Medical Loss Ratio Formulas

A contributor to one of my online communities, Scott Haas, wrote this to the group the other day in the context of what happens behind the scenes in health insurance. His note primarily concerns the Medical Loss Ratio formula and the way it was changed by the Affordable Care Act — and the role of regulators.

“Health insurers collect premiums from policyholders and use these funds to pay for enrollees’ health care claims, as well as administer coverage, market products, and earn profits for investors,” The Kaiser Family Foundation wrote in describing the MLR. “The Medical Loss Ratio provision of the ACA requires most insurance companies that cover individuals and small businesses to spend at least 80% of their premium income on health care claims and quality improvement, leaving the remaining 20% for administration, marketing, and profit. The MLR threshold is higher for large group plans, which must spend at least 85 percent of premium dollars on health care and quality improvement.”

I asked if I could post his remarks, and he said yes – so here go, with some editing.


Senior vice president of USI Insurance Services, Portland, Or.

A couple of simple observations:

Prior to the Affordable Care Act, most carrier-pooled insurance product (individual and small group) expense loads were well below the 25% and 20% allowances. Most were at or below 10%.

The Affordable Care Act instituted a Medical Loss Ratio (MLR) that is defined as the amount of premiums paid out as medical claims. Under the ACA, that MLR requires health insurance issuers in the individual, and small group markets to spend 80% of their premium income on medical care and health care quality improvement, and large group market to spend at least 85%. That leaves the remaining 20% or 15% for administration, marketing, and profit.

This allows the carriers to load up their products with program expenses that, for the most part, have provided little to no value to the patient.

You can see by the following formula, the ACA expanded what was otherwise a very simple formula that carrier actuaries were able to include within the overall pool cost projections from one rating period to another. We have discussed the perverse incentive the MLR provision has had on the cost of health insurance, as the carriers no longer have any incentive to limit or reduce the cost basis charged by providers and health systems.

Medical Loss Ratio Formulas


· Each state’s Department of Insurance evaluates carrier renewal actions for their fully insured products based on actuarial rate adequacy, inclusion of policy form requirements and benefit mandates along with various “checklist” items.

State rate review process and key factors

What these departments do not do is evaluate or validate the management programs that are loaded into the products themselves under the category of Quality Improvement Expenses.

In addition, these value-added programs are not evaluated in regard to what vendor is providing the programs, at what cost and under what potential revenue-sharing arrangements. For example:

Health Insurance Carrier (for-profit or not-for-profit) creates subsidiary company (brand) through which the subsidiary company creates and sells products or services to the carrier.

The cost of the subsidiary company’s products and services becomes additional expense within the fully insured product that the Department of Insurance reviews and approves, as long as the aggregate expense load is below the statutory limits.

— Carrier has shared savings programs embedded in their policies that charge as much of 35% to 40% of savings on the recovery of claims that they paid in error to begin with. The vendor that pursues the recovery of said shared savings just happens to be their wholly owned subsidiary.

— Because this type of program is based on a percentage of savings and is typically accounted for as a claim cost, not an expense, the carrier/subsidiary reaps additional profit that is not accounted for against the MLR calculation. (We have recently observed these programs generating revenue to the carrier that makes the actual “per employee per month” administrative fee seem minuscule.)

Subsidiary company reaps huge profits from the products and services they provide, which bolsters the parent organization’s market value that fuels their ability to purchase other organizations, such as pharmacy benefit managers, independent third-party administrators, provider groups, ancillary service providers, etc. on the backs of the premiums and profitability of their organizations.

Market concentrations of the carriers begins to create oligopoly structures that begin to dominate the health insurance landscape

High-level executives are paid multiple millions in compensation each year.

And, health insurance premiums continue to rise at alarming rates with continual out-of-pocket cost shifting to patients, who can no longer afford the cost of the product, let alone the risk of becoming ill, not being able to afford to pay the out-of-pocket exposure and the health systems then sending them to collections and bankrupting them.

Until and unless Departments of Insurance and/or perhaps state Attorneys General begin to understand all of this and actually begin defending the citizens they are charged to serve will we maybe begin to change the course of this insanity.

What is most infuriating is the number of brokers who are allowing this same scenario to occur on self-insured plans being placed with the big insurers – Blue Cross, UnitedHealthCare, Cigna, Aetna, Humana — because of perceived network value.

Time to wake up, folks.

Scott Haas has over 30 years of employee benefits experience. His background includes the development and validation of care management programs; prescription benefit management (PBM) solutions; provider network evaluation, valuation, and negotiation; and underwriting. Scott has held officer-level positions within Blues plans and TPAs as Vice President of Sales and Marketing; Vice President of Underwriting; and President. Scott has also served as a trustee for both union and non-union health and welfare and pension plans. Email:

Jeanne Pinder

Jeanne Pinder  is the founder and CEO of ClearHealthCosts. She worked at The New York Times for almost 25 years as a reporter, editor and human resources executive, then volunteered for a buyout and founded...