Decoding Health Care

Part 3: Medicare

Over the last 100 years, almost every US president has attempted to leave his mark on health care. Most have failed. Once Social Security was passed, FDR wanted to turn his attention to health care but the depression and WWII got in the way. Both Truman and Eisenhower had plans but couldn’t get it done. Even JFK was stymied. This is not to say there wasn’t any health care legislation passed during their terms, but they were blocked by partisan disagreements as well as stakeholder pushback (sound familiar?).

That is until LBJ. When LBJ was elected to his first full term, he brought with him Democratic majorities that enabled him to succeed. He also found a way to get partisans and stakeholders in a room to compromise (something unfathomable today). The Republicans, labor, hospitals and physicians all had issues with national health insurance for the elderly. The compromise was possible because of general agreement on the problem and the potential solution.

The problem was the cost burden of illness on the elderly: they were post employment and had no employer sponsored health insurance; they had more medical problems than young people; more medical care was being delivered; and it was becoming expensive. Medicare, national health insurance for the elderly, was the solution. Although established at the same time, Medicaid is altogether different. Medicaid was established by an amendment to the Social Security Act. Medicaid was intended as a safety net program for the poor, especially women and children. It wasn’t a national program, it was a partnership between the federal government and individual states. And ultimately it did more than Medicare in ways not traditionally thought of as health care like paying for custodial nursing home care. Because it is so different, we will cover it in the next post about the Affordable Care Act (or Obamacare).

Medicare and Medicaid have been key components of how health care is delivered and paid for. Approximately 90% of Medicare beneficiaries like their health benefit; in a recurring theme, the more medical problems you have the less satisfied you are. Medicaid beneficiaries are not nearly as satisfied, but their benefits (and even their eligibility) vary greatly from state to state and so it is probably a mistake to lump them altogether.

About 40% of all Americans get their insurance through either Medicare (about 20%) or Medicaid (20%). This number is increasing because of the aging of Americans. Within the next several years it is projected that these two programs will insure over 50% of Americans. About 75% of Medicare aged Americans have a basic understanding of what Medicare is , but when you drill down you find the knowledge is fairly superficial (https://www.wsj.com/personal-finance/retirement/5-mistakes-medicare-plan-a26d73fb). This becomes evident as people are forced to make decisions about what type of Medicare coverage they want as they approach 65. I should know; I am 64 and I am struggling with this right now. For example, it is a common misconception that Medicare is free. Medicare was never free. And Medicare doesn’t pay for all of your health care. In fact, it pays for about half of a Medicare aged individual’s health care expenses in a given year. So let’s start with the basics.

Medicare has four components, Parts A, B, C and D. When Medicare started in 1965 it was just A and B.  Part A is responsible for hospital costs; it is also responsible for skilled nursing facility costs (nursing homes that also do rehab or other medical care like wound care or antibiotic administration), some home health care costs, and hospice. Part A is a very generous insurance benefit. After paying a deductible of $1600 per year, up to 60 days of hospital care are covered without cost to the beneficiary; also up to 20 days of skilled nursing facility charges are covered. For most beneficiaries there is no Part A premium. Hospice is also covered without a deductible or cost to the beneficiary, but there are restrictions on care. Medicare Part A is funded by a payroll tax paid by every working American. This tax on wages (2.9%) is equally split between the employer and the employee (if you are self employed you pay all 2.9%); if you make more than $200K, the employer withholds another 0.9% of wages over $200K. To qualify for Part A, you must pay into Medicare for 40 quarters (10 years). If you do not, in order to get the Part A benefit you must pay a premium (just like with commercial insurance) of about $500 a month.

There is one big problem with Part A: the Medicare trust fund is going broke. The combination of an aging population (and so more Medicare beneficiaries) as well as the rising costs of hospital care have resulted expenses that exceed the amount of money the government collects from payroll taxes. Various projections identify the date of Medicare Part A insolvency as being 2031. The solutions proposed to fix this financial shortfall are common fodder for political debate; many involve pushing back the age at which retirees can access Medicare. Needless to say these are politically radioactive.

Medicare Part B covers physician and outpatient costs including physician administered drugs like chemotherapy. To receive the part B benefit you must pay an added monthly premium (which is typically deducted from your Social Security benefits). The premium is about $160 a month for the average American but is adjusted up based on your income and can reach $500 a month. In addition, for any part B service, the beneficiary is responsible for 20% of the Medicare negotiated allowed charges (coinsurance). This can add up to lots of money. Let’s say you are receiving chemotherapy that costs $15,000 a dose (each month), not an unusual circumstance. You will be responsible for $3000 each month or $36,000 a year. Ouch.

To manage these out of pocket costs, 85% of all Medicare B beneficiaries get coverage through a “secondary” insurance (a Medigap policy). For the poor elderly, the secondary insurance is Medicaid (these beneficiaries are called dual eligible). For people who chose Medicare Advantage (MA), this secondary insurance is part of their MA benefit. And for others, the secondary policy is purchased from a commercial insurance company. The key point is that for part B there is NO max out of pocket, and without secondary insurance you could be bankrupt pretty fast. The amount paid by beneficiaries for their part B benefit (including premiums and coinsurance) comes nowhere near to the cost of care delivered. In fact, beneficiary contributions cover only about 25% of expenses; the American taxpayer pays for the rest. Part B will never go bankrupt for this reason. But because of the associated tax burden, as with part A, ways to reduce costs are being explored including changing age of eligibility and increasing premiums.

Medicare Part C is Medicare Advantage. MA really started in 1997 and was called Medicare + Choice and was renamed Medicare Advantage in 2003. Since then it has grown dramatically and is how close to 50% of Medicare beneficiaries currently receive their Medicare benefit. Its popularity reflects its consumer appeal: you get everything in Parts A and B, you get a prescription drug benefit (like in part D), and you get other stuff like dental and vision. And you get all of this without paying a lot more than your original part B premium (sometimes the added premium is zero).

How can this be? Most MA plans are part of large commercial health plans. These commercial health plans are responsible for administering the Medicare medical benefit. They are paid by CMS an annual amount “equal” to the projected costs that beneficiary will incur. In order to “get it right” CMS allows the MA plan to risk adjust the payment (because sicker people cost more); the MA plan is also paid more if they do well on quality measures that have been identified by Medicare (like cancer screening rates, for example). In addition, MA is allowed to use many of the strategies from their commercial health insurance play book like prior authorization and network management mentioned in my post on employer sponsored health insurance; these strategies are not available to traditional Medicare. Although MA is technically required to “cover” everything Medicare does, they can make it tough to access these services.

MA is very lucrative to commercial health plans. In fact, it is the most rapidly growing insurance product. There has been a lot of controversy about MA plans “cheating” the government by misusing the risk stratification to their advantage. MA patients on average DO cost the government more than traditional Medicare patients. But this is a system the government built, so to some extent they are responsible for any overpayment. In addition, MA plans have become very aggressive in excluding expensive hospitals from the network and making it hard to get expensive medications. All of these MA behaviors are under intense scrutiny from Congress and changes are certain. But if you are relatively healthy older American, MA can be a great deal. If you have a lot of medical problems, not so much.

Part D is the Medicare prescription drug benefit, covering self-administered prescription drugs, mostly oral medications. It was not present in 1965, probably because there were so few expensive oral drugs but this changed. Part D took effect in 2006 as a result of the 2003 Medicare Modernization Act. It has proven complicated and somewhat controversial. In order to get Part D you must sign up for it at an extra cost. As a stand alone this costs about $35 a month. If you have MA, prescription coverage is usually included in the MA benefit. The Part D benefit is administered by commercial health plans that contract with the government.

Part D has always employed complicated cost sharing with contributions from the beneficiary, the health plan, the pharmaceutical company, and CMS. Typically, there are 4 phases: a deductible phase (about $500, completely out of pocket); an initial coverage phase where some of the cost is paid by the insurance company and the beneficiary either pays a copay (a fixed fee, like $10 per generic) or a coinsurance (a percent of the prescription cost), up to about $5,000; a coverage gap (or donut hole) in which the beneficiary pays a percent of the cost of all scripts; and the catastrophic phase (which starts at about $8,000) during which the beneficiary pays 5%. During the catastrophic phase, if you are poor you can qualify for the low income subsidy which covers everything. If you are not you pay 5% per year forever. All of this changed with the Inflation Reduction Act which eliminated the catastrophic phase and capped the beneficiary out of pocket at $2000. This is great news for Part D beneficiaries. These changes come at the expense of the insurance company and the pharmaceutical manufacturer.

Part D plans are very cognizant of drug costs. Just as with MA, they have aggressively managed what drugs are on the formulary (by negotiating rebates from manufacturers when there are multiple drugs in a class that might be thought of as interchangeable). They can require “step therapy” where a more expensive drug can only be used if an inexpensive one fails. They have also increased the cost sharing contribution for expensive drugs. And all of these can change on a year by year basis depending on what kind of deal the Part D plan gets. This got ridiculous in the case of insulin where there was constant negotiating at the expense of beneficiaries. Although the insulin problem has been fixed by the Inflation Reduction Act, beneficiaries need to be on constant watch for changes to the formulary and coverage policies. Because this information can be difficult to obtain, people can go nuts trying to make sure their medications are covered. It’s a case of buyer beware. The Inflation Reduction Act should make this a lot better.

How does Medicare do their job? Although there is a really big building in Baltimore that houses much of CMS administration, that is NOT where the majority of coverage decisions are made and is NOT where most of the bills are paid. Let’s start with coverage policy. By statute, Medicare covers items and services that are reasonable and necessary for the diagnosis or treatment of an illness or injury. But CMS “central” only makes coverage decisions that impact the entire country, called National Coverage Determinations (NCDs), on a very limited number of medical services. An NCD is a big deal, and includes an exhaustive review of the evidence and binding recommendations regarding coverage. This can take up to a year or more to complete and implement. It’s usually reserved for things that are expensive, controversial or really innovative.

Most administrative roles including coverage policies are determined by the Medicare Administrative Contractors (MACs) using local coverage determinations (LCDs). MACS are usually subsidiaries of large commercial insurance companies. They were established at the birth of Medicare to satisfy hospitals who did not trust the federal government to do things right. So the administration of the medical benefit was delegated to local health plans that were deemed more trustworthy. Initially there were over 100 MACs, many doing only Part A or Part B. Over time, with insurance company consolidation, this number fell and with the Medicare Modernization Act of 2003, 12 regional MACs were established.

MACs make decisions that they feel are consistent with the Medicare statute and they get input from Medicare central as well as each other. But not all MACs agree on everything. Sometimes coverage is really consistent across the board. For example, if a chemotherapy drug is FDA approved, in general, CMS covers it. However, the same is not true of lab tests or a lot of medical devices. So MACs wield a lot of power. And remember, Medicare does not use prior authorization (except in rare circumstances) so hospitals and doctors must pay close attention before delivering a service or they won’t get paid.

MACs also pay the bills. This is a little more straightforward. Medicare has a national price list, or fee schedule. This is adjusted every year, and there are correction factors based on geography. Since 1983, inpatient costs (borne by Part A) have been paid by Diagnosis Related Groups (DRGs) which are a fixed payment (defined prospectively) for treatment of a given medical condition; there are currently over 700 DRGs. In 2007, CMS decided to allow hospitals to adjust the DRG based on the complexity of care the patient requires. So for example, there might be a DRG for an appendectomy, but if the patient has COPD or peritonitis the amount paid increases. Initially hospitals hated DRGs but they have made the system work for themselves. In fact, they have hired armies of nurses to make sure documentation in the medical record can support a higher complexity of care.

Outpatient care is also paid for based on a national fee schedule. There is a fee schedule that reimburses hospital outpatient departments for care (HOPPS) that works a lot like DRGs. In doctor’s offices, physician services are paid under a national physician fee schedule as well. The amount doctors get paid by Medicare is negotiated by a group of physicians and Medicare. It is based on physician work, practice overhead and liability insurance. The physicians who help Medicare set the rates represent a broad swath of medical practice, but in general specialists are over-represented compared to primary care doctors. That explains a lot about why primary care doctors are underpaid. The payment for medical services involves a somewhat complicated process of electronic submission of a “claim” that enumerates all care rendered. But the MAC’s are super efficient and pay promptly so most doctors don’t have a lot of complaints about this system.

What doctors and hospitals do complain about is how much they get paid. It is generally agreed that Medicare payments do NOT adequately cover the cost of delivering care. In fact, Medicare pays about 85% of what it costs to deliver care, while commercial insurance pays about 150%. In other words, doctors and hospitals would go out of business (or at the minimum be very different than they are today) if it were not for the fact that costs are routinely shifted to commercial health plans. For Medicare this means constant economic stress .

The US spends a lot on healthcare and it is increasing every year. One approach health care economists have suggested might slow this trend is to move away from “fee for service” to alternative payment models like accountable care organizations. In fee for service, you get paid for everything you do as long as it fits Medicare guidelines for reasonable and necessary. If you do more you get paid more. This has the potential to create a perverse incentive. An alternative approach is to pay physicians for managing a population of patients, particularly based on the health outcomes achieved. This is the basis of many current experiments in Medicare payment. These are so named because the care provider organizations are held “accountable”for the cost and quality of care provided. The early results have been mixed at best but this still remains the number one idea for reforming Medicare.

Medicare presents the interesting paradox of a system beloved by older Americans and hence a “sacred cow” for politicians while an incredibly complicated and imperfect way of paying for medical care. One thing is certain. Medicare in its current formulation will need to change. 90% of Medicare dollars are spent on 10% of the Medicare population. We are doing a very poor job of taking care of these people, the elderly with chronic illness. We are doing an even worse job of taking care of poor people. We will address that in the next post.