• Medical loss ratios: And the formula is …

    There’s lots being written about medical loss ratios since the issuance of rules about it by HHS yesterday. I’m largely not reading about it because I’m waiting for someone to just write down the formula.

    Like it or not, this is math. The loss ratio is a fraction. The numerator includes the costs that are considered “medical expenses” (or some similar language). The denominator includes premiums less some things like taxes. I think in math. I can handle the math. I want the math.

    I know there are different formulas for different situations, I’ll settle for a good approximation or the one or two that cover the majority of cases.

    Kevin Outterson, a law professor at BU occasional poster here, told me that lawyers don’t do equations. I’d love to prove him wrong. Or maybe some non-lawyer will write or has written the equation. If you see it out there, tell me. One equation is worth 1,000 words to me and would save me hours of time reading and trying to remember how the loss ratios work.

    (Yes, I could read up on it and produce the equations. I’m busy. I’d like to outsource this one. Who has done it? Who will do it?)

    • Loss ratio = (claims + activities to improve health care quality) / (premiums – total federal income taxes – state premium taxes and assessments + federal income tax on investment income)

      The last piece of the denominator is just to reflect that while federal taxes can be deducted from the denominator, taxes paid on invest income cannot. “Activities to improve health care quality” has a fairly strict set of criteria for what can be included, define din detail in the regulations. There are a whole new set of statutory exhibits and reporting requirements (which for my team and our accountants and lawyers creates a very significant amount of new work, making it harder to meet the MLR requirements, go figure) to disclose how premium dollars are being spent.

      The MLR is calculated at the state and legal entity level. There are also credibility adjustments based on the size of a given block of business and the average deductible. If a block has >=75K members in a given year, there is no credibility adjustment. If a block has <1K members, the MLR requirements do not apply. Between 75K and 1K you can get from 2-14% relief to account for the variability of smaller pools.

      In 2011 the MLR is based on one year. In 2012 it is based on 2011-12. In 2013 and beyond you pool three years of experience, including the member counts that determine credibility. If all three years of pooled experience are below the 80% requirement you no longer get a credibility adjustment. When pooling experience across years you include rebates paid in prior years in the numerator to avoid double-counting (this was a late addition that almost did not get in, which would have been ridiculous, thanks to American Academy of Actuaries for fighting for that one).