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Health-Care Costs: HR's Crisis Has Real Solutions

Health care costs will rise as much as 16 percent this year. But by exposing employees to the cost consequences of their care, employers can rein in expenses.

June 20, 2002

In the United States, employers cover the cost of worker health care. If not exactly a right, then company-sponsored health benefits are certainly an expectation -- so much so that employees are accustomed to having their companies not only pick up the entire health-care tab, but also make major decisions about providers, insurance carriers, and coverage areas. As a result, the average American worker is blissfully ignorant about the enormous complexity and staggering cost of the U.S. health-care system.

This ignorance is expensive. Uninformed employees routinely choose higher-cost drugs without realizing it. They fail to manage chronic illnesses such as depression or diabetes, which leads to more costly medical care later on. They either head to the doctor at the first sign of a stomachache or neglect to go entirely. In the end, it's employers that pick up the tab for these ill-informed decisions.

The era of the uninformed health-care consumer, however, may be rapidly drawing to a close. Why? Because spiraling costs mean that employers can no longer afford to accommodate employees who don't make wise health-care decisions.

How much are costs rising?
Nationwide, health costs are expected to rise between 13 and 16 percent in 2002, representing the fourth consecutive year of major cost hikes and the highest annual percentage increase in 10 years.

"For the next three to four years, there will be no other inflationary area of business that will affect an employer's bottom line as dramatically as the predicted 15 to 20 percent annual growth in health-insurance premiums," says John Word, managing partner of CaliforniaChoice, a small group health purchasing
alliance based in Orange, California. In real numbers, a 15 percent increase on a $2,000 monthly premium will, over four years, raise that premium to $3,500. If the rate of increase is 20 percent, the monthly premium will more than double.

There are many things driving the meteoric rise in health costs. For starters, there's been a drastic escalation in prescription drug costs. Not only are there more drugs on the market, which naturally increases utilization, but consumers can also take more of these drugs in combination without side effects. Furthermore, direct-to-consumer marketing has been extremely successful in increasing demand for new drugs. "Today, about 70 percent of the people who go to the doctor and ask for a prescription because of an advertisement walk out with a prescription," says Randall Abbott, senior consultant with Watson Wyatt Worldwide in Philadelphia.

The continued development of life-saving technology also contributes to the rising health-care bill. Unlike other technology, health technology doesn't become less expensive over time, says Joe Luchok, communications manager of the Health Insurance Association of America, based in Washington, D.C. "Today, you can get a VCR for $99 that cost $1,000 20 years ago. That doesn't happen with MRIs."

America's aging population is another factor in escalating costs. Older people require more health care, and the health care they receive is typically more expensive than that delivered to younger people.

Far from helping employers grapple with rising costs, the government has actually added to the burden through state insurance mandates that force employers to provide certain kinds of coverage. There are currently more than 1,400 mandates across the states that cover everything from alcoholism and infertility treatment to oral contraceptives and wigs, according to a study by Blue Cross/Blue Shield. "Many of these mandated coverage areas are over and above what is considered by employers to be basic protection against illness or injury," Abbott says.

The terrorist attacks of September 11 -- combined with the ensuing recession -- have certainly not made the battle against rising health costs any easier. In fact, they may actually cause health-care benefit costs to rise faster than expected. There was a post-9/11 upswing in utilization of behavioral health and employee assistance plan services, as well as a rise in anti-anxiety and anti-depression prescription drug expenses. Layoffs are also contributing to escalating health costs by increasing the claim expense that companies face when their unemployed workers enroll for COBRA continuation coverage. "The dual effects of layoffs and the aftermath of September 11 will increase costs an additional 1 to 2 percent for companies nationwide, and 3 to 5 percent for metro New York companies," Abbott says.

For the last decade or so, employers have been able to keep the rise in health costs to a minimum by switching health plans, most notably from traditional indemnity coverage to some type of managed care. But managed care has reached a saturation point in its ability to save money through price discounts. "In recent years, most of the savings or flat costs in health care were because managed care has been able to evolve and cover more people," Abbott says. "But today, in most areas of the country, price discounts associated with managed care have been reached and the savings are over."

As a result, employers are beginning to realize that the only way to effect longer-term changes in the cost of care is to get employees -- the consumers of health care -- more actively involved in purchasing and utilizing health-care services. After all, one of the reasons medical costs keep rising is that consumers are separated from purchase decisions. Thus, there is no way to hold them accountable for utilization or costs. If companies are to have any hope of holding down cost increases, employees must be held more accountable for their health-care decisions. As Lou Cimini, senior vice president of HR and organizational performance for The Holmes Group, a manufacturer and distributor of small appliances in Milford, Massachusetts, explains: "The real change that has to occur is in the mind-set of employees from being passive to active consumers."

In fact, a recent survey by Hewitt Associates, a global management consulting firm, reveals that 61 percent of companies report being either somewhat or extremely comfortable with employees taking more responsibility for evaluating and selecting health plans, coverage levels, providers, and health-care services.

Building financial accountability
Employers are trying to increase employee accountability and at the same time reduce costs in a number of ways, the first of which is cost-sharing. Over the past three years, employers have taken a grin-and-bear-it approach to rising health costs. Instead of sharing a percentage of cost increases with employees, they absorbed the increases because they didn't want to risk alienating workers in a tight labor market.

Today, however, with unemployment rising and the economy in an official recession, employers are no longer willing to be so benevolent. According to a study by Watson Wyatt, a majority of employers (56 percent) report that employee contributions for health care -- through such things as payroll deductions and co-pays -- will increase this year. Furthermore, the amount of that increase is likely to be higher than the rate of inflation, as employers try to play catch-up for the last several years. "If costs go up 13.6 percent this year," Abbott says, "most employers will be increasing employee contributions by 20 to 25 percent."

Increasing employee contributions is not only a way for employers to relieve their cost burden, but also a way of encouraging employees to think harder about their health benefits. If they have to pay more for medical coverage, the hope is that employees may be prompted to move to less expensive coverage, to utilize spousal coverage through another company, to reduce their indiscriminate use of health services, and to choose lower-cost therapies.

Higher co-pays are also being applied to prescription drug coverage. Employers, if they haven't done so already, are migrating to pharmaceutical benefit plans that utilize drug formularies. Chris Robbins, principal, Arxcel, Inc., a consulting firm that helps employers manage prescription drug costs, says that formularies utilize a three-tier co-pay system. Employees pay the highest co-pay for brand-name drugs, a lower co-pay for less expensive medication with the same effectiveness, and the smallest or no co-pay for generics. This forces employees to decide for themselves whether it's worth it to use, say, Pepcid for heartburn as opposed to the generic alternative.

The cost-savings that result from these strategies can be impressive. John E. Scully, senior vice president, human resources, for ABN AMRO North America, Inc., the holding company for LaSalle Bank in Chicago, saw his company's health costs rise an alarming 20 percent this year. By asking the 25,000 employees to contribute 3 percent more toward their health insurance costs -- a jump from 21 to 24 percent -- and by asking them to pay a higher co-pay for non-generic drugs, he anticipates saving $1.5 to $1.7 million this year.

Toward more consumer-driven health benefits
Two years ago, companies began debating the benefits of defined-contribution health plans, in which employers give workers vouchers that allow them to buy their own health care. Employers quickly realized, however, that there were far too many obstacles in the way of defined-contribution plans becoming a reality: the vouchers would be taxable, the market infrastructure is not in place to allow individual consumers to buy medical insurance, and consumers are not very sophisticated when it comes to making decisions about health-care coverage. Still, employers liked the philosophy behind the defined-contribution model. They liked the idea of "defining," or capping, their annual per-employee health expenditures, and they liked fostering employee involvement in health-care decisions.

Fortunately, over the last couple of years, several alternative health-benefit approaches have hit the market that allow employers to do both these things without going so far as a defined-contribution voucher system. These approaches go by various names: consumer-driven health benefits, health-care asset management, and medical spending accounts. Providers include such company names as Definity, Lumenos, Vivius, and CareGain.

Despite the lack of a common lexicon, what these companies offer is similar: simplification of plans and administration, greater employee accountability, and more specific definition of health-care costs.

Definity, which is the best known of these new approaches, works with large self-insured companies like Minneapolis-based Woodward Governor Company, a provider of energy-control systems for industrial engines. Through Definity, Woodward purchased a high-deductible insurance plan for its employees. To help employees meet the cost of the deductible and purchase medical care throughout the year, Woodward established individual personal care accounts. Single employees, for example, received $1,000 per year with which to pay medical costs, whereas employees with families received $2,000.

Employees use these funds to pay for traditional medical care such as doctor visits and prescription drugs, as well as alternative therapies such as massage, chiropractic, and acupuncture. Whatever funds employees don't use during the year are rolled over to the next so that, over time, their health-care accounts grow in value. To discourage employees from avoiding health care altogether in an effort to save money, or choosing a face-lift instead of a pap smear, for example, the Definity plan provides 100 percent coverage of preventive health-care services. Furthermore, the personal care account is always maintained by Woodward. Employees don't have access to the funds for other uses.

If an employee's annual medical expenses do exceed the amount allotted to his personal care account, then insurance coverage kicks in. Employees will typically have to contribute an additional co-pay to reach the high deductible amount. Single employees, for example, who have $1,000 allotted to their personal care accounts, will have to pay an additional $500 out of pocket to meet the deductible. According to Chris Delaney, vice president of marketing for Definity, based in Minneapolis, 70 percent of employees will never reach the highest spending level.

To help employees make wise decisions about how to spend the dollars in their personal care accounts, Definity provides an extensive list of health and wellness information online. Employees at Woodward Governor, for example, can use the Definity site to search for providers in their region, check pricing for procedures, talk to nursing professionals, and determine the amount available in their personal care accounts. They also have online access to the consumer medical library at Johns Hopkins University.

"Getting consumers more involved and informed brings more pressure to bear on costs," Delaney says. Although the Definity approach is still in its infancy, self-insured employers such as Aon Corporation in Chicago and Medtronic, Inc., in Minneapolis, both of which have used Definity for the last year, saw employee utilization of services drop by 10 percent. If costs had held steady, that would represent a 10 percent decrease.

"This approach is about containing costs, and the only way we'll get there is if we keep the consumer involved, engaged, and concerned about their health-care benefit," Delaney adds.

CareGain, Inc., based in Princeton, New Jersey, offers a similar benefit for small and mid-sized employers. Under CareGain's "health care asset management" model, employers purchase high-deductible insurance plans for employees. The employers, however, require employees to pay only a small amount of the deductible. To fund the difference, employers establish personal accounts in each employee's name. This not only limits the employer's financial exposure but also provides a stop-loss mechanism for employees.

Amit Gupta, president and COO of CareGain, says that 75 to 80 percent of employees don't use health-care services worth more than $1,000 a year. At the end of the year, whatever is left in each employee's personal account is split between the employer and the employee. Unlike the Definity model, this allows employees to take their excess funds with them when they leave the company.

How much does the CareGain model save companies? "About 25 percent on average," Gupta says. He cites the example of one of their clients, a 100-person company that had a very generous health plan with premiums costing $800,000 per year. Going to a $2,500 deductible slashed premium costs to $490,000, a savings of $310,000. The company used $250,000 of that savings to fund the employee accounts so that each employee could have access to $2,500 for health expenses leading up to the deductible.

This represented a $60,000 savings right up front. If, over the course of the year, every employee used the $2,500 in his or her account, the net savings would still be $60,000. But chances are that the majority of employees will not even come close to that amount, creating a greater savings for the company by the end of the year. If only 30 percent of funds in the accounts is used, for example, the company would take the remaining 70 percent and split it with employees. This equals an additional savings of $87,500.

Besides saving money, what CareGain, Definity, and the other new consumer-centric health plans have in common is that they encourage employees to think harder about what they are spending their money on and, in the process, to become more educated about the health-care delivery system. Both of these elements are necessary if employers are to have any hope of reducing the amount of health cost increases.

People have always looked at health-care purchases differently than other purchases because they've had no skin in the game. But by increasing payroll contributions and co-pays, and by giving employees accounts with which they can manage their own medical expenses, employers are hoping to change this model. Company provided health-care coverage may be an expectation in this country, but today's employers do have rights to a few expectations of their own.


Cartoon by Marc Tyler Nobleman.

Workforce, February 2002, pp. 28-34 -- Subscribe Now!