While our current employment-sponsored healthcare system has met the health insurance coverage needs of millions of Americans, well known challenges exist within the system. These challenges affect a large cross-section of society including the American business community, consumers, healthcare insurers and providers, and those in the public policy arena. Two groups, in particular, that have been especially disenfranchised in the current system include the uninsured and retirees. Payors generally, and employers especially, have been vigilant in their pursuit of strategies to conquer the often elusive objectives of cost control, access and quality and have had some notable successes. However, the convergence of a number of important factors is fueling renewed interest in uncovering new solutions to these well-known challenges. Chief among these factors are escalating medical costs, changing patient expectations, the backlash against managed care, the increasing burden of healthcare benefits administration and the threat of liability on employers.

The term "defined contribution" is being used widely today to describe one type of potential solution and is attracting increasing attention. These approaches - at their most basic level - entail an employer’s establishing a core contribution amount for healthcare benefits but go a great deal further than that. Perhaps more properly called patient-directed healthcare approaches, these represent an array of designs that include both commonly understood variations and emerging approaches that involve promising new elements and applications. Several of these approaches are possible under today’s legal and regulatory framework.

This Employer’s Guide to Patient-Directed Healthcare Benefits identifies a range of approaches intended to appeal to the broadest possible audience and range of objectives. The Guide endeavors to describe the many facets and relative merits of patient-directed healthcare approaches. It also offers employers who wish to implement these programs some practical "how to" advice and suggests to policymakers possible modifications to current laws and regulations that would encourage innovation and expansion in this area. It should be noted that there are a number of changes which are vital to the success of a transition to patient-directed approaches (i.e., evolution of decision-support toots, benefit administration processes, public confidence in quality information) that are not in the scope of this Guide.

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Concept Definition

The label "defined contribution", and simple definitions associated with it, have significant limitations in conveying the full range of possibilities associated with the concepts discussed in this Guide. As suggested previously, "patient-directed healthcare benefits" (PDHB) is an approach for providing healthcare benefits that combines a core contribution of funding by employers with increased choice and responsibility for employees and increased accountability for health plans and providers. Typically, an employer makes its core contribution toward either a "plan" (e.g., a health insurance plan, an HMO, etc.) or an "account" (e.g., a personal health account) or both, and then gives employees choices as to how the money will be spent.

Two breakthroughs in the recent evolution of PDHB warrant attention because they are keys for potential new models:

  • Greater flexibility than previously thought is permitted regarding how an employer’s core contribution can be used to overcome some of the significant limitations of healthcare flexible spending accounts (FSAs). Specifically, it is believed that employer-only dollars set aside for medical expenses can be accumulated from year to year (i.e., do not have a "use it or lose it" requirement). Moreover, it is believed these accounts can be used to purchase health insurance, and at the employer’s discretion, can be portable after employment ends (though there is not currently a cash option).
  • The emergence of web-enabled decision support tools and administrative services that make it easier for employers to provide more choices to employees, while possibly reducing their adminis-trative burden, and for employees to make informed decisions about healthcare coverage issues more independently.

PDHB constitutes an important shift to a more individually empowered system. Giving patients more control over their healthcare choices can provide an impetus for positive health system change - and can be politically palatable. With proper execution, these approaches also help address some of the most significant healthcare challenges a broad group of stakeholders face today. PDHB approaches open up a range of new possibilities for different types of employers to meet both their and their employees’ healthcare objectives as well as help correct undesirable aspects of the system at-large (e.g., the insulation of the patient from the actual cost of healthcare). Because these approaches do so without discarding what is working in the current system - including the present method of employment-sponsored financing -they constitute an incremental reform that appears to coincide well with our nation’s values and consumer expectations of employer-sponsored healthcare.

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Principal PDHB Expamles

Patient-Directed Healthcare Benefits is not a single point but a broad continuum of approaches with fungible components. The principal examples described herein fall along this continuum that moves from more employer-directed to increasingly patient-directed approaches (see Exhibit B on p. 19). The two ends of the continuum - a single plan offered by an employer to its employees and an employer’s providing only wages - are commonly cited today but are of little relevance to this discussion. The examples that are of greatest relevance all employ a plan, an account or both with-in an employed-sponsored healthcare benefit program.

These examples also vary widely along the continuum based on the following components:

  • Breadth of employee coverage choices
  • Patient’s stake in spending decisions
  • Flexibility of funding/financing options
  • Employer administrative stewardship
  • Continuity of coverage and care (see pp. 14-16 for a detailed explanation of these dimensions).

The degree to which an employer steps back from designing plans or "earmarking" funds can vary widely in these examples, as can the degree to which an employee can configure his or her personal healthcare approach. Most importantly, the ability to combine and "modulate" these features in different ways illustrates the wide-ranging opportunities to expand patient choice and discretion over the resources available to them for healthcare.

Outlined below are four principal PDHB examples - moving from least to most patient-directed - including:

These as well as several additional examples are described in considerably more detail in Section III of the Guide.

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Multi-Plan Option

The Multi-Option example, a strategy that is used currently by many large employers, offers employees a choice of health insurers, or a choice of plan designs (i.e., HMO, PPO, POS) offered by a single insurer, or both, with a fixed contribution toward the cost of the plan chosen. In other words, an employee can “buy up” if he or she desires a more expensive plan. In this example, the employer selects the health plan to be offered and sets the company contribution. The employee decides which plan best suits his or her needs and pays any difference in cost. Employers offering such plans set their contributions on any one of a number of uniform bases, such as a core dollar amount, a percentage of either average or low-est plan cost, or on some other basis. The employee’s cost varies depending on the plan chosen. Many employers use approaches like this one today, including the Federal Employees Health Benefit Program (FEHBP). There are no legal or regulatory barriers to implementing this form of PDHB today.

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Multi-Plan Option including “Supermarket” concept plus Health Account (Personal Health Account (PHA) and/or Flexible Spending Account (FSA)

The Supermarket plus PHA plus FSA example possesses two incremental changes from the previous example. First, a third party healthcare “supermarket” provides a more comprehensive menu of health insurance and plan design choices as well as key administrative services and possibly better prices as a result of requiring health plans to compete. Second, a versa-tile “account” or accounts are added to the offering. Key ben-efits of the account mechanism are the potentially desirable consequences resulting from making the patient a direct par-ticipant in making cost/benefit choices on a service-by-service basis, as well as providing a vehicle for individuals to achieve the continuity of care and security generated by the ability to save for their future health care needs. Retirees, in particular, stand to benefit greatly from this aspect.

One account component, the Section 125 Flexible Spending Account (FSA) is a common arrangement whereby employees (typically not employers, although possible) set aside pre-tax money to pay for anticipated healthcare expenses not covered by their primary plan. The second account component, the Personal Health Account (PHA), stems from a fresh interpreta-tion of the Internal Revenue Code that appears to overcome some of the significant limitations of FSAs. These limitations of FSAs are well known and include the “use-it-or-lose-it” provision (i.e., the inability for funds to accumulate from year to year), the inability to use the money to purchase insurance, and the inability for the accounts to be portable. Only employ-er funds can be used in this PHA type of account. While two conceptually separate accounts are required based on today’s legal regulatory framework to make the construct work, it would clearly be more practical and intuitive if a single account mechanism could possess all the proper attributes.

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High Deductible Plan plus Health Account (PHA and/or FSA)

The High Deductible Plan plus PHA plus FSA model is identical to the previous example with the exception that the menu of health plan choices is limited to a fairly small number of high-deductible plan designs (although an employer, as opposed to a supermarket, conceivably still can establish the menu). This example emphasizes employee responsibility by separating the insurance aspects of the healthcare coverage-from the tax-advantaged pre-payment components, thereby putting cost/benefit decisions around the latter directly in the control of employees. The high-deductible plan protects employees from the costs of expensive, catastrophic occurrences. Many such designs also cover the cost of “good medicine” (e.g., immunizations, screenings, routine physicals) to encourage their use. The analogue to this example in use today is the Medical Savings Account (MSA) enabled by the Health Insurance Portability and Accountability Act of 1996 (HIPAA) minus some of the MSA’s limitations.

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PHA plus FSA

The PHA plus FSA example is the most patient-directed approach presented here. This example removes the require-ment that an employee purchase insurance with the employer’s core contribution, although an employee can choose to do so. This example is not in place at this particular time, but has some unique potential applications. The primary advan-tage of this example is to lessen the burden for employers who do not currently offer a plan to employees because they cannot afford the cost of the least costly plan available. A future enhancement to this approach - possible only with regulatory clarification or change - could be to remove the non-intuitive “firewall” that regulatory language has erected between FSA (usually employee) and PHA (employer) dollars.

As suggested, a few of the examples discussed above capitalize on interpretations of the current tax and regulatory framework that may currently “push the envelope”. While a growing swell of companies and their clients are moving forward with PDHB approaches, removing obstacles and clarifying existing policies would very likely add to the momentum that is building.

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Potential Tax and Regulator Modifications

There are a number of specific areas in today’s tax and regulatory framework that act as barriers to a healthcare system seeking to evolve beyond traditional models. The following is a discussion of some of these obstacles that could be removed or clarified to overcome these barriers and to encourage innovation. More information on this topic can be found in the Appendix.

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Taxability and Deductibility Changes

  • Repeal “Use-It-Or-Lose It” Rules
    Employers today may establish flexible spending accounts for their employees under Section 125 of the Internal Revenue Code. FSAs are accounts typically funded on a pre-tax basis through employee salary reductions. Under current law, any amounts in the account unused as of the end of the year must be forfeited. This forfeiture requirement, frequently referred to as the “use it or lose it” rule, keeps FSA amounts from being carried over to subsequent years and provides strong incentives to individuals to consume healthcare by the end of the year (PHAs do not have this disadvantage when designed within certain specific guide-lines). Repeal or modification of the “use it or lose it” rule could encourage individuals to save for subsequent years and remove the incentive for individuals to spend money in their accounts simply to avoid the loss. Allowing “build up” and “roll over” would furthermore enable election of high-deductible, lower-premium plans.
  • Permit Purchase of Insurance Through FSAs
    Under Section 125, individuals are restricted to using FSA funds for only certain types of expenses, such as medical expenses incurred by the employee. Tax rules prohibit indi-viduals from using FSA funds to purchase health insurance. Modifying those rules could facilitate greater choice for consumers with respect to insurance and medical services and open up new avenues for employers who can’t afford the entry cost of a health insurance policy to contribute nonetheless to an employee’s medical or insurance expenses.
  • Clarify Rollover Treatment
    FSA regulations have generally been read by many to inhibit the ability to roll over employer-only healthcare accounts from year to year. Notwithstanding unofficial statements by the IRS, official IRS guidance is needed to clarify whether “employer-only” healthcare accounts can be rolled over from year to year. Tax rules should be clarified to remove the “firewall” between both employee and employer monies and allow both types to be rolled over for future periods. Such clarification would be of special value to low-wage workers.
  • Clarify Flexibility of Fund Uses For PHAs
    Currently a no-ruling area by the IRS, the scope of an individual’s flexibility in, and tax-treatment of, using funds accumulated in a healthcare account need clarification. For example, under current MSA rules, an individual may take a distribution of accumulated amounts as cash instead of as healthcare benefits. Clarification would likely encourage individual savings for healthcare.
  • Allow for Tax-Efficient Portability of PHAs
    Today, there is no tax-efficient mechanism for an employee to take a Personal Health Account with him or her upon termination of employment. This presents an obstacle to designing an account under which unused amounts are available for healthcare reimbursements regardless of employment with a specific employer. Such a mechanism would, for example, allow for funding of COBRA benefits or other bridge policies for the newly uninsured or early retirees.

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Regulatory Changes

Relax Certain Requirements around AHPs/HealthMarts While Ensuring Necessary Consumer Protections Group purchasing arrangements - especially those classified as Multiple-Employer Welfare Arrangements (MEWAs) - raise federal ERISA and state insurance regulatory issues under current law. Federal reforms could address many of these issues, such as by allowing trade, industry, professional associations and emerging benefit “supermarkets” to offer coverage exempt from state-mandated benefits or small employers to seek coverage through nonprofit organizations, such as HealthMarts. Such group purchasing entities could be structured to allow greater flexibility and choice while ensuring a federal or state floor of protection, such as insurance reserve requirements and related protections without stifling positive innovations.

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Key Implementation Considerations for Employers

The form of PDHB that will appeal to employers will vary almost as widely as employers do. On one end of the spectrum, are employers considering offering healthcare benefits for the very first time. On the other end are large, innovative employers already offering an array of varied healthcare benefit options and health plans to a geographically diverse employee and retiree population.

Employers of all types may want to thoroughly examine Section IV in this Guide, which includes specific implementation steps, several examples of implementation and other important considerations. While many of the key themes here mirror those involved with implementing any new healthcare program (e.g., setting objectives and strategy; analyzing cost, access, quality, and administration; vendor selection; etc.), there are several areas under PDHB that warrant additional attention. These special issues include establishing a thoughtful core contribution strategy, being especially mindful of the impact of adverse selection, and considering the very important communication, employee education, and transition issues surrounding the introduction of a program of this type.

Employers will want to seek counsel from their business advisors, including their consultants, brokers and attorneys about the approaches most appropriate for their particular circumstances, and for implementation assistance. Local and national Chambers of Commerce can also point employers in the right direction.

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The evolution of compelling patient-directed healthcare approaches is an important development that promises to help address some of our country’s most vexing health insur-ance challenges. There are an array of different forms that patient-directed healthcare models can take, each with different attributes and relative merits. Employers seeking innovative solutions to today’s healthcare challenges should consider the role patient-directed approaches could play in their employee healthcare offering. Policymakers inter-ested in opening up new avenues for reducing the ranks of the un- and under-insured, as well as addressing other well-known system shortcomings, might also explore the possibilities afforded by these concepts. Considering at once the rising cost of healthcare, the current sentiments of employers and patients, the swelling ranks of those disenfranchised by the system, and the availability of enabling technologies that expand our notion of what is possible, the timing may be exceptionally ripe for patient-directed approaches to be further cultivated.

For the full text of the "Guide" in PDF format click here.

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