Until full implementation of health reform, insurers can consider the health and age of a small firm’s employees before deciding what to charge in premiums. Based on their expected health care costs, younger and healthier firms often pay less than older and less healthy firms.

A key provision of the ACA is to remove this ability of insurers to price-discriminate, instead requiring cost and risk sharing across firms in the small-group market. This change will produce some winners and losers—in healthy years firms may pay somewhat more while in less healthy years firms will save.

After the ACA is fully implemented in 2014, in their healthier years, small firms will have an increased incentive to leave the small-group insurance pools and join the now very small group of small self-insuring firms. Self-insurance, which is excluded from many of the ACA’s market reforms, enables firms to cover their own employees’ health costs while purchasing “stop-loss” coverage to protect themselves from catastrophically expensive claims.

As I testified to the U.S. House of Representatives yesterday, an increase in the number of small firms choosing to self-insure poses two serious risks.

First, self-insurance can put small firms in financially vulnerable positions. Stop-loss coverage is not regulated like insurance, meaning that—among other limitations—policies can be denied outright to less healthy firms, and the policies are not required to cover specific benefits. Further, stop-loss policies may not pay claims until after the first quarter of the following year, leaving small, financially vulnerable firms on the hook for big initial payouts. What’s more, firms may be left entirely liable for very large claims incurred in a year covered by a stop-loss policy but filed in the next year, after that policy ended.

The second serious risk is that a growth in the number of self-insuring firms could remove many young, healthy people from the small-business group insurance pool. A primary goal of the ACA is to bring more people into a unified risk pool, lowering overall average risk, making premiums more stable and predictable, and lowering premiums and increasing access to coverage for less healthy groups. The ACA’s exclusion of self-insured plans from many of its market reforms could incentivize healthy small groups to move out of fully insured products, seriously curtailing that intended effect, and potentially raising the health care costs of millions of people.

Policy recommendations

In my testimony, I offered lawmakers several recommendations to address these two risks.

First, policymakers could set the attachment point (i.e., the deductible) for stop-loss coverage at a minimum of $60,000 per insured individual, the amount recommended recently by an actuarial subgroup of the National Association of Insurance Commissioners (NAIC). Analysis with the Urban Institute’s sophisticated microsimulation model, HIPSM, suggests that this high threshold would expose small employers to significant financial risk and effectively dissuade the vast majority from self-insuring.

The analysis also suggests that if the NAIC parameters were implemented in a uniform manner nationally, compared with a scenario with no stop-loss regulations, the fully insured small-group insurance market would be about 1.5 times as large, and premiums in that market would be 20-25 percent lower.

Alternatively, the federal government could prohibit the sale of stop-loss insurance to small employers (as some states already do) or require its sale to small employers be regulated by small-group rules.

At a very minimum, the federal government can develop and implement an effective plan for closely monitoring increases in small firm self-insurance nationally and by state. Given the magnitude of other ACA implementation tasks and their associated time pressures, states are not inclined to do so on their own. That means that, in the absence of a concerted federal effort, states will be unprepared to intervene as warning signs increase, which is when major market disruptions could more easily be avoided.

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