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Mixing up a better benefit: the 2003 Medicare Prescription Drug Act offers a subsidy that can save employee-benefit plan sponsors up to 25% on plan costs. Declining the subsidy and taking a different approach could save even more.

Senior citizens are not the only beneficiaries of the 2003 Medicare Prescription Drug Improvement and Modernization Act. The legislation also offers sponsors of qualified retiree medical-benefit plans, who are often the former employers of the retirees, new opportunities that can significantly reduce their costs. Employee-benefit managers and plan trustees are scrambling to evaluate the changes effected b the act and assess their options

Beginning Jan. 1, 2006, most plans will be eligible to receive a federal subsidy for their pharmacy benefit. These subsidies will typically amount to 15% to 25% of total retiree medical and pharmacy plan costs. But more significant changes can be made to the retiree benefit that could save plan sponsors even more while maintaining the benefit level for retirees.

The number of companies that offer retiree medical benefits has been on a steady decline in the past 10 years. Benefit plan expenditures are spiraling up and out of control. The combination of unprecedented medical-cost increases and demographic shifts in the population has created an unexpected financial burden for many companies and sometimes for insurers who might be taking on the risk and issuing coverage tinder a traditional policy or serving as a third-party administrator for self-insured plans.

The new options promised by legislation are arriving just in time to possibly save medical benefits for many retirees.

The Federal Subsidy

The 2003 Act includes a provision for a federal subsidy in order to encourage plan sponsors to continue providing a retiree pharmacy benefit. Qualified sponsors will receive 28% of the prescription drug costs for eligible beneficiaries between $250 and $5,000.

Details to Note Include:

* A qualified plan is at least actuarially equivalent to the Medicare Part D benefit. The plan sponsor must provide an annual attestation.

* The beneficiary must be eligible for Part D benefits, but not sign up for Part D in order for the plan sponsor to receive the subsidy.

We estimate that the federal subsidy will be equal to 15% to 25% of the total post-65 retiree medical (including pharmacy) costs for most plan sponsors. A variety of factors will impact the final subsidy calculation and the savings percentage realized. These issues include the level of cost sharing, exclusions from plan coverage and retiree utilization levels, just to name a few.

The Opportunity

The introduction of Medicare Part D creates an opportunity for plan sponsors to use all of the federal coverage that will be available and supplement it with a wrap plan to save even more money. In fact, a plan can be designed that has equal or better retiree benefits and a lower cost to the plan sponsor than maintaining the original plan and receiving the subsidy. Tables for "Original Plan (2006 Estimate)" and "Modified Plan (2006 Estimate)" (page 108) illustrate how this might work.

The starting retiree benefit level in the "Original Plan" covers 75% of what Medicare does not cover (prescription drugs) or the cost sharing required by Medicare (deductibles, coinsurance, etc.). Retirees contribute $40 a month. The net cost to the plan sponsor is $2,295 (assuming it qualifies for the federal subsidy) and the net cost to the retiree is $1,605 (contribution and cost sharing).

The federal subsidy will lower the net cost by approximately 20% in this example. An alternate approach would be to have the retiree enroll in Part D and supplement the coverage with a wrap plan to get the aggregate benefit back to its original level.

In the "Modified Plan" example, the plan sponsor drops its contribution requirement on the retiree benefit so that the retiree has funds to pay the Part D premium ($35 per month). The cost savings jumps to 25%. Notice that the retiree benefit remains constant in the two examples (75% of medical/pharmacy costs covered and a total out-of-pocket cost of $1,605 on average).

The net cost to the plan sponsor drops from $2,295 (shown in the first example) to $2,165. This creates an incremental saving of $130 for the plan that is paid for by the federal government. The saving occurs because Part D is used to provide primary coverage rather than settling for the subsidy.

The specific changes that need to be made will depend on a variety of factors, including the current plan design and the plan sponsor's objectives. In many situations the plan sponsor can achieve a greater savings by using a Medicare wrap plan than by keeping its current plan and receiving the subsidy. Here is a summary of this example:

* 2006 expected cost (prior to new legislation): $2,895

* 2006 expected cost with federal subsidy: $2,295 (20% reduction)

* 2006 expected cost with modifications: $2,165 (25% reduction)

A wide variety of factors will impact the analysis and determine which approach will save your company the most money. These factors include the current plan design (especially cost sharing), the retiree contributions and the administrative costs associated with each option.

Potential Issues

Perhaps the biggest issue with implementing major changes is the impact on the retirees (even if the benefit levels remain the same). If Part D is the primary source of coverage, retirees may have to submit claims to receive their secondary benefit. Offering seamless coordination is possible, however, and will minimize the impact on them. Private drug plans can offer plans that are at least actuarially equivalent to the standard Medicare Part D benefit. This means that retirees will be able to choose a copay style private-drug-plan benefit. The supplemental plan can then be coordinated so that the retiree is simply paying the same copay that he or she is accustomed to paying.

Private drug plans that will be offering Part D services also will be able to administer a wrap program. Pharmacy benefit managers are working with their claims processors to make this easy to understand and use. This means that the claim can be adjudicated when the prescription is filled so that the retiree will not have to fill out paperwork and submit claims for reimbursement. Plan sponsors can help out by advising their retirees what plans are available to them that will offer coordination of benefits at the pharmacy.

Tax Treatment and Risks

The tax treatment of the subsidy also must be included in the analysis to determine the best course of action for a plan sponsor. This may cause the subsidy option to become more attractive than the other for companies that pay a 35% marginal corporate tax rate, but the companies that adopt the wrap program approach will have fewer administrative costs and risks. These include mandatory retiree communications, annual certifications, and the risk of federal audits, all of which are present for companies that seek the federal subsidy. A careful analysis is necessary to outline the financial impact of each option as well as retiree relation issues and administrative costs.

What Should You Do?

Plan sponsors should be evaluating their options in light of the new legislation.

We recommend the following steps:

* Evaluate whether or not the current plan is likely to qualify for the subsidy. If it does not, you may be able to make minor changes that would make it a qualified plan so that you are eligible for the subsidy.

* Determine if there are other options that could save even more. Making Part D primary may make sense for many plan sponsors. A wrap plan can be designed to help achieve virtually any level of cost sharing for the retirees.

* Consider all options available and decide on the best course of action for your company. This will involve discussions between human resources and finance professionals at a minimum.

* Develop a communication plan to support the changes that you plan on making. Even if you keep your current plan it is important to educate retirees so that they do not sign up for Part D (or else you will lose the subsidy). If you are making changes, then more extensive illustrations will help retirees understand their benefits.

This is a unique opportunity to reduce retiree medical costs and the liability associated with the benefit. Acting now will improve the financial strength of your company and increase the likelihood that your retiree benefit will be affordable in the future.
Original Plan (2006 Estimate)

 Expected Benefit Plan Beneficiary
 Cost Level Cost Cost

Contribution $-480 $480
Medical Benefit $1,500 75% 1,125 375
Rx Benefit 3,000 75% 2,250 750
Totals 4,500 2,895 1,605

Subsidy -600
Net Cost $4,500 $2,295 $1,605

Modified Plan (2006 Estimate)

Contribution $-60 $480
Medical Benefit $1,500 75% 1,125 375
Rx Benefit 3,000 25% 1,100 750
Totals 4,500 1,695 1,605

Subsidy 0
Net Cost $4,500 $2,165 $1,605


Medical Benefit
Rx Benefit

Subsidy $600
Net Cost $600

Modified Plan (2006 Estimate)

Contribution -$420
Medical Benefit
Rx Benefit 1,150

Subsidy 0
Net Cost $730

Source: Steve Kaczmarek

A Third Option

On July 26, 2004, the Centers for Medicare & Medicaid Services issued proposed rules that provide operational guidance for the implementation of programs covered by the Medicare Prescription Drug, Improvement and Modernization Act. These rules will impact both plan sponsors (often the former employers of retirees) as well as insurance companies that may offer private prescription drug plans (PDPs). In addition to the two options for plan sponsors compared in this article, the rules outline a third option for plan sponsors to apply to be a PDP sponsor for their retirees or to contract with a PDP sponsor so they may enroll their retirees into its PDR

Key Points

* Beginning Jan. 1,2006, most employee-benefit plan sponsors can receive a federal subsidy for their retiree pharmacy benefit.

* In many situations, the sponsor can receive a greater savings by having the retiree enroll in Medicare Part D and supplement the coverage with a wrap plan.

* Plan sponsors must consider potential tax issues when deciding which approach to take.

Steve Kaczmarek is a Fellow of the Society of Actuaries and a Member of the American Academy of Actuaries. He works for the Hartford office of Milliman Inc.
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Title Annotation:Medicare
Comment:Mixing up a better benefit: the 2003 Medicare Prescription Drug Act offers a subsidy that can save employee-benefit plan sponsors up to 25% on plan costs.
Author:Kaczmarek, Steve
Publication:Best's Review
Geographic Code:1USA
Date:Sep 1, 2004
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