Hospitals and health systems increasingly are moving away from traditional fee-for-service arrangements and exploring whether to start a health insurer to offer their own health insurance plans.
Many systems believe they need to take on some level of risk to survive in today's marketplace, and buying or forming an insurer is certainly one way to assume risk. Nevertheless, there are significant rewards and pitfalls to owning a health insurer.
The Pros
A hospital or health system that buys or forms a health insurer can develop higher visibility and brand recognition in its market. A well-known system can leverage its brand and marketing profile by having an insurance company and insurance products attached to its name.
Owning an insurer also gives the system control over branding, product design, provider networks and, ultimately, the risk assumed. Of course, profits from insurance operations would benefit the health insurer and indirectly its system owner.
Having its own insurer can also promote alignment strategies, because the system can sell interests in the insurer to other providers and build a wider, economically-integrated network. Building these relationships can often present consolidation and more formal integration opportunities down the road, particularly with unaffiliated providers.
It's also worth noting that a health system with its own insurer can create significant benefit for patients by virtue of one-stop shopping. Patients can simply rely on a name they trust, and won't have to worry about whether a particular provider or specialist is included in their network and they will enjoy a more seamless interchange of health records and data among providers.
The Cons
Forming or buying an insurer is not for the faint of heart, as there are significant downsides. That is why this option is often considered only by larger, more sophisticated systems. Heavy up-front capital costs combined with necessary insurance and regulatory expertise often lead smaller systems to explore other less capital-intensive options on the risk continuum.
For example, the minimum capital and surplus requirement to form an insurer typically will range from $1 million to $2 million. Insurance regulators may demand more initial capital, depending on the business plan and financial soundness of the system owner. Further, start-up costs and ongoing expenses can add up quickly, including the cost of hiring experienced insurance company management, insurance statutory accountants and outside actuaries.
Another hurdle is that insurance is a highly-regulated industry and the rules vary from state to state. State insurance departments will not allow a health system to form an insurer unless the system can demonstrate it has competent insurance company management and the financial resources to form and safely operate the insurer.
Insurers are subject to special statutory rules, called statutory accounting principles (SAP), which are very different than generally accepted accounting principles. Health systems not familiar with SAP must buy or develop this expertise. Insurers must file with regulators quarterly and annual financial statements prepared in accordance with SAP, along with a multitude of other reports and information on a regular basis. In addition, many other aspects of an insurer's operations are regulated such as product rates, the types of investments the insurer can make and transactions between the insurer and its affiliates.
The process of forming and operating an insurer can be very intrusive to owners and their officers and directors or trustees. For example, financial statements of owners are typically required, including those of any intermediary holding companies. Further, insurance regulators require background checks (including fingerprints in some states) for key officers and directors of the insurer and its owner. These background checks sometimes reveal embarrassing details on particular individuals (like a past conviction for DUI or worse).
It bears keeping in mind that risk is a four letter word. There is no assurance the insurer will be profitable, and it may suffer substantial losses.
Practical Considerations
• To properly spread risk, many actuaries recommend the insurer have at least 5,000 covered lives to ensure the risk pool is actuarially sound, with 1,000 to 1,500 as the bare minimum.
• Health systems need to realistically assess their level of sophistication and experience in managing populations and risk, and they must carefully review their short, mid and long-term strategy to determine where they should fall on the risk spectrum. In other words, there may be easier and more appropriate ways to assume risk than becoming an insurer.
• Systems that decide to move forward will need to decide whether to buy an insurer or start one from scratch. Starting a new insurer is a good option for health systems that only operate in one state, and will likely be more cost effective than buying an insurer that may have more licenses than necessary. However, if a health system desires to operate immediately in multiple states, buying an insurer is probably the only option because a new insurer typically must operate in its home state from one to three years before it can become licensed in other states.
• Before taking the plunge, a health system can possibly partner with an existing insurer to test what is often the key business assumption – whether a product bearing the health system's name will result in greater enrollment in the relevant market. A system can also learn through partnering whether it can manage costs to desired levels.
• A variation on the theme is to partner with one or more existing health systems to form or buy an insurer. While this approach can work, often the other systems have little or no experience with owning or running an insurer.
• Forming or buying an insurer is a major commitment for any health system. Because a misstep could create a significant drag on the system for years to come, it is essential to plan carefully and consult with experts.
Daniel W. Krane is a partner at Drinker Biddle, and he represents insurance companies and health care systems with corporate, transactional and regulatory matters. Dan can be reached at daniel.krane@dbr.com.
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