Insurers in the small-group health insurance market have asserted consistently. DataWatch

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1 DataWatch The Questionable Value Of Medical Screening In The Small-Group Health Insurance Market by Judith Glazner, William R. Braithwaite, Steven Hull, and Den n i s C. Lezo tte Abstract: Insurers perform medical screening to assess risk for health insurance in the small-group market. Most reform proposals eliminate screening because it denies coverage to those who need it. This DataWatch empirically analyzes the value of medical screening to insurers. We analyzed claims of two employed populations covered by a large insurer-one screened and the other not screened. We found no significant difference in the amounts claimed by these two populations over six years. This suggests that medical screening could be eliminated in the small-group market without an increase in premiums. Insurers in the small-group health insurance market have asserted consistently that their financial stability depends on their ability to classify applicants on the basis of their health risks, thus avoiding excessive risk. 1 Empirical evidence to support medical screening of employed applicants for health insurance as a classification tool is lacking, however, in part because critical data are owned by private insurers, are proprietary, and are therefore unavailable to the public. To explore this issue, we obtained claims and administrative data from a large insurer ($365 million per year in health insurance premiums) operating in all fifty states and specializing in the small-employer market (firms with fewer than fifty employees). 2 It is the twenty-first largest group health insurance company in the United States and is thirteenth in the small-group market. We examined this insurer s medical claims experience over a six-year period ( ), during which it screened the employees of some small firms but not of others. Employee records indicated whether an employee was screened; analysis of the claims of the screened and nonscreened groups provides the empirical evidence needed to evaluate the utility of medical screening. Judith Glazner is associate director for health policy at the University of Colorado Health Sciences Center. William Braithwaite, an associate professor in the Department of Preventive Medicine and Biometrics, University of Colorado School of Medicine, is on temporary assignment to the Assistant Secretary for Health, U.S. Department of Health and Human Services. At the time of the study, Steven Hull was a research assistant in the Department of Preventive Medicine and Biometrics; Dennis Lezotte is an associate professor in that department.

2 D ATAWATCH 225 Our primary hypothesis was that there was no difference in the amount claimed per employee per quarter by screened employees in comparison with nonscreened employees. Our specific objectives were (1) to compare the average quarterly dollar amount of medical claims per employee in a screened population with that of an unscreened population; and (2) to evaluate the claims differences among subgroups by comparing claims data for screened and nonscreened groups separately by sex, age, and different deductible amounts and coinsurance percentages. Underwriting Practices Medical underwriting is part of an insurer s application evaluation process, to determine the risk status of applicants, to decide whether to approve applicants at all, and, if approved, to price the policy in accordance with an applicant s risk. Only one type of prospective medical underwriting, medical screening, is explored in this study. Medical screening in the smallgroup insurance market usually consists of requiring workers in firms applying for health insurance to complete a questionnaire about their health history. Information can be gathered from other sources, such as an attending physician or the Medical Information Bureau in Boston, a national organization that maintains data on negative answers to health screening questions included on life and health insurance applications. The insurer we studied used all of these screening methods during the study period. Another underwriting technique is using risk-finding questions on the master application completed by the employer to determine if an employee has had recent high medical expenses or serious illnesses. The insurer we examined asked two risk-finding questions for all applicant firms, whether medical screening was required or not. 3 If the master application indicated that an employee had incurred high medical expenses in the past year, the entire company could have been denied coverage. This occurred in less than 1 percent of the cases, however. Another form of underwriting that has attracted recent notice is industry redlining, the refusal to cover industries that underwriters think pose inherent risks (for example, crop dusting and construction) or attract employees with risky lifestyles (for example, health clubs and ski lodges). The insurer in this study engaged in industry redlining, although its list of prohibited industries was shorter than those of other insurers we examined. Informal medical underwriting is regularly performed by experienced agents and brokers who decline to submit applications for individuals and small firms that they know will be screened, if they think that the risks posed by the applicant are too high to insure. This practice is not documented, but agents and brokers acknowledge that it occurs. 4 Because the

3 226 HEALTH AFFAIRS Summer 1995 company never sees applications from firms that are screened out informally, information about these firms is unavailable. Since there is no incentive for brokers to screen groups that will not be screened by the company (they would forgo a guaranteed commission by doing so), we believe that this practice occurred only for groups that would be screened. In addition to these prospective underwriting techniques, insurers may use retrospective methods, particularly experience rating, which bases future premiums on the amount of medical care a group actually has used in the past. During the study period, the insurer we examined engaged in limited experience rating but believes that it had little effect on the proportion of firms that renew their coverage each year. 5 Insurers also include preexisting condition clauses in their contracts with employers that exclude coverage for conditions that existed before the effective date of coverage. All policies sold to the groups analyzed in this study contained the same preexisting condition clause, except for policies issued to previously insured firms (the majority), in which there was no such clause. 6 Minor differences in the benefit plans sold to the groups we analyzed, which were primarily in cost-sharing requirements and the amounts covered for some services, did not affect the analysis, since we compared claims (amounts charged), not payments. The insured person or the provider must make a claim for all covered services rendered even if cost-sharing requirements have not yet been met or the amount covered is less than the claim, simply because the insurer must have a record of the amount paid toward the deductible. 7 The only material difference in benefits among the twelve plans studied was that one of the older plans did not offer hospice care, home health care, or birthing center benefits. 8 During the study period, the insurer s underwriting manual did not change. When the company moved its group headquarters from New York City to New Jersey halfway through the study period, however, there was considerable turnover in the underwriting department, and the company believes that it became more conservative, rejecting more applicants. This cannot be documented, however, since the company does not keep information on denied applicants. The company believes that about 30 percent of all screened firms with fewer than ten employees were ultimately not covered, either because they were rejected or because they did not complete the application process. Data And Methods Between 1986 and 1991 the insurer always screened employees of applicant firms with two to four employees and never screened employees of firms with ten to fifty employees (considered guaranteed issue ). Employees of firms with five to nine employees were not screened (were guaran-

4 D ATAWATCH 227 teed issue ) prior to 1 June 1988 but were screened thereafter. Claims information for policies issued to businesses with two to twelve employees during the period 1 January 1986 through 30 June 1992 and administrative data were released to us under a special confidentiality agreement. We merged administrative records on 9,083 group policies and 48,810 covered employees, creating records for each employee for each quarter of the study period during which the person was employed and covered. Each of these records was then matched against claims data to calculate the total amount claimed within each quarter. Only claims for employees covered prior to 1 January 1991, who we had an opportunity to observe for at least eighteen months of coverage, were evaluated. Not all employees included in our analysis were insured continuously for eighteen months, however; some dropped their coverage, for any number of reasons, before eighteen months had elapsed. This resulted in a record for each of 287,594 quarters of coverage, with time-dependent variables, such as age, adjusted for each covered quarter. We present only the claims experience of employees because relevant demographic information about covered dependents was sparse. The primary outcome variable was average dollar amount of claims per employee per quarter of coverage. Study Results A preliminary examination of claims data revealed notable differences among states in average amounts claimed but not in the general pattern of claims over time. These differences may reflect different prices arid practice patterns. Since the analyses could not be performed by aggregating all data for screened and nonscreened groups across all states, we separately analyzed the two states with the most small-business insurance policies issued during the study period: New Jersey and New York. Exhibit 1 shows the records available for analysis in both states. There were some differences in the composition of the screened and nonscreened groups. In both states the Exhibit 1 Records Available For Analvsis Of Claims Data, New Jersey And New York Type of data New Jersey New York Employers 1,363 2,270 Employees 6,688 8,819 Employees screened 3,604 6,686 Employees not screened 3,084 2,133 Quarters of coverage Employee claims 49,863 57,933 $8,597,668 $12,843,024 Source: Authors analysis of insurance company administrative and claims data.

5 228 HEALTH AFFAIRS Summer 1995 nonscreened population s average age was slightly older (37.2 years, compared with 35.3 years for the screened group in New Jersey, and 35.6 years, compared with 34.6 for the screened group in New York). In both states there was a higher proportion of females in the nonscreened populations (35 percent, compared with 29 percent for the screened group in New Jersey, and 36 percent, compared with 29 percent for the screened group in New York). These differences, while not large, are statistically significant. (Because of the large number of observations analyzed in this study, even minute differences could reach statistical significance without being consequential in the real-world sense.) In both states there was a significant difference between the average amount of deductibles for screened and nonscreened employees. There was a small but significant difference in average coinsurance percentages for screened versus nonscreened persons only in New York. We examined claims per employee for each calendar quarter of the study period, comparing screened and nonscreened employees. This analysis showed the expected increase in claims over time for both groups, but neither group had statistically greater claims than the other. 9 To examine differences in claims data that isolate the effect of screening, we compared the screened and the nonscreened groups on a relative time scale, referred to as quarter of coverage. This scale sets each employee s first quarter of coverage to one, regardless of when that quarter actually occurred chronologically. Since the first quarter of coverage for a particular employee could be any quarter in the six-year study period, the dollar amounts claimed had to be adjusted for the effects of time. They were adjusted for inflation by applying the medical care Consumer Price Index (CPI) for the northern New Jersey/ New York area to the amount claimed to convert it to 1986 dollars. To adjust for differences in intensity of services rendered in different time periods, we used the Health Care Financing Administration s (HCFA s) estimates of average annual changes in volume and intensity. 10 After these adjustments, there remained a linear increase of about 3 percent per quarter in the average amount claimed per employee over time. This apparent increase may reflect increases in intensity of care in the study states that exceeded the national average reported by HCFA, although it is not possible to determine this conclusively. The insurer s premium experience validates the 3 percent per quarter increase, since after adjusting for inflation and intensity, there is an unaccounted-for increase of slightly more than 3 percent per quarter in the company s average premiums for the study period. We adjusted for the increase to construct the time-adjusted quarter of coverage scale. The average amount claimed per employee per quarter since date of issue appears to be slightly higher among screened employees than among nonscreened employees in New Jersey (Exhibits 2 and 3). A different pattern is

6 D ATAWATCH 229 Exhibit 2 Average Adjusted Claims, By Quarter Of Coverage, New Jersey Do l l ar s Q uarter of coverage Source: Authors analysis of insurance company claims data. Note: The average adjusted amount per employee at each point in time is plotted with its associated plus and minus 1.4 standard error bars. This is equivalent to doing a two-sample T-test where a statistically significant difference would be indicated by nonoverlapping error bars. Exhibit 3 Number Of Employees, By Quarter Of Coverage, New Jersey Number of employees Quarter of coverage Source: Authors analysis of insurance company administrative data.

7 230 HEALTH AFFAIRS Summer 1995 Exhibit 4 Average Adjusted Claims, By Quarter Of Coverage, New York Dollars Screened Nonscreened Quarter of coverage Source: Authors analysis of insurance company claims data. Note: The average adjusted amount per employee at each point in time is plotted with its associated plus and minus 1.4 standard error bars. This is equivalent to doing a two-sample T-test where a statistically significant difference would be indicated by nonoverlapping error bars. Exhibit 5 Number Of Employees, By Quarter Of Coverage, New York Number of employees Quarter of coverage Source: Authors analysis of insurance company administrative data.

8 D ATAWATCH 231 evident in New York (Exhibits 4 and 5): The nonscreened group had higher claims in several early quarters, and the screened group had higher claims in several later quarters, reaching statistical significance in only one quarter. In neither case is the aggregate difference significant. Also, both the screened and nonscreened groups tended to avoid claims for health care provided in the first six months after issue (the data are for dates of service), which probably reflects the effect of preexisting condition exclusions, deductibles, and the newness of the policy. Insurance industry declarations about the value and duration of the effect of medical screening would lead one to expect the screened group to be a lower-risk population that would use fewer medical services. Therefore, the fact that the amount claimed by the screened group is not lower than that of the nonscreened group suggests a lack of utility in screening. In comparing claims experience for female and male employees, we found that females claimed significantly more than males, but when sex was controlled for, there was no statistically significant difference between screened and nonscreened employees. While younger employees (under age forty-five) made fewer claims than older employees made, a comparison of screened and nonscreened groups for these two age bands revealed few quarterly differences and no significant difference in the aggregate. There was also no significant difference between the groups in either state after controlling for deductibles and coinsurance percentages. For each state, we used multiple regression to simultaneously test the influence of age, sex, amount of deductible, coinsurance percentage, and medical screening, as well as presence of family coverage, year of policy issue, and amount of time since coverage began, and their interactions, on the amount claimed. Age and sex were the only variables that were statistically significant in both states in explaining the amounts claimed; in New Jersey, however, the deductible was a significant explanatory variable, while in New York the coinsurance percentage was significant. The explanatory value of screening was not significant in either state. Although it would have been interesting to characterize the 30 percent of screened applicant firms that were excluded from coverage, no information on them was available. The study design, however, does not require data on this group, since the nonscreened group comprises all applicant firms of the relevant size, including those that would have been screened out if they had been screened. Policy Implications The cost of screening workers may be an unnecessary expense to insurers that ultimately is borne by beneficiaries and firms in the form of higher

9 232 HEALTH AFFAIRS Summer 1995 premiums. The direct cost of screening in this case was between $1 million and $1.2 million per year. There were also unquantified costs associated with medical screening, such as following up on attending physician statements and verifying information supplied by applicants, which the insurer estimated to at least equal its direct costs. If there is no significant benefit of screening, the total cost of screening ($2 million $2.4 million) represents a net cost to the insurer. These findings call into question the practice of medical screening, one of the most prevalent forms of underwriting in the small-group health insurance market. Although this analysis was limited to only one insurer, that insurer is an important player in this market. Furthermore, the analysis was performed on all of the insurer s policies sold during the study period in the two states with the highest number of covered employees. There is no reason to think that the insurer we studied is unusual in its underwriting practices. If it were particularly liberal relative to other insurers, that could explain the absence of a difference between the screened and nonscreened groups, but it is known to practice relatively strict underwriting. 11 This analysis addresses only insurers medical screening programs; it does not dispose of the issue of adverse selection. Although we believe that screening programs may not be good at predicting applicants future claims, it is entirely possible that individuals are good at assessing their own risks and acting in their own best financial interest. Therefore, we do not suggest that an insurer act unilaterally to dismantle its medical screening program until either all insurers are required to do so or an equitable method of risk adjustment is assured for the industry. Congress has considered several bills to reform insurance practices in the small-group market, including prohibiting exclusions based on preexisting conditions. According to one insurance industry representative, this provision alone could increase insurance premiums overall by 8 to 12 percent. 12 Our study provides evidence suggesting that this belief may be erroneous. If so, eliminating medical screening should be associated with lower administrative costs, rather than with higher premiums. While the direct and indirect costs of screening to the industry as a whole are trivial relative to total premiums, they are not trivial in the small-group market. We were not able to quantify the entire contribution of medical screening to total premiums because the necessary data were not available. In the case at hand, however, the direct costs of medical screening represented more than 3 percent of the first year s premium for screened groups. Churning (marketing to insured groups that can pass medical screening and offering a lower initial premium) is estimated to represent a significant but unquantifiable portion of marketing costs, which can average percent of premiums. 13 If claims represent about 75 percent of total premiums (as they

10 D ATAWATCH 233 do on average for indemnity insurance in the small-group market), then medical screening would represent a significant proportion, 12-l6 percent, of the remaining amount attributable to administration and profit, and therefore as much as 3-4 percent of total premiums. If elimination of medical screening resulted in significant changes in the insured population, there might be reason for concern that premiums would increase. Two important changes could affect overall premiums: (1) an exodus of a large number of healthy persons (who may now be subsidizing less healthy insured persons) from the small-employer market; and (2) an influx of a large number of uninsured persons with chronic conditions. The latter event is unlikely, given the small number of persons estimated to be uninsurable.1 4 If elimination of screening increased premiums for certain groups (while reducing them for others), some firms with healthy or young employees might drop their insurance. While this study does not explore all forms of medical underwriting, it examines the most prevalent form: medical screening. The results suggest that eliminating medical screening holds a twofold promise: reducing administrative expenses with reductions in insurers underwriting departments and eliminating a source of troubling inequity in the availability of health insurance. This work was supported by The Robert Wood Johnson Foundation, Grant no The authors thank Phoebe Barton, Jessica Bondy, Pat Butler, Rebecca Headky, Joel Levine, Bill Lindsay, and Katherine Swartz for helpful comments and discussion. NOTES 1. H.T. Bailey et al., The Regulatory Challenge to Life Insurance Classification, Drake Law Review (1976): ; and K. Clifford and R. Iuculano, AIDS and Insurance: The Rationale of AIDS-Related Testing, Harvard Law Review (1987): These authors assertions with respect to financial instability refer to the instability that is expected to ensue if a single insurer abandons risk assessment when others do not, or to that which would occur if individuals were free to avoid purchasing insurance until they were sick. 2. The firm is the United States Life Insurance Company, headquartered in New York City. The information presented throughout this DataWatch on U.S. Life s practices was provided by David N. Dunn, executive vice-president, Group Insurance. 3. One of these questions asked if any employee or dependent had incurred more than $7,500 in medical expenses in the past year. The other asked if any employees were out of work for five consecutive days during the past year or were in the hospital on the day the application was signed. 4. One of the authors has personal experience with this phenomenon in connection with the introduction of a low-cost insurance plan in the Denver area. However, we also consulted experienced health insurance agents and brokers to confirm the existence of this practice. We were told that it is widely practiced in the health insurance market. William N. Lindsay, principal, Lindsay-Sandbak Group, Inc. (insurance brokers and

11 234 HEALTH AFFAIRS Summer 1995 employee benefits consultants), personal communication, 17 November Firms with fewer than ten employees were experience-rated as a pool (or class of business), never individually. That is, premium increases were applied equally to all of these firms based on the insurer s experience with all firms with fewer than ten employees. Some experience-rating techniques were applied to the larger firms, however. In this category, the typical firm s experience rate was percent of the pool s (the pool of larger firms) rate, and the highest experience rate was 160 percent. It is possible that a large enough rate increase would cause a firm to try to get coverage from another carrier or even to drop its insurance. On the other hand, once a firm has an employee with a serious health condition, it might be concerned that he or she would be uninsurable if it tried to purchase another insurance plan (the risk-finding question on the master application would elicit information that could cause the firm to be rejected), causing the firm to either pay the higher premium or negotiate higher cost sharing to lower the premium. Firms with low claims that would easily pass another medical screening might seek lower premiums if their rate increase were high enough. It is impossible to know whether any of these responses to experience rating occurred, since the insurer did not keep data that would allow us to investigate it. The insurer s opinion is that, since the persistency rate (the proportion of insured firms that continue their insurance from year to year) is stable and does not vary with firm size, experience rating had little effect upon it. This suggests that the experience-rated groups in our analysis were not different from the other groups as a result of experience rating. 6. The clause defined preexisting condition as any injury or sickness for which a person had incurred charges, received treatment, consulted with a physician, or taken prescribed drugs within three months before becoming insured. Charges for such conditions were not covered until a person had gone three months without incurring charges, receiving treatment, consulting a physician, or taking prescribed drugs or had been insured for six continuous months (twelve months in the case of dependents). 7. Some persons who use little medical care do not submit claims until their bills approach the deductible amount. To the extent that this happens, some claims will not be reflected in our analysis. However, there is little reason to believe that screened groups behave differently in this respect from nonscreened groups. This phenomenon should therefore have little if any bearing on the results of the analysis. 8. This difference is likely to be minor because birthing center services are a substitute for hospital delivery, which was covered in all plans. Home health services and hospice care were not widely used during the study period by this population. 9. Graphs of claims by calendar quarter are available on request from the authors at the University of Colorado Health Sciences Center, Department of Preventive Medicine and Biometrics, Campus Box C245, 4200 East Ninth Avenue, Denver, CO It is possible that these figures were overestimates for our purposes, since differences in the number of claims over time can account for some of the volume changes. Our use of these estimates presents a conservative analysis of the value of medical screening. 11. Lindsay, personal communication, 1 November T. Harrington, Testimony by the Committee on Health, American Academy of Actuaries, before the House Committee on Small Business, Hearing on Small Market Health Care Reform (9 June 1992), This is the proportion of premiums that U.S. Life s marketing costs represent. Dunn, personal communication, 30 November We have no information on marketing costs for other companies. 14. G.R. Wilensky and K.E. Ladenheim, The Uninsured: Response and Responsibility, Frontiers of Health Services Management (Winter 1987): 3-31.