Late in the day on December 16, 2016, the Centers for Medicare and Medicaid Services (CMS) finalized the Benefit and Payment Parameters rule for 2018. (fact sheet). It also released the final 2018 Letter to Issuers in the Federally Facilitated Marketplaces. These documents and other material released by CMS are analyzed in this post and subsequent posts.

Accompanying the rule and letter, CMS also released a number of additional documents, including

Finally, at its website, CMS released updates on batch auto-enrollments; guidances on transfers of accumulated cost-sharing in cost-sharing reduction plans; and guidances on final adjustments to the cost sharing reduction portion of advance payments for the 2016 benefit year. In sum, the Obama administration seems to have in one massive dump completed its regulatory agenda for implementing the health insurance title of the ACA.


The rule finalizes a proposed rule issued in August and November’s draft issuer letter. The final rule also finalizes an interim final rule on special enrollment periods and consumer oriented and operated plans (CO-OPs) released in May.

The “payment notice,” as the rule is called, is an annual CMS omnibus rule that pulls together in one place all the major changes that CMS intends to implement for the next plan year for the marketplaces (in particular in the federally facilitated exchange (FFE) and federally facilitated SHOP marketplaces); the premium stabilization programs; and the health insurance market reforms generally. Most of the provisions apply for 2018, but a few will apply for 2017 and others for 2019 or later.

For the first three years of the marketplaces, the proposed payment notice was released in late November and a final rule in late February or early March. For 2018, the rule has been speeded up. The reason given by CMS for the accelerated timetable is that insurers need to have more time to prepare their plans for 2018. But another obvious reason is that the Obama administration wants to lay down the ground rules for the 2018 plan year before it leaves office in January, rather than leaving the market to the vagaries and confusion of a presidential transition. Not coincidentally, CMS concluded that it was necessary for the rule to be effective in 30 days—on January 17, 2017—rather than the customary 60.

Because it will be in effect by the time President-elect Trump takes office on the 20th, the rule cannot be simply set aside by the Trump administration. The rule is subject to the Congressional Review Act, and thus could be disapproved by a joint resolution of the new congress. There are many provisions in the rule that could improve the functioning of the marketplaces and little that is truly controversial, so rejection of the rule seems to me to be unlikely.

A clear focus of the final rule is to strengthen and improve the marketplaces. Given recent events, this emphasis on stabilizing the marketplaces makes a great deal of sense. The final rule, however, contains many provisions that are not so narrowly focused. It includes, for example, routine updates for various charges, thresholds, or limits; clarifications of earlier adopted rules that had been misinterpreted; attempts to align directives dealing with the same or related issues to reduce confusion or achieve efficiencies; and attempts to align federal directives with state requirements.

The topics addressed by the final rule, and thus this post, include:

  • modifications of the ACA’s general market reforms (changes to the five-year ban on market reentry upon withdrawal of an insurer from a market, child age rating, and transitions to Medicare, as well as changes in the medical loss ratio rules to assist new and rapidly growing plans);
  • changes in the risk adjustment program for 2017 and 2018;
  • the 2018 payment parameters (the FFE user fee, premium adjustment percentage, and annual limits on cost sharing);
  • changes in plan benefits (bronze plan changes, gold and silver plan participation requirements, standardized options, and essential community provider and network requirements);
  • eligibility, enrollment and other changes (requirements affecting special enrollment periods, language access, direct enrollment, web-brokers, binder payments, insurance affordability programs, and SHOP participation, and a requirement that insurers make qualified health plans (QHPs) available for the entire year);
  • strengthening marketplace oversight (including new rules governing insurer rescissions, civil money penalties, and decertifications and appeals); and
  • final changes to the rules governing special enrollment periods and the CO-OPs.

This first installment will address the general market reforms and risk adjustment program. The next installment considers changes in plan benefits and eligibility and enrollment changes.

General Insurance Market Reform Changes

Although much of the debate over the ACA in recent months has focused on the exchanges or marketplaces, the ACA also included major changes to the regulation of health insurance generally, in particular to the regulation of the individual and small group markets. The 2018 final payment notice makes a number of tweaks in the rules governing insurance markets generally.

Market Withdrawal

The final rule first revisits the ACA’s guaranteed issue and renewability regulations. It begins by distinguishing between health insurance products and plans. A product is a discrete package of health insurance covered benefits offered using a particular product network (such as a health maintenance organization or preferred provider organization) within a service area. By contrast, a plan is the pairing of the health insurance coverage benefits under the product with a particular cost-sharing structure, provider network, or service area. Visit limits are considered to be part of the benefit rather than the cost-sharing structure of a product, and thus all plans within a product must have the same visit or frequency limits (if any) on covered benefits.

Market rules dating back to the Health Insurance Portability and Accountability Act of 1996 provide that if an insurer leaves an insurance market in a state (individual, small group, or large group), that insurer cannot return for five years. The purpose of this requirement is to discourage insurers from lightly leaving markets with the intention of jumping back in when market conditions become favorable. This rule has been interpreted to mean that if an insurer discontinues all health insurance products it has been offering in a market, it must wait five years to reenter, even if it in fact is prepared to offer new products or if the same products the insurer was offering continue to be offered by a different insurer under common control.

The final rule loosens the rules governing market withdrawals by allowing a “product” to be considered the same even though it is no longer issued by the same insurer, as long as it is issued by a different insurer that is under common control with the initial issuer (in the same “controlled group”). (This rule change does not alter existing independent change of ownership rules for medical loss ratio or risk adjustment reporting). Products will also be considered to be the same products even though they have been modified, transferred, or replaced as long as they meet standards earlier established for uniform modification of coverage.

Under the final rule, if an insurer transfers all of its products to a related insurer under a corporate reorganization but maintains continuity of coverage within products in compliance with uniform modification of coverage standards, the transfer will not be considered a market withdrawal that will trigger the five-year reentry ban. The insurer will also not be required to send to its enrollees the discontinuation notice that is necessary when an insurer withdraws from a market, but will rather send a renewal notice. The products will continue to be considered to be the same product for federal rate review requirements.

CMS will determine whether insurers within a controlled group are effectively the same entity using the definition of controlled group that the IRS applies in judging whether a group is a single entity for the ACA’s insurance provider tax provisions. States that define control group more narrowly may continue to use their own definition, but may not use a broader definition, as that would prevent the application of the federal law.

The final rule also modifies current rules governing the situation where an insurer remains in market but discontinues all of its products, replacing them with a different set of products. Under current rules, an insurer that discontinues all of its products would be considered to have withdrawn from the market and could not reenter for five years. Under the new interpretation, the insurer could remain in the market even though it is offering all new products.

CMS recognizes, however, that insurers could avoid federal rate review by changing their products every year. To remain in a market while replacing its portfolio of products, therefore, an insurer must reasonably identify at least one newly offered product that replaces a discontinued product where the insurer expects a significant transfer of enrollment from the existing product to the new product; the insurer must subject the new product to the federal rate review process. Federal rate review will apply if the premium increase for the new product is “unreasonable” as defined by the federal rules.

Child Age Rating

The final rule modifies current age rating requirements for children. The ACA permits premium rates to vary based on age only within a ratio of 3 to 1 for adults. Current age rating rules provide for a single age band for children ages 0 through 20. The default age factor for this group is .635. This single age factor not only does not accurately reflect claims costs for children (which are highest for children ages 0 to 4 and lowest for children ages 5 to 14), but has resulted in a significant jump in premiums (about 57 percent) when a child reaches age 21.

The final rule increases the current age factor for children up to age 14 from .635 to .765 and then gradually increases the age factor year by year from age 15 to age 20 to create a smooth transition to age 21. This makes coverage somewhat more expensive for children and less expensive for adults. The rule is effective for plan years beginning on or after January 1, 2018. States continue to be able to set their own age rating curves if they chose to do so; CMS released on December 16 a separate guidance explaining the age rating curves and forms for states to disclose their own rating requirements.

Guaranteed Availability

The ACA’s guaranteed availability requirement allows insurers that offer coverage through a network to limit offers of coverage in the small and large group markets to employers with employees who live, work, or reside in their service areas. Federal law does not require that the employer have a principal business address within the insurer’s service area for guaranteed availability to apply (although insurers are not required to offer coverage to employers who do not have a place of business in their states).

Some insurers have network sharing agreements with affiliated insurers such that an affiliate is not allowed to offer coverage to an employer with a business headquarters outside of its service area but will offer coverage to employees of an employer covered by its affiliate that live in its service area. (For example, affiliated insurer A would not insure employer X located in the service area of affiliate B but would cover X’s employees in A’s service area if X was covered by affiliate B).

CMS has concluded that these arrangements are not in compliance with the guaranteed availability requirement, and that insurers must guarantee coverage for employees in their service area. Nothing, however, prohibits insurers from offering employers coverage through network sharing arrangements under which employees who live, work, or reside in the service area of an affiliated insurer would be covered by the affiliate’s networks, if an employer chooses such coverage.

CMS will not take enforcement action before January 1, 2019 against insurers that only make coverage available on a guaranteed availability basis to employers in the service area where the employer’s principal place of business is located as long as they afford in-network coverage under the same plan through an affiliated insurer’s provider networks to employees in the affiliated insurer’s service area. After that date, however, the insurers must offer coverage regardless of the location of the employer’s principal place of business.

Transitions To Medicare

Current law prohibits the sale of individual health insurance to individuals who are entitled to benefits under Medicare Part A or are enrolled in Medicare Part B when the insurer knows the coverage would duplicate Medicare coverage. Current rules, however, provide that Medicare eligibility or enrollment is not a basis for nonrenewal or termination. Under the modified rules on guaranteed renewability described above, the renewal could be in a different product from the same insurer or in a product of a related insurer within the same controlled group.

Enrollees who are eligible for Medicare tend to be quite costly, and insurers have questioned whether they should be required to continue to cover them in marketplace plans. On the other hand, marketplace plans may provide more comprehensive coverage than Medicare and thus might be preferred by individuals eligible for Medicare, even though individuals who are eligible for Medicare are likely not eligible for premium tax credits. Providers also prefer marketplace to Medicare coverage, as commercial plans usually pay more than Medicare does.

The final rule prohibits insurers that know that an enrollee in individual market coverage is entitled to Medicare Part A or enrolled in Medicare Part B from renewing individual market coverage if the coverage would duplicate benefits to which the enrollee is entitled, unless the renewal is of the same policy or contract of insurance. The insurer may not renew the enrollee in a different plan or product, although whether changes in the terms of coverage result in the issuance of a different contract or policy is determined by state law. The preface also notes that the FFE is screening for exchange enrollees who may be enrolled in Medicare and thus are not eligible for premium tax credits (PTC) and encourages state exchanges to do the same.

Medical Loss Ratio Rules

The ACA’s medical loss ratio (MLR) requirements, like the guaranteed availability and renewability provisions, apply to all insurance markets in and out of the marketplaces. HHS laid down the general rules for the MLR in 2010 rules. The MLR statute authorizes HHS to consider the special circumstances of newer plans in applying MLR requirements.

Pursuant to this provision, the original MLR rules allowed insurers to defer experience reporting for policies that were newly issued with fewer than 12 months of experience if these policies contributed to 50 percent or more of the insurer’s total earned premium in a reporting year. The idea behind this provision was that new policies often have low initial claims experience, but claims accumulate rapidly as the policy ages. New or rapidly growing insurers might therefore have to pay rebates for new policies based on excess premium over claims that are unwarranted given expected experience over time.

The final rule recognizes that as of 2014, new non-grandfathered policies must be issued for a 12-month plan year. To encourage entry of new plans and expansion of existing plans, CMS will allow deferred reporting of new business for insurers where up to 50 percent or more of their premium is attributable to policies with 12 months or less experience. The experience of those policies will need to be reported in the following calendar year.

Since 2014, MLRs have been calculated on a three-year rolling average. Insurers can thus offset high and low MLRs over the period, potentially allowing them to pay lower overall rebates. New entrants, however, do not have three-years of experience and are thus disadvantaged by this provision. Insurers that experience rapid growth may also not fully enjoy the benefits of three-year averaging. This may be an entry barrier for insurers that would otherwise like to enter or expand in a market.

The final rule allows insurers the option of calculating their MLR liability for a single year if the insurer recalculates MLR liability for the two subsequent years based on total experience over the time period, with the insurer’s rebate liability adjusted to take account of earlier payments. The proposal is more complicated than this. It is explained at length and illustrated by an example in the preface to the proposed rule. The basic idea is to give new entrants and rapid expanders the same advantage that three-year averaging gives long-term market participants. CMS believes that this option would not be advantageous to established plans, which would likely choose the three-year average approach. Both MLR amendments will be implemented for the 2016 MLR reporting year.

The Risk Adjustment Program

A primary purpose of the payment notice is to set the parameters for the ACA’s premium stabilization programs. The ACA included three of these: the temporary reinsurance and risk corridor programs and the permanent risk adjustment program. The reinsurance and risk corridor programs ended in 2016 and thus are not covered by the 2018 payment notice. The payment rule, however, includes significant changes to the risk adjustment program for 2018 and a few changes for 2017.

The risk adjustment program is intended to transfer funds from non-grandfathered plans that cover lower-cost enrollees in the individual and small group markets to non-grandfathered plans that cover higher-cost enrollees; it is designed to remove incentives for insurers to risk select. The changes in the final rule build on extensive discussions concerning the risk adjustment rule that have taken place over the past year. In March, CMS issued a White Paper discussing potential changes in the risk adjustment program and in May it held an all-day forum further exploring changes. The rule moves this discussion forward and adopts some of the changes mooted earlier.

The final rule begins the risk adjustment section by dealing by addressing some technical issues. In accordance with the 2017 federal budget, 6.9 percent of reinsurance funds and 7.1 percent of risk adjustment funds will be sequestered for 2017. That is to say, the total amount collected from insurers for risk adjustment will be reduced by 7.1 percent before payments are made to insurers. The sequestered funds may become available in 2018.

The final rule also clarifies that insurers should use counting methods determined by state law to decide whether an employer is a small or large employer for purposes of the risk adjustment and risk corridor programs, unless the state counting method does not take non-full-time employees into account, in which case they should use the counting method provided under the ACA large employer mandate provision. A small employer that becomes a large employer but continues to participate in the SHOP program should continue to be considered a small employer.

Beginning in the 2017 benefit year, states that combine individual and small group experience to establish a market-adjusted index rate may elect to be considered as merged markets for purposes of applying the federal risk adjustment formula; this will be true even if a state has not merged the individual and small group market for other purposes, such as requiring calendar year coverage and not allowing quarterly rate adjustments for small-group coverage. HHS will communicate with such states to determine whether they elect to be considered as merged markets for federal risk adjustment program purpose.

Partial-Year Enrollments

The final rule also makes changes in the risk adjustment model itself. Beginning in 2017, CMS is modifying the risk adjustment formula to account for partial-year enrollments. CMS has concluded that the current formula undercompensates plans that have disproportionately more partial-year enrollments. This may be because short-term enrollments are associated with sudden high-cost acute episodes of care.

Beginning in 2017, adjustments for partial-year enrollments of from one to eleven months will be considered as a factor in the risk adjustment adult model. CMS decided to take this approach rather than to develop separate models for enrollees with different enrollment durations. It also decided not to estimate separate duration factors for individuals who enroll through special enrollment periods as opposed to those who enroll at open enrollment and then drop coverage before the end of the year. Partial-year adjustments are not included in the child or infant models, which are based on smaller data sets that did not provide adequate data to model appropriate adjustments.

Although insurers are already marketing plans for 2017 and set their rates earlier in 2016, CMS believes that it gave insurers sufficient notice of this potential change and it is in fact making the change before 2017 begins. To permit the 2017 change, the payment notice amends current rules to allow changes in the risk adjustment program after the publication of the payment notice for a benefit year as long as the change is made before the benefit year begins.

Adding Prescription Drug Information To The Risk Adjustment Model

The final rule makes additional changes to the risk adjustment model for years beginning in 2018. First, as discussed in the White Paper, CMS will incorporate prescription drug utilization into its model. Drug prescribing information can be useful in risk adjustment both to identify high-risk conditions missed by the current model—which is based on recorded diagnoses—and to better establish the severity of conditions that are identified by the current model. Conditions may also be identified sooner and more easily and accurately from prescribing than from diagnosis information.

Adding prescribing data, however, increases the complexity of the model and creates incentives for over-prescribing. Drug use may also vary based on factors unrelated to risk, such as access to pharmacies or high cost-sharing. And many drugs may be used for both high- and low-cost conditions. CMS has nevertheless decided to proceed cautiously to incorporate prescription drugs into the risk adjustment formula.

Working from United States Pharmacopeia (USP) drug classifications and applying the set of principles described in the White Paper and in the rule preface, CMS has developed a set of prescription drug categories (RXCs), each of which is associated with a particular hierarchical condition category (HCC) or group of HCCs. CMS will incorporate a small number of drug-diagnosis pairs into a hybrid model that could impute diagnoses otherwise not coded or indicate the severity of conditions otherwise indicated by medical coding. RXCs can be linked with more than one HCC and vice versa.

CMS will initially use a dozen RXCs, ten of which can be used for imputation of a condition and for determining the severity of a condition and two for severity only. The drug categories are limited to cases where the risk of unintended effects is low, but CMS intends to monitor prescribing for unintended effects and make changes as warranted.

CMS will also separate the current chronic hepatitis HCC into two new HCCs, one for Hepatitis C and the other for Hepatitis A and B, raising the total number of HCCs to 128.

Using Risk Adjustment To Replace Reinsurance: Incorporating Very High-Cost Cases Into The Risk Adjustment Formula

CMS will further modify the risk adjustment formula for 2018 to take into account very high-cost conditions. CMS is thus effectively planning to use the risk adjustment program to replace in part the reinsurance program which has been phased out. Although the current risk adjustment program accounts for higher-than-average cost cases, it does not adequately compensate insurers for very high-cost cases and thus does not adequately discourage risk selection against such cases.

The new model will, using data from the EDGE servers, calculate the total amount of claims paid for high-cost enrollees, defined as enrollees with costs in excess of $1 million. The costs of high-cost enrollees will be pooled across all states and across the individual market (including catastrophic and non-catastrophic plans and merged markets) and small group markets. One pool will be established for the individual and merged markets and another for the small group market.

Insurers who incur claims in excess of $1 million will be reinsured through the risk adjustment program for 60 percent of the excess cost. They will continue to bear 40 percent of the cost, providing a clear incentive for managing cost. Risk adjustment transfers will be adjusted by a percent of premium across all states to account for the cost of this program. CMS believes that this modification of the formula will affect less than 0.5 percent of premiums in either market but will help insurers that incur extraordinarily high-cost cases.

CMS will continue to make an adjustment for the receipt of cost-sharing reduction (CSR) payments, which increases utilization. The 2018 CSR adjustment will be the same as the 2017 adjustment, but CMS expects to revise the adjustment for 2019 as it accumulates more experience in the individual market.

Other Modifications In Risk Adjustment

In the proposed rule preface, CMS reported that it was considering changes to the risk adjustment program to account for the belief that the current program overcompensates plans for high-risk enrollees and undercompensates plans for low-risk enrollees. One approach would be to use a two-step constrained regression model that would first estimate the adult risk adjustment model using only age and sex variables, and then re-estimate the full set of HCCs using the age-sex coefficients derived from the first estimation. This would put a greater emphasis on demographic variables as compared to medical condition variables than does the current model. CMS also mentioned other possible models that could better account for the cost of healthy populations.

Alternatively, CMS considered approaches that would directly adjust plan liability risk scores outside the model for certain sub-populations or take alternative approaches for community rated states that use family tiering rating factors. After considering comments on these proposals, CMS has decided not to make any changes at this time.

CMS also proposed changes to its risk adjustment methodology so that it could provide final risk adjustment coefficients in guidance right before risk adjustment scores are calculated, rather than in the payment notice, allowing it to incorporate more current data. Under this approach 2015, 2016, and 2017 MarketScan ® data could be used to produce blended coefficients in the spring of 2019 for 2018 risk adjustment calculations. In light of comments received, CMS has decided instead to publish in guidance in the spring of 2017 risk adjustment coefficients for 2018 using 2013, 2014, and 2015 data. This will allow insurers to have the final risk adjustment factors in time for rate setting.

CMS has further decided to use data on actual enrollees drawn from the EDGE servers to calibrate the risk adjustment model. MarketScan® data is drawn from employer-sponsored plans, a different population than that found in the individual and small group markets. Beginning as soon as the 2019 benefit year, CMS will use data drawn from the EDGE servers of individual and small group market plans—masked for enrollee ID, plan/issuer ID, rating area, and state—to recalibrate the risk adjustment model as well as the actuarial value calculator and methodology. The database could also be useful for other public programs and for researchers.

The Payment Transfer Model: A Decision To Remove Some Plan Administrative Costs in Calculating Transfers

Once the risk adjustment model is applied to data provided by the health plans to calculate a risk score, the payment transfer model is applied to transfer funds among plans based on their relative risk scores. As already mentioned, CMS will for 2018 create a nation-wide high-cost outlier pool within which funds will be transferred to insurers with high-cost cases to cover 60 percent of costs above $2 million. The remainder of the risk adjustment funds will continue to be pooled at the state level and transferred among plans based on the relative member-month weighted plan average of individual enrollee risk scores of plans (adjusted for allowable rating and other factors) within a rating area.

In what may be the biggest change in the final rule from the proposed rule, CMS has decided to remove some administrative costs from statewide average premiums in calculating the transfers. Critics of the transfer formula have complained that basing risk adjustment transfers on the whole premium rather than on the premium minus administrative costs penalizes plans that are more efficient and thus have lower costs. CMS has heretofore concluded that removing administrative costs from the premium before calculating transfer payments or contributions would penalize plans that have higher administrative costs because they have higher-risk enrollees.

In the proposed rule, CMS indicated that it would not change the transfer formula. In the final rule, however, it bowed to the critics and decided to reduce the statewide average premium by 14 percent to account for the proportion of administrative costs that do not vary with claims beginning in the 2018 benefit year.

Under the final rule, the risk adjustment user fee assessed by the federal government for operating the program will be based on billable member months rather than enrollee member months, thus excluding from the charge children who do not count toward family rates or premiums. For 2018, CMS will impose a user fee of $1.68 per billable member per year (.14 per member per month).

CMS requires health plans participating in the risk adjustment program to engage an entity to perform an initial validation audit which is in turn validated by CMS through a second audit. As of 2018, this validation will include pharmacy information. The cost of these audits is quite high. Beginning with the 2017 benefit year or risk adjustment validation, CMS will implement a materiality threshold of $15 million in total premium before requiring an audit. Insurers with premiums below this threshold will be subject to random and targeted audits, including likely an audit every three years, but not to annual audits. CMS estimates that only 1.5 percent of plan membership nationwide will be covered by plans with premium below the threshold. Insurers not subject to audit will have their premiums adjusted by the lower of the national or statewide average negative error rate.

Finally, the rule provides an interim discrepancy reporting process for insurers to contest (within 15 days) the initial validation audit sample provided by HHS. If the insurer does not report a discrepancy it must attest to the validity of the initial validation audit. It also provides a final discrepancy reporting process through which an insurer can contest (within 30 days) the results of the second, CMS, validation process and the calculation by CMS of a risk score error rate. Insurers cannot appeal the first validation audit since it is performed by their own contractor rather than the government. Insurers can request a reconsideration of or appeal CMS validation audit decisions only if the insurer claims processing errors, incorrect applications of the relevant methodology, or mathematical errors.

If a problem could have been identified through the discrepancy process, reconsideration and appeal will only be allowed if the problem was identified and remained unresolved after a discrepancy was reported. Risk adjustment charges will not be adjusted until 2016, and thus reconsiderations and appeals are not available until 2016 data is validated.