How much health insurers actually spend on you

NEW YORK (CNNMoney.com) -- Consumers spend thousands of dollars a year on health insurance premiums, and the reform law aims to regulate just how much of that money insurers actually spend on medical costs.

Health care reform will require that commercial insurers spend at least 85 cents out of every premium dollar on medical claims for its large-group policyholders. For small-group and individual policies, the figure is 80 cents.

The remaining 15 -20 cents of each premium dollar can be used to pay expenses that do not directly benefit customers -- like payroll, advertising, overhead and profits.

To enforce this new health care spending requirement, which the industry refers to as the medical loss ratio, regulators are now trying to determine which costs should be classified as medical and which are administrative.

June 1 is the deadline for state insurance commissioners to submit their proposals to the Department of Health and Human Services outlining how various expenditures should be categorized.

The system that ultimately emerges could have a big impact on the medical care that many consumers receive. The new medical loss ratio requirements go into effect Jan. 1, 2011.

"Loss ratios in the health field are especially complicated," said Kim Holland, secretary of the National Association of Insurance Commissioners, which will submit definition suggestions to HHS.

"Companies use so many tools to manage care, and classification is not easy," she added. NAIC can't comment on specific services it's considering.

Many states already have minimum medical loss ratios, Holland said, and most take a "fairly conservative view" on what counts as health care -- but the criteria can vary widely.

At issue are medical services such as nurse hotlines, said Dylan Roby, researcher at the UCLA Center for Health Policy Research.

"[Currently] the hotlines are administrative, for people to ask symptom-related questions -- if they should go to the ER or not," Roby said. "If they started including nutrition help, or behavioral health specialists, maybe that becomes health care instead."

Such expansions and "re-definitions" will likely be common as a result of the law, Roby said.

Though there's nothing to stop insurers from jacking up prices in the short term in order to distort their medical loss ratios, Roby said, HHS will review rate hikes annually. He thinks this will give insurers incentive to keep premiums low.

"[Insurers] will really have to make a good case if they're reporting price increases," Roby said. "But HHS has to cull through all these reports and it comes down to the state to enforce the rules -- so if there's no publicity, maybe [enforcement] won't happen."

Bob Laszewski, president of consultancy firm Health Policy and Strategy Associates, fears the ratio setup is merely a "superficial" way to regulate care.

"The easiest way to have a high medical loss ratio is to let your medical costs soar," Laszewski said. "That's the simplest way for insurers to balance out high administrative costs. It's like chasing your tail -- completely counterproductive."

Another problem with regulating medical loss ratios, he added, is that insurers are discouraged from investing in administrative services -- like information technology and other medical management systems -- that could ultimately save consumers money.

"This will absolutely have unintended consequences," Laszewski said, "and the consumer will suffer."

If an insurer does not meet the minimum medical loss ratio, the company will be forced to refund the difference to policyholders.

For example, if an insurer collected $100 million in premiums for large-group coverage but spent only $75 million of these premiums on actual medical care, the insurer would have to rebate $10 million back to the policyholders.

Some companies have already run into trouble. Last month Anthem Blue Cross withdrew its request to increase premiums by as much as 39% for its California customers, because the hike would have meant that its medical loss ratio would be below the law's threshold.

For its part, WellPoint (WLP, Fortune 500) -- the largest health insurer by membership -- says it "wants to make this work for our [customers]," a spokesman said.

"We're preparing for a changing marketplace, but we think we'll develop a model that's successful," said WellPoint's Jon Mills. "It'll be a level playing field for all the companies involved."

Whether or not insurers have difficulty meeting the ratio depends on their ability to adapt to a changing industry, said the NAIC's Holland.

"In a market as dynamic as health care, innovation is imperative," she said. "Like any other product, some will win and some will lose. For consumers, that's not necessarily a bad thing."