Why Do COBRA Enrollees Incur Such High Claim Costs?

Former employee who remain covered on the group medical plan incur more claims than their former colleagues. Is this phenomenon inevitable or a design flaw in COBRA?

A recent study showed that COBRA enrollees incurred claims three times as high as active employees.

Is that number right?

If so, what’s going on?

COBRA Defined

COBRA is a federal program dating to the 1980s that allows employees and their dependents who are no longer eligible to remain enrolled on a group plan to continue their coverage for a period of 18 to 36 months (depending on the triggering event). It most often applies when:

• An employee is laid off
• A child ages off a parent’s policy
• A spouse is no longer eligible due to divorce
• An employee remains employed but isn’t eligible for benefits (full-tome to part-time schedule, for example)
• An employee who carries the family’s insurance dies

Not everyone has COBRA rights. The federal law covers only companies with 20 or more employees (although some states have designed similar programs for small businesses). And when the employer-sponsored plan is cancelled (the company goes out of business or fails to pay premium), COBRA no longer applies, since there’s no longer group coverage to continue.

COBRA enrollees pay 102% of the group premium. That’s sticker shock for many people entitled to COBRA continuation. For example, when they worked, their employer may have paid 75% of their $1,600 monthly family premium (slightly less than the average family premium for group coverage), leaving their share at $400 (reducing their take-home pay by about $300 because most payroll deductions are pre-tax). When they continue coverage under COBRA, they pay $1,632 for the same coverage. Unless they’ve built balances in a Health Savings Account, they pay that premium with post-tax dollars. Net increase in the cost of coverage: About $,1332 monthly ($16,000 annually) in this example.

Options

COBRA isn’t the only option for many people who lose coverage. They may qualify for one or more of these options, in addition to or in place of COBRA continuation:

Nongroup. Under current federal law, each state operates a nongroup insurance market that offers policies that are guaranteed issue (no medical underwriting or denial of coverage, and coverage is renewable) and community rated (so that individual claims experience doesn’t affect the future pricing of the policy. Premiums are adjusted to reflect family size and ages.

Short-term, limited-duration plans. These plans aren’t guarantee issue, rates vary with medical history and projected claims, and the plans don’t cover a comprehensive list of services, as nongroup plans must.

Medicare. Medicare is an option for people age 65 or older who lose group coverage.

Playing the COBRA Timing Game

People eligible for COBRA often game the system, using COBRA rules to delay enrolling as they preserve their right to sign up retrospectively. When someone qualifies for COBRA, her company notifies its COBRA administrator, which than has 14 days to mail her a notice of her right to continue coverage. She then has 60 days to accept or reject that offer. If she accepts, she then has 45 days to make her first premium payment.

Let’s do the math: 14 days plus 60 days plus 45 days = 119 days. That’s nearly four months after receiving the notice (which may come a week or two after she qualifies).

So, what does this woman do? If she’s out of work and actively looking for new employment, is healthy, and doesn’t anticipate any expenses, she waits. If she doesn’t have new coverage as her 60-day deadline approaches, she opts into COBRA. It’s important that she delay this decision until close to the deadline, because the clock that starts her 45-day period to pay her first premium begins on her decision date. She doesn’t want to accept COBRA on, say, Day 10 and lose 50 days of float that she’d otherwise have to retain her right to continuation without paying a premium.

Once she opts in, she has 45 days to pay per premium. She continues to look for a new job with benefits and monitors her medical care to determine whether she’ll need to pay the premium at the end of the 45-day period.

President Trump declared a national emergency to deal with the COVID-19 pandemic. During this time, these 60-day and 45-day clocks are stopped. Thus, someone eligible to elect COBRA coverage now has an unlimited amount of time (until 60 days after the end of the emergency) to pay for coverage in arrears.

The period during which potential enrollees remain eligible but haven’t paid for coverage – whether it’s the prescribed period or the current unlimited amount of time – can be nerve wracking. Their insurer denies all claims that they incur, since they haven’t paid for coverage. Patients may receive bills from providers that reflect retail prices, rather than prices negotiated with insurers. Certain services may subsequently be denied because they required authorization, which the insurer didn’t provide because they weren’t enrolled.

In the case of ongoing services or care requiring authorization (which typically is expensive), it might be best to pay the COBRA premium to retain coverage.

Who Exercises COBRA Continuation Rights?

Most people eligible for COBRA don’t take advantage of this opportunity to continue medical coverage. To understand why the average COBRA beneficiary’s claims are 300% of her former co-workers who are still employed, we need to examine who exercises COBRA continuation rights.

Let’s examine the people most likely to opt for this coverage.

They receive regular care or have expensive care scheduled. People who receive ongoing care for a chronic condition need to continue their coverage. So, too, do people who have an expensive procedure scheduled that they can’t or shouldn’t delay. If they don’t anticipate finding new coverage quickly, they need this care to maintain their health, or they’ve satisfied their medical deductible or out-of-pocket ceiling for the year, they’re most likely to accept COBRA continuation.

This is an example of adverse selection. Healthy people with no scheduled services will – if they understand the rules – delay their COBRA enrollment, and many won’t enroll before finding alternative coverage. Insurers thus lose the premium revenue from these people with low claims to offset claims incurred by people who consume more services.

They’re older. Claims costs correlate with age across a population. That’s not to say that a 60-year-old marathon runner will incur more claims than a 35-year-old smoker with pre-diabetes. But in general, 60-year-olds are more expensive to insure than 35-year-olds. So, premiums are higher for older people than younger ones.

Employers offer coverage to employees at a uniform premium within a rating class (self-only, two-person, family), regardless of employee age. In this model, young workers (lower claims on average) subsidize older workers (higher claims on average), and small families subsidize large families. That holds true for COBRA rates as well. In contrast, in the nongroup market, the premium rfelects family size and ages.

This is another example of adverse selection. People who find less expensive coverage in the nongroup market because their claims are projected to be lower don’t enroll in COBRA. But older people with larger families do.

Improving the Pool of COBRA Enrollees

The best way to reduce the average claims of COBRA participants is to attract younger, healthier people into the pool. In our example above, the woman eligible for COBRA continuation would pay a $1,632 monthly premium to retain coverage. If she anticipates expenses of less than that amount monthly, she may be inclined not to enroll. There’s always the risk of a sudden grave diagnosis, accident, or serious illness – insurance is designed to protect people against such risks – but people typically discount that risk and instead focus on known or likely expenses versus the cost of the premium.

If premiums were subsidized, the calculus would change. If she received a $1,000 monthly subsidy, her net cost of care would be only $632. She’s more likely to enroll in COBRA coverage if her known or anticipated expenses exceed $632 (rather than the unsubsidized $1,632).

By the way, that’s the rationale for federal advance-premium tax credits (premium subsidies) in the nongroup market. By making premiums more affordable, the federal government encourages younger and healthier people to purchase coverage.

Congress is considering extending subsidies to the vast pool of recently laid-off workers during the pandemic. The House passed the partisan HEROES Act in May to subsidize 100% of premium (richer than the subsidy that employers provide to active employees). In 2009, Congress created a 65% subsidy. Expect some form of COBRA subsidy in the bill that Congress is expected to pass by Aug. 8. Any such subsidy will reduce net COBRA premiums, increase enrollment, and reduce the dollar amount of average claims of COBRA enrollees.

Medicare: The Employer’s Financial Savior

Medicare also helps reduce COBRA claims experience – without the need for legislation in the next few weeks – by keeping older COBRA-eligible laid-off workers from continuing coverage on the group plan. Working seniors who are eligible for COBRA are excellent candidates to enroll in Medicare instead, for three reasons.

First, the cost is probably lower. Workers who’ve paid 10 years’ worth of federal payroll taxes can enroll in Part A (inpatient services, plus home health and hospice) premium-free. The federal treasury subsidizes up to 75% of Part B (outpatient services) and Part D (prescription drug) premiums. Most Medicare recipients pay less than $300 monthly in Part B coverage and Part D premiums. That’s far less than a nongroup premium, or even a COBRA premium subsidized by younger workers.

Second, Medicare has established rules for coordinating benefits when a patient has both COBRA and Medicare coverage. Medicare is always the primary (first payer). The group plan pays the eligible amount less what Medicare is responsible for reimbursing.

Quick example: You have a $50,000 outpatient cancer treatment. Part B covers 80% of the bill, and your primary insurer pays the balance (less deductibles). If you elect COBRA but not Medicare, the same payment rules remain in place. Medicare is responsible for 80% of the bill and the COBRA insurer the other 20%. If you’re not enrolled in Part B, you pay the 80% ($40,000 in this example) out of your personal resources, and the COBRA insurer pays the rest.

Most people age 65 and older who understand this rule (few do) will forego COBRA in favor of enrolling in Medicare.

Third, Medicare doesn’t consider COBRA enrollees to be enrolled in group coverage, even though they’re continuing their coverage on the group plan. COBRA enrollees who transition into Medicare after their initial enrollment period may pay a monthly Part B surcharge for the rest of their lives. And they may not be able to enroll in Medicare until the next effective date (July 1 for Part A and Part B and Jan. 1 for Part D), leaving a potential gap in coverage.

The Bottom Line

Now you understand why average COBRA enrollees incur claims at three times the rate of active workers. They’re generally older (COBRA premiums are lower) and sicker (they’ve met the deductible on the group plan) than the average enrollee in the group plan. That’s a formula for financial disaster in the group claims experience.

COBRA enrollees will always incur higher claims than active workers in the same group plan. Federal lawmakers and administrators can take some action to mitigate this difference, but that policy always comes with a price. If the general treasury subsidizes individual premiums, people with lower projected claims are more likely to continue their coverage.

But these subsidies don’t reduce the cost of coverage or care. Instead, they shift some of or all the cost of COBRA coverage from the individual and the former employer to the and the former employer (who still must cover claims, although claims that are, on average, less than in an unsubsidized model). Subsidies may be popular politically and certainly help those who receive them, but they don’t alter the cost of coverage or care.

I'm director of strategy and compliance at Benefit Strategies, LLC , a provider of Health Savings Accounts and other tax-advantaged benefits. You can read my biweekly Health Savings Account GPS blog and subscribe by clicking here and my weekly HSA Wednesday Wisdom and occasional HSA Monday Mythbuster column (which alternates with my Healthcare Update) published on LinkedIn. I also founded your Health Savings Academy, which focuses on educating financial and benefits advisors, employers, and employees about Health Savings Accounts. My book, HSAs: The Tax-Perfect Retirement Account, is the definitive guide to navigating the intersection of Health Savings Accounts, Medicare, and retirement planning. It's available in book and e-book forms from Amazon.

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