There’s an old proverb — “Trees don’t grow to the sky.” That is, even though something may appear to have no barrier to growth, there is still a natural limit. When it comes to medical claims, even after the Affordable Care Act removed caps on health benefit payments, most employers felt there would be a natural limit. After all, claims in excess of $1 million were unusual and claims in excess of $2 million were rare. But, fueled in large part by the high cost of specialty drugs, the natural limit is changing.
First, the trees are growing taller than ever before. Claims $10 million, $20 million or bigger are hitting employers like bolts of lightning, blowing up self-insured health budgets. Most often, these claims are driven by specialty drug treatments for rare, extreme conditions like hereditary angioedema and hemophilia. Truth be told, we don’t know how tall a tree can grow.
Second, some of these very tall trees are becoming permanent features of the landscape. Historically, large claims for organ transplants or premature infants would spike and then recede. Once the underlying condition resolved itself, claims would usually drop in the following years to a more manageable level. But that pattern is changing as more claims spike and then stay at that level. Because the drug treatment protocols for conditions like hereditary angioedema and hemophilia are more maintenance — like than curative, those $10-$20 million claims are becoming annuities.
The traditional approach to mitigating the risk of catastrophic claims is to buy stop-loss insurance. But buying stop-loss — through direct markets or by accessing reinsurance markets through a captive — may not be a complete solution. Here’s why:
- Lasering limits. Typically, stop-loss contracts are one year in length, which can result in a catastrophic claim being covered for just a few months before it is lasered out of the contract, leaving the employer exposed the following year. Many insurers and reinsurers have become less willing to offer rate caps and “no new laser” contracts.
- Focus is on lower deductibles. Stop-loss carriers, especially direct writers, tend to focus on smaller employers who retain less risk. A large employer looking for stop loss with a $1-$2 million deductible may have difficulty finding favorable pricing and contract terms.
- Carriers purchase reinsurance. Direct stop-loss carriers typically transfer risk in excess of $5 million to a reinsurer. That means a significant portion of high-deductible stop-loss premium is a pass-through of reinsurance charges.
- Increased fixed cost. If you buy stop-loss direct, that’s a new, additional fixed cost. The only way for the employer to “win” is to have a very large claim. If you go the captive route, gains and losses on the retained risk will be either feast or famine. Limiting the degree of those swings requires the purchase of reinsurance, another added fixed cost.
- No claim management: Stop-loss coverage purchased through a direct writer offers limited claim management services, and captives typically provide even less. When a $10-$20 million claim hits, the employer typically incurs additional expenses to manage the claim.
Given the limitations of the stop-loss coverage, what’s an employer to do about these new super tall trees? (Let’s rule out sticking your head in the sand and hoping for the best.) You can consciously choose to assume the risk, accepting the impact of the increased volatility. You can choose to transfer the risk through stop-loss insurance, accepting the limitations noted above. For employers seeking stop-loss deductibles of $1 million or more, utilizing a captive can help by accessing reinsurance markets. Some employers may also find it more palatable to retain and participate in the risk of these catastrophic claims in a vehicle like a captive than through the company’s general ledger. But, many of the limitations that apply when stop-loss is purchased directly also apply when stop-loss is insured through the employer’s captive.
Even if your chief financial officer or risk manager hasn’t asked you about alternatives to your current risk management strategy, you can bet they’ve given it some thought. Try to get ahead of the conversation and learn about the different solutions in the market. Don’t let the trees grow to the sky.