- Health Care Reform: What to Do With Medical Loss Ratio Rebates?
- August 13, 2012 | Author: Eva A. Rasmussen
- Law Firm: Clifton Budd & DeMaria, LLP - New York Office
Many employers have received rebates from insurers as a result of the medical loss ratio (“MLR”) requirements under the Patient Protection and Affordable Care Act (“ACA”). These rebates represent a return of premiums paid for the preceding year when the MLR rules were not met. Rebates may be made either in the form of cash or as a reduction in future premiums.
What Are the MLR Requirements?
The MLR is the ratio of (a) the cost of claims plus amounts spent on health care quality improvement activities to (b) premiums taken in, reduced by taxes and regulatory and licensing fees. Insurers in the small-size market (employers with up to 100 employees) must have an MLR of 80% and those in the large-size market (employers with over 100 employees) must have an MLR of 85%. In other words, an insurer in the small plan market must spend at least 80% of the total premiums, as adjusted, on health care. The determination of the MLR ratio is based on the insurer’s aggregate experience in a particular state within a market segment (large or small employer). Since it is not based on a particular employer’s experience, an employer with favorable claims experience will not necessarily receive a rebate.
These requirements apply to all insured plans, whether or not grandfathered, but not to self-insured plans.
What May the Employer Do With the Rebate?
As a preliminary matter, the employer must determine if the rebate is a “plan asset” under ERISA. To the extent the rebate is a plan asset, it is subject to ERISA’s fiduciary requirements which require, among other things, that plan assets must be used for the exclusive benefit of providing benefits to participants and defraying reasonable administrative expenses. If the rebate is not a plan asset, it may be retained by the employer and used for general corporate purposes.
The Department of Labor has issued guidance (DOL Technical Release 2011-04) to help determine if the rebate is a plan asset:
- If the plan or a related trust is the policy holder, which is almost always the case with multiemployer plans, the rebate is a plan asset regardless of who has paid the premiums.
- If the premiums are paid exclusively with trust assets or by participants, the rebate is a plan asset.
- If the premiums are paid partly by the participants and partly by the employer, the portion of the rebate attributable to participant contributions is a plan asset.
- If the employer pays a fixed amount, such as 75% of the premium for single coverage, and the participants pay any remaining amount, the portion of the rebate up to the participant’s total contributions would be a plan asset.
To the extent the rebate is a plan asset, it may be used to provide refunds to participants, premium holidays or benefit enhancements. The guidance indicates that plan fiduciaries must act prudently and impartially. However, they do not need to reflect the exact premiums contributed by each participant -“rough justice” should suffice. It is appropriate for the fiduciary to utilize a cost-benefit analysis to determine the proper allocation of any rebate that is a plan asset. For example, the fiduciary may determine that is not cost effective to allocate the rebate to participants who participated during the year giving rise to the rebate but are now terminated. These rules are similar to the rules applicable to distribution of demutualization proceeds.
The DOL stated that where participant contributions are exempt from the requirement that they be held in trust as they are funded through a cafeteria plan, the rebate would not have to be held in trust if it is distributed within three months of receipt by the policyholder. It is not clear if a premium holiday could extend beyond three months without establishing a trust.
Taxation of Distributions or Premium Reductions
If the participant’s share of the premiums are paid with pre-tax dollars under a cafeteria plan, as is generally the case, the rebate, whether distributed as a cash payment or a reduction in future premiums will be taxable income and subject to employment taxes in the year of distribution or premium reduction.