SN103: Health Reserves

Question 1

Introduction

Answer 1

1. Earnings reports for regulatory, investor/owner, internal mangement
a. Assumptions, calculations, procedures often vary
b. Can impact design of insurance products

2. Development of reserves function of
a. Available data and systems
b. Materiality of assumptions
c. Regulatory constraints

3. Liabilities vs. Reserves
a. Liabilities relate to claim events that have already occurred but have not been paid
b. Reserves relate to events that have not already occurred

4. Balance sheet and income statement
a. Reserving matches revenue to expense, reflecting actual experience under insurance contract

b. Accounting conventions
i. Paid transactions
1. General ledger accounts
2. Income statement starts with cash transactions for the period

ii. Balance Sheet
1. Assets and liabilities as of point in time
2. Beginning and ending dates for the income statement period
3. Includes actuarial reserves

iii. Income is combination of cash entries and change in Balance Sheet entries between beginning and end points

Question 2

Definitions and Data Issues

Answer 2

1. Active Life Reserves - combination of contract reserves and unearned premium reserves

2. Contract reserves - portion of premium in contract’s early duration is intentionally designed to help pay for higher claims in later durations

3. GAAP reserves
a. Required for publicly traded companies
b. Used by mutuals and private companies as alternative measure
c. Realistic assumptions
d. Explicit methodology for revenue matching of both expenses and claim costs

4. Premium deficiency reserves
a. Future premiums are not sufficient to cover claims and expenses
b. Estimated using gross premium valuation

5. Provider liabilities
a. Managed care environments
b. Insuring entity and provider have contractual arrangement in which payments are not related to a single claim event

6. Unearned Premium Reserve
a. Premiums that have been collected and entered in ledger, but allocated to a period after the valuation date
b. UPR and Advanced premiums are reserves, Due premiums are an asset

Question 3

Reporting Formats and Requirements

Answer 3

1. Standards
   a. Regulation assures audience understands and can rely on repoted results
   b. Actuary must observe ASOPs and Code of Conduct of AAA
   c. Practice notes of AAA help actuary stay current
   d. Regulatory and tax reporting follow regulations of NAIC
   e. GAAP is global standard measure of financial results
   f. American Institute of Certified Public Accountants publishes audit guidance
2. Follow-up studies moved to claim reserve outline
3. Reporting applications moved to claim reserve outline

Question 4

Active Life Reserves

1. Unearned Premium Reserves
2. Contract Reserves

Answer 4

1. General
a. Still maintain active life reserves on disabled policyholders
b. Two types of active life reserves are contract reserves and unearned premium reserves
c. May compute as:
i. Unearned premium reserves plus mid-terminal contract reserve, or
ii. Mean reserve reduced by the associated deferred premium
iii. Need to hold a minimum reserve greater than the gross unearned premium

2. Unearned Premium Reserves
a. Portion of the modal premium designed to cover a period of time beyond the valuation date
b. Monthly modal premiums have no unearned premium reserve
c. Computing
i. Direct enumeration as an output from the valuation or premium accounting system
ii. Approximate method holding 50% of the last premium collected
d. Carriers hold a reserve at least as large as the gross unearned premium

3. Contract Reserve
a. Portion of premiums must be retained to cover claims costs that exceed net premiums in later durations

b. Actuary should look at the rating approach to determine whether contract reserves are required
i. Issue age policies require contract reserves if morbidity increases with age
ii. Be realistic in assessment of the ability to raise rates
iii. Policies with some ability to adjust rates for inflation may still require contract reserves - May prefund a portion of the cost increase created by wear-off of underwriting

c. Common for individual DI, LTC and medical reimbursement plans sold on issue age basis

d. Health reserves differ from their life counterparts regarding:
i. Standardization of assumptions
ii. Benefit cost inflation
iii. Computation of reserves

e. Standardization of Assumptions
i. Less defined for health insurance than life policies

ii. Direction in the basis of calculation, interest assumptions, and termination rates

iii. Morbidity less standardized for health than life
1. Subject to dramatic changes in cost and incidence by age
2. Variety of coverage, policy forms, underwriting make it difficult to apply large-scale morbidity studies

iv. Medicare Supplement, long term disability, and major medical do not have widely accepted morbidity standards

v. Standards exist for cancer, STD, and hospital indemnity
1. Adjust for inflation, benefit changes, other considerations

vi. Requirement is that the table used reflect an anticipated pattern of incurred claims cost

vii. Many plans use the policy pricing assumptions
1. Include margin for conservatism above the pricing assumptions

f. Inflation
i. Approaches to adjust
1. Each year factors that reflect the inflationary increase added to the prior contract reserve factors
2. Each year initial set of contract reserve factors multiplied by cumulative cost increase
3. Expected inflationary cost increases and related premium rate increases included in the initially developed reserve factors - adjust if actual inflation diverges

g. Computation
i. Wide variety of health coverages

ii. Simplify valuation of liabilities by grouping similar plans

iii. Health reserves computed using less sophisticated expense allowances than found in life policies
1. 2 years or 1 year preliminary term methods are most common
2. GAAP creates a deferred acquisition cost asset

iv. Regulatory uses conservative valuation assumptions
1. Discount rate conservative compared to interest rates
2. Terminations conservative compared to mortality and lapses

v. GAAP assumptions more realistic, but more conservative than pricing assumptions

Question 5

Premium Deficiency Reserves

Answer 5

1. Cover claims experience outcomes not intended at the time policy was issued

2. Sum of
a. PV of future claim costs
b. PV future expenses
c. Minus PV future premiums
d. Minus current contract reserve
e. Minus current claim reserve
f. Minus current premium reserves

3. Recognition becomes critical if
a. Aggregate of all reserves fails gross premium valuation
b. Surplus level of the carrier becomes impaired

4. Reserve should be reduced in subsequent years to offset the earnings deficiencies based on:
a. A timeline
b. An index such as earned premiums or membership

5. Documentation should be maintained
a. Basis on release of reserve
b. Characteristics of policies included (“grouping of polciies”)
c. Time period
d. Assumptions

6. Grouping of policies
a. Subset of policies create deficiency
b. Offset by other policies within the grouping
c. Aggregating policies consistent with the way they are marketed, rated, serviced, internally measured
d. Grouping large enough to be material
e. Examples
i. Medical - Individual, small group, large group
ii. Medicare supplement
iii. HMO - Commercial, medicare, medicaid
iv. Dental
v. Vision

7. Period for calculations
a. Run from the valuation date to the date on which deficiency no longer exists
i. Cancellation of groups may end the deficiencies. Cancellation must be realistics
ii. Rating actions may eliminate deficiency
iii. Might extend indefinitely

8. Assumptions and conservatism
a. Rate increase
i. Reasonable level likely to be implemented under market and regulatory constraints
ii. Increasing revenue may induce additional lapses

b. Enrollment
i. Realistic enrollment assumptions
ii. New entrants cannot be projected to improve morbidity unless experience justifies the assumption
iii. Reflect durational wear-off of underwriting
iv. Lapses reflect anti-selection

c. Expenses
i. Should include expenses associated with the policy grouping
ii. May exclude overhead of other lines of business can cover it

d. Claim trend - claims cost inflation should be included

e. Interest rates - should be used to discount present value of deficiencies

f. Taxes - calculated on an after-tax basis

g. Provider arrangements
i. Provider settlements should not be used to offset claims costs
ii. Capitations included at the level currently negotiated
iii. If there is a possibility that capitated providers become insolvent, projections recognize that services would be higher than capitations they replace

h. Conservatism - realistic assumptions should be used

Question 6

Outcome-based Contractual Reserves

1. Employer Baed Contractual Liabilities
2. Minimum Loss Ratio
3. Provider Liabilities

Answer 6

1. Employer based contractual liabilities
a. Designed to minimize risk charges to employers by sharing the risk of emerging claims cost experience

b. Develop a liability for a refund of premium to the employer in the event of favorable claims experience
i. Contractual claims stabilization reserves (CSR) - favorable experience creates surplus that is retained for the employer
(1) Uses
- Offset to future losses
- Reduce future rate increases
- Paid out to the employer in the form of rate credits

(2) Prior period CSR + premiums during year + interest credits - claims incurred - risk and retention charge

(3) Maintain a minimum CSR level before any excess is refunded

(4) If account terminates, pay out entire CSR to employer after all claims run-out

(5) Between account renewals, actuary estimates CSR balance

2. Minimum Loss Ratios (MLR)
a. ACA MLR
i. Numerator: Incurred claims less gross reinsurance, less risk adjustment recoveries, plus allowable quality improvement expenses
ii. Denominator: Earned premium less state and federal taxes and fees, less federal income tax
b. There may be an accrual (a.k.a reserve) for amounts to be refunded to get the financial results in line with the MLR

3. Provider liabilities
a. Include broader risk-sharing mechanisms between carriers and providers

b. Nature of provider liabilities
i. Provider liability will be the basis for payments to a provider after the valuation date under some contract
ii. Not directly related to the reimbursement of a specific claim

c. Examples
i. Capitation payments owed
ii. Amounts withheld from provider which may later become payable based on experience
iii. Bonsuses or contractual incentive payments
iv. Settlements under stop-loss contracts
v. Liabilities to recognize provider insolvency

d. Basis of calculation
i. In aggregate by grouping contracts on a seriatim basis
ii. May be performed in detail on a periodic basis
iii. Ongoing accounting entries reconciled as a settlement process
iv. In general, tracking of experience against targets and then applying an incentive formula
v. Follow-up studies will be needed to test adequacy of estimates

Question 7

Special Considerations and Emerging Issues

1. MCO Reporting Formats
2. IBNR Calculation
3. Reimbursement Arrangements
4. Calculation of Provider Liabilities
5. Reporting Processes
6. Alternative Approach to liability estimates
7. Liabilities stemming from ACA
8. Pharmacy-related liabilities

Answer 7

1. MCO Reporting Formats
a. Vary from one jurisdiction to the next
i. Regulators have begun to use a common reporting format

b. MCO operations require more intensive tracking of the delivery of services by type of providers

c. Reserves - breakdown of IBNR liabilities into inpatient, physician, referral, and medical

d. Medical expense
i. Medical payments broken out into hospital, physician, other
ii. Referral split out to track proportion of services being provided outside the MCO panel
iii. Physician expenses may include capitation, FFS, salaries for staff

e. Liabilities
i. Incentive and withhold provisions
ii. Typically included in category of claims payable

2. IBNR calculation
a. Traditional Completion Factors

b. Helpful MCO aspects
i. Fee schedules or per incident contracts provide additional knowledge of unpaid claims costs
ii. Precertification, referral tracking systems, and provider specific utilization feedback

c. Claims and trends
i. For less credible recent months, possible to improve estimated PMPM costs
(1) Utilization reports help predict changes in claims trend
(2) Changes in provider reimbursement help anticipate changes in PMPM costs for those services
(3) Distortions due to catastrophic claims should be documented using the utilization data

ii. The information above also helps rationalize incurred claim experience

d. ICOS and IBNR
i. Separate set of processing lags, PMPM costs in incurred claim estimates for OON/ alternative network claims
(1) MCO claims complete quickly due to contractual benefits and tight provider network
(2) Unpaid liability as much as 50% lower than a traditional plan
(3) Out of network claims are more like traditional plans
(4) Network reserve estimated more easily than traditional plans with longer lags and more diverse provider populations

ii. Adjust the estiamtee process as MCO changes to reduced capitation and broader access

e. Use of authorizations
i. Prior authorization information on approved hospital inpatient stays, outpatient procedures, and specialty physician referrals

ii. Combines available authorization data with more traditional completion methodology

iii. Authorization data better estimates of near-term emerging costs than either the trended PMPM or loss ratio approaches

iv. Actuary should review accuracy of authorization logs

v. Developing average cost/service adds considerable uncertainty

vi. Method
(1) Start with hospital days authorized by incurred month
(2) Divide by number < 1 representing completeness to get estimated inucrred days
a. Services authorized increase due to appeals, poor data, or follow-up notifications
b. Services will be rendered without prior authorization
(3) Calculate cost per day using:
a. Negotiated costs per day and trend to future service dates
b. Cost estimates developed from more traditional lag methods
c. Blend cost estimates using credibility or other method
(4) Incurred claims are services anticipated times cost per service
(5) Reserve is incurred claims less known paid claims

3. Reimbursement Arrangements
a. Discounted Fee for Service
- linked to specific claim event
- Reimbursement different than provider’s normal billed charges
- Examples: straight percentages of charges, fee schedules, per casae maximum, per diems on hospitals

b. Capitation
- Paid to provider for each health plan member assigned to that provider
- Covers all contracted services to be rendered that month
- Fixed dollar amount or a percent of premium

c. Withholds
- Some percentage of the contracted premium may be withheld from immediate payment
- If the services fall below budget, then withhold returned to the providers

d. Bundled payment
- All services related to a bundle are paid in aggregate, leaving the MCO to sort out payments to different providers

e. Incentive payments
- Payments to providers who exceed performance targets related to:
(1) Cost of services,
(2) Utilization levels,
(3) Immunization levels,
(4) Prevention programs

f. None-of-the-above
- If the MCO is an ACO, the reimbursement would be more like a carrier than a provider

4. Calculation of provider liabilities
a. Usually included in claims liabilities

b. Risk based payment
i. Based on a target cost per covered member or targeted loss ratio
ii. Liabilities based on projected difference between experienced versus targeted costs times volume of members or premium. (target - incurred claims) * volume
iii. Targets may or may not be based on the provider in question
iv. Outcomes against targets is normally based on incurred claism requiring reserve for unpaid claims liability
v. Provider settlements are several months after contract period to minimize the impact of incurred estimates
vi. Stop loss or other carve out provisions must be considered in liability estimate

c. Bonus or incentive contracts
i. Bonus or incentive payments for goals such as hospital days/1000
ii. Estiamtes based on utilization studies

d. Stop loss provisions
i. Providers limit exposure to large claims by purchasing stop-loss coverage from MCO
ii. An offset to the provider liability and then included in carrier claims reserve

e. Margin and assumptions
i. Provision for adverse deviation should be included in provider liabilities
ii. Goal sufficiency of the estimates
iii. Increasing the claims liability in the experienced cost will reduce anticipated payout for a risk sharing arrangement
iv. Consistency between best estimates for IBNR and provider liabilities
v. Use pricing assumptions or historical loss ratios until mature data available

5. Reporting Processes
a. MCO operations add considerations to Income Statement and Balance Sheet

b. Claims expense entries need to include provider capitation payments

c. Incentive contracts create liabilities which are used to adjust claims expense

d. Withhold arrangements directly integrated into daily operations
i. Include in monthly accounting transactions

e. Incentive accounting not as directly incorporated as withholds

f. Common to maintain several risk funds

g. Monthly accounting is needed to track complex incentive/withhold arrangements

i. Create appropriate earnings by matching fully incurred costs against revenue
ii. More conservative would book the entire withhold as a liability until it becomes certain it will not be paid
iii. Final accounting makes adjustments for any data errors, reduces claims for internal stop loss arrangements, and accounts for fully incurred claims

6. Alternative approaches to liability estimates
a. Multiple claims triangles
i. An additional claim triangle accumulates claims reported by service date
ii. Allows more direct observation of the changes in processing speed

b. Other kinds of lag triangles
i. Bucket the payments into weekly cells, then apply the traditional development method
ii. Eliminates issues of “five Monday months”

c. Time series and other statistical projections
i. Advantage is that it is stochastic, allowing the results to be explainable in statistical terms
ii. Projections of PMPM can be applied in lag-based blended projection techniques, or ignoring the lag method altogether. Can also be applied in creating lag factors

7. Liabilities stemming from the ACA
a. ACA reinsurance and ACA risk corridors were termporary through 2016

b. ACA risk adjustment
i. Each carrier in the individual or small group market passes data through a CMS/HHS algorithm generating a risk score
ii. If an insurers aggregate risk score is lower than average, they will owe a transfer payment (liability) and vice versa
iii. The challenge for the actuary is determining how their experience will compare to the market

c. Cost share reduction subsidy
i. The carrier will be paying amounts for low income members, but it will eventually get a settlement from CMS
ii. The actuary must make an estimate of this cost sharing subsidy

d. The carrier will not have an accurate estimate of their earnings or MLR without making accruals for these items

8. Pharmacy-related liabilities
a. Pharmacy systems and PBMs
i. Most pharmacy drugs are provided through point-of-sale adjudication managed by PBMs
ii. IBNR is virtually non-existent. The liability is based on the arrangement between the carrier and the PBM
iii. Most PBM deals with carriers offer rebates, usually paid only after the plan year has ended. The carrier should be reflecting an estimate of this receivable during the plan year

b. Medicare Part D
i. IBNR is relatively straight forward, since more of the coverage is provided by PBMs
ii. Reinsurance: Federal government 95% reinsurance coverage for catastopic claims should be projected using emerging claims payment data
iii. Low income cost sharing subsidy: the carrier must estimate the amount to be recovered, since settlement from Part D is on a delayed timing basis
iv. Risk adjustment: the actuary must accrue an estimate of the risk adjustment revenue which will ultimately be received