By Grace Totman, Capstone healthcare analyst

March 1, 2023 – Nearly half of all seniors are now enrolled in Medicare Advantage (MA), the private alternative to traditional Medicare. MA attempts to both reduce costs and improve healthcare by paying private insurers a capitated amount for each life. The goal is simple: spend under the amount given and the insurer makes money, spend over and they are on the hook. Ideally, this motivates insurers to invest in preventative healthcare to mitigate unnecessary costs like trips to the ER, benefitting both their bottom line and the patient.

Medicare Advantage was designed as an extension of the traditional Medicare program; another option for seniors looking for healthcare coverage. However, the programs are increasingly different from one another. In addition to the standard benefits covered by traditional Medicare, MA plans often provide supplemental benefits such as dental, vision and hearing, as well as non-health related benefits like pet insurance, transportation, and meal delivery. Most MA plans now also come with drug coverage, and many include robust care coordination services. All of this means the average MA plan now hardly resembles traditional Medicare coverage.

In addition to the plans themselves looking very different from traditional Medicare, the populations are diverging. The rise in creative benefit offerings in addition to a cap on patient spending has made MA particularly attractive to older seniors with chronic illnesses and those with lower incomes. As a result, the MA population over time has become older, sicker, and poorer.

And all the while MA plans have diverged from traditional Medicare, it’s also experienced tremendous growth. While the number of MA lives as a percent of the total Medicare population is just under 50% nationally, it’s much higher in certain areas such as Florida and Puerto Rico, where penetration is 55% and 83% respectively. So far, this growth has been great. Insurers—and investors—have benefitted from strong membership gains and seniors continue to love the program. However, in this instance, growth is a double-edged sword.

The issue? MA insurer payments are based on the traditional Medicare population. If the average traditional Medicare patient with diabetes correlates to $5,000 in diabetes spending annually, the government believes MA insurers should be given $5,000 for patients with diabetes. This is a massive oversimplification, but you get the idea (Read More: Healthcare Weekly: Understanding the New Medicare Advantage Risk Model).

When the MA program was relatively new and therefore small, this worked well. Most Medicare-aged people were in traditional Medicare and therefore the population used to calculate MA payments was a good reference. However, as the program has grown, it no longer resembles traditional Medicare. A traditional Medicare patient with diabetes might correlate to $5000 in diabetes spend annually, but their MA counterpart is more likely to be older and generally less healthy, making their diabetes potentially more expensive. The rise of innovative payment models in traditional Medicare further contaminates the population. As MA continues to grow and more markets look like Puerto Rico, the entire payment model will become obsolete.

When you think about it, this system is entirely different from other insurance models. In a typical insurance arrangement risk is assessed and underwritten based on a specific person’s attributes and risk profile. In MA, however, seniors are underwritten using an entirely different population as a benchmark. With Puerto Rico’s current MA penetration, MA insurers are paid using just 17% of the Medicare population as a benchmark. As MA continues to grow in popularity, this issue will only be magnified.

The long-term solution is a wholesale decoupling of MA payments from traditional Medicare. However, this requires time, money, and an act of Congress—all big asks at the moment. Near-term, administrative action is the only solution. In their recent announcement of 2024 MA payment rates, the government updated the underlying data they use and redid how they classify diagnoses. They also acknowledged, for the first time, the potential for significant differences in the populations. While the primary goal of this acknowledgement was to avoid MA plans being overpaid, and not the opposite, it marks the beginning of a long journey of policymaking conversations that Capstone believes will ultimately lead to the decoupling of the programs. This payment decoupling has long been thought of as a worst-case scenario for insurers; the beginning of the end.

We don’t take that view. Instead, we think the decoupling will ultimately mean a more stable rate environment without the threat of contamination. The frontrunner decoupling policies right now seem to be either an administrative benchmark which is adjusted annually based on economic indicators, or a competitive bidding process where insurers bid against one another for payment rates, which should favor the large incumbent insurers; UnitedHealth Group, Humana, and Elevance. However, conversations are early, and lawmakers will likely consider a multitude of decoupling options. What’s clear is that MA enrollment is going nowhere but up, and that decoupling is inevitable.

In the meantime, Capstone will continue to follow the program closely and keep investors in the loop.