect persistency and cash flow.

b. Many companies charge a policy fee in addition to the premium, and this can be used to cover maintenance expenses

c. Actuary must prepare an actuarial memorandum and certify that the assumptions are reasonable and rates have been calculated using generally accepted actuarial principles