The higher the Medical Loss Ratio (MLR), the more value the health insurance customer receives for each dollar of premium paid.
As a middleman, the health insurance company holds our healthcare dollars until they are used as payment for healthcare services. The premium markup is the non-claims money the insurer keeps to pay for salaries, advertisement, office space, and profits for the company. Obviously, private health insurance (and all other) companies strive to increase the premium markup portion of the pie as much as possible.
How Much Premium Markup Is Too Much?
Over twenty years ago, employers with self-funded health insurance plans were the first to question the amount of markup (and resulting double-digit premium hikes) health insurance companies were demanding. These employers were spending less than 10% (MLR over 90%) of their premium dollars on non-claims expenses while health insurers were spending more than double that amount. This revelation put a spotlight on the generous compensation packages of health insurance executives—some of the highest when compared with all other industries. With healthcare costs that are almost double those in other countries, health insurance company markups were obviously too high.
In a competitive marketplace, premiums would find a lowest point consistent with the most efficient insurance company operation. The markup is minimized by competition between companies and by the price that customers are willing and able to pay. In the United States, this competitive marketplace does not exist for healthcare businesses (insurers and healthcare providers). In response, our government has chosen to set a minimum Medical Loss Ratio (MLR) (maximum markup) for various insurance products. When these minimum MLRs are not met, the insurance company must issue a rebate on the premium (or give a premium credit or rebate for Medigap policies). Many, but not all, of the health insurance products with minimum MLRs today are shown below.
The minimum Medical Loss Ratio (MLR) was set for Medigap supplemental insurance policies in the 1990s to stop health insurance companies from gouging consumers and for the other health insurance products in 2011 as part of Obamacare (PPACA) reform. Obamacare (PPACA) created a more complicated equation that allows health insurance companies to inflate their MLRs to make it appear that they have lower markups. As a final note, you should be aware that the Medical Loss Ratio (MLR) equation used for comprehensive (u,e., your major medical health insurance) and Medicare Advantage health insurance policies is not the exact same equation used for Medigap supplemental insurance policies.
The Medical Loss Ratio (MLR) information is self-reported to individual states (who are the primary regulators of health insurance policies) and to the federal government (or the National Association of Insurance Commissioners for Medigap). I hate the concept of self-reporting in health care because it introduces a lot of complicated paperwork (increasing administrative costs) and more importantly opens the door for fudging data when auditing is lax. The federal government does a very small amount of auditing of self-reported data and is often hampered by missing (or unavailable) documentation.
The Bottom Line
The Medical Loss Ratio (MLR) is an insurance term used by insurance companies to determine their “medical loss”. To the health insurance consumer, MLR tells us how much markup the insurance company is keeping for internal use and how much it actually uses to pay our healthcare claims. The higher the MLR, the more value the health insurance customer receives for each dollar of premium paid.
To keep insurance companies from gouging consumers, our government has legislated minimum Medical Loss Ratios (MLRs) for various health insurance products. When insurance companies do not meet the minimum MLR, they are required to return money to the consumer either in the form of premium rebates or credits depending on the health insurance product.