An estimated 67% of insured workers are covered under a self-funded health plan, according to a 2020 survey by the Kaiser Family Foundation. And that number continues to grow. While large companies were behind the initial uptake of self-funding, companies with as few as 50 to 100 employees are now following suit.

Reasons for switching to self-funding arrangements typically include the potential for cost savings and greater control over benefits design.

But what does self-funding really mean for you?

Let’s take a closer look at the following reasons behind self-funding.

• Cost savings
• Flexibility and transparency
• Risk and stop-loss coverage
• Plan administration
• Other factors

Cost Savings

The potential cost savings are attractive because self-funding arrangements can be used for most major types of employee benefits, including:

• Medical
• Prescription drugs
• Dental
• Vision
• Hearing

To identify potential cost savings, start by examining how self-funding applies for common expenses.

Claim payments — With self-funding, you pay claims as they occur instead of paying premiums to an insurance company to cover future claims. These savings can be significant since insurance companies need to estimate health expenses and build in a cushion to cover higher-than-expected costs.

Claim reserves — Because you pay claims as they are incurred, you don’t need to keep the same amount of reserves as an insurance company that is contractually obligated to pay claims within a certain time frame. However, you will likely want to build up some level of reserves to ensure you can cover all plan liabilities.

Inflation — Your costs will reflect actual inflation. This can result in savings because insurance companies need to estimate inflation to build that cost into their pricing, and the projection may end up being higher than the actual amount.

Profit — With a self-funded plan, your goal is to reduce plan costs rather than build a profit.

Margin — You may want to add a margin to your budget in case you experience unexpectedly high claims. And smaller plans, which are prone to larger fluctuations in health care costs because of their smaller sample size, might want to build larger margins. But a key difference with self-funding is that you don’t spend this money until you pay a claim, as opposed to the cost being built into a premium for future expenses.

Taxes — Self-funded plans are exempt from certain state and federal health care taxes. Amounts vary by state, but these taxes combined can range from just 2% to 5%.

Flexibility and Transparency

Other reasons organizations may decide to self-fund include:

• Benefit choice and flexibility
• Claims transparency and management
• Data analytics capabilities

Benefit choice and flexibility — Self-funding can give you greater ability to design a plan that meets your financial and cultural goals. Instead of buying a packaged set of benefits, some of which may have low utilization, self-funding can help you pinpoint the benefits your employees want and actually use. In addition, state laws mandating certain benefit coverage for fully funded insurance plans do not apply to self-funded plans.

Claims transparency and management — Since you will be handling claims, you will see exactly where benefit dollars are being spent. This can help you aim health screenings and education toward costly or highly prevalent medical conditions among your employees. Similarly, if you identify chronic conditions like diabetes or high blood pressure, you can ramp up your disease management efforts. By monitoring usage statistics, you can also encourage preventive care and use of lower-cost providers.

Data analytics capabilities — With 24/7 access to plan information on eligibility, claims and payments, you can develop proactive ways to keep employees healthier based on their utilization rates and health care needs. Better understanding of health conditions brings the potential for customized risk management and reduced future health care expenses.

Risk and Stop-Loss Coverage

Assessing previous claims and the potential health risks of your employee population can help you determine expected costs and appropriate levels of coverage. But even the best data won’t protect you from a rare disease or outlier medical needs that can lead to catastrophic claims expenses.

With fully insured plans, insurance companies have the ability to pool their claims and spread risk among their entire book of business. In theory, a self-funded plan would result in you assuming financial responsibility for all claims. In practice, however, most plans purchase stop-loss insurance to cover claims that exceed a certain dollar limit.

The two main types of stop-loss insurance are:

• Specific stop-loss
• Aggregate stop-loss

With specific stop-loss coverage, you purchase coverage that protects your plan from a catastrophic individual claim. For example, you might purchase specific stop-loss coverage that takes on the risk for any employee whose claims go above $75,000 in a year. For example, if an employee developed a rare condition and incurred $250,000 in treatment costs, you would be responsible for $75,000 and the stop-loss insurer would cover the remaining $175,000.

Aggregate stop-loss coverage refers to a stop-loss amount for your covered employees as a group. If you expect claims of $1 million in a plan year, a typical contract for aggregate stop-loss coverage would limit your liability to 125% of expected claims. In this example, you would be responsible for $1.25 million in health care costs. Any amount above $1.25 million in that plan year would be covered by your stop-loss insurer.

Plan Administration

The three main types of administration for self-funded plans are:

• Self-administration
• Administrative services only
• Third-party administration

Self-administration — If you administer your own plan, you’ll need to handle all of these in house:

• Recordkeeping duties (e.g., plan eligibility and billing)
• Risk management
• Claims management
• Compliance regulations
• Actuarial duties (e.g., contribution and reserve levels)
• Utilization reviews

Administrative services only (ASO) — With ASO contracts, you hire an insurance company to take care of most, if not all, of the above services. In addition to their administrative services, these companies often provide care management and provider networks. Some ASO agreements bundle stop-loss coverage through the same insurer. However, this is not required. You can have an ASO agreement with one insurance company and a separate stop-loss contract with a different insurer.

Third-party administration (TPA) — You can also make TPA arrangements with organizations that specialize in handling administrative services for self-funded plans. Some TPA companies will handle all of the plan management themselves, while others will find and manage vendors to provide these services for you. TPA organizations often help you identify and purchase stop-loss coverage as well.

ASO and TPA contracts typically charge a monthly fee based on the number of employees enrolled in your plan. Prices will also vary based on the level of services provided.

Other Factors to Consider

In addition to plan design, plan administration and stop-loss coverage, other considerations for self-funding include:

• Claims predictability
• Company finances
• Associated costs
• Communications

Claims predictability — Organizations with consistent claims experiences from year to year are the best candidates for self-funding. It’s important to assess health risks in regard to your specific employee population to determine whether self-funding is appropriate.

Company finances — A strong financial base and sufficient cash flow will allow you to build up necessary reserves and handle cost fluctuations. Stop-loss insurance can make self-funding feasible for organizations with fewer assets.

Associated costs — Your plan should undergo an actuarial analysis to estimate the gain or loss in switching from fully insured to self-funded. This analysis should go beyond health care costs and account for staffing and administrative requirements, too. In addition, associated costs include start-up expenses like updating plan documents and potentially establishing a separate trust to hold health care funds.

Communications — Any changes to your health plan can cause concern among employees. You will need to develop a communications strategy to meet legal requirements and enhance your employee relations. Legal requirements may include summary plan descriptions, plan booklets and required notices. Multipronged messaging before, during and after the transition to self-funding can ease employee stress, advocate for wellness initiatives and encourage better use of benefits.

Moving Forward

If you’re considering self-funding, connect with us! We can help you assess your health plan and provide insights into administration, design and communications strategies.