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Steven J. Lauwers, Esq.
(603) 226-2600


The Patient Protection and Affordable Care Act ("PPACA") added a new Section 2718 to the Public Health Service Act, which mandates that insurance carriers in the group and individual markets (1) provide an annual accounting to the Secretary of the Department of Health and Human Services ("HHS") and (2) effective January 1, 2011, provide rebates to consumers if the carrier does not meet certain minimum medical loss ratio ("MLR") standards.1

The accounting provided to HHS must include the percentage of premium spent on reimbursement of clinical services provided to enrollees and activities that improve health care quality versus all other non-claims costs (excluding Federal and State taxes and licensing or regulatory fees). In addition, this new section provides that, with respect to each plan year (which under the regulation is defined to be a calendar year), a carrier must provide a pro rata rebate to each enrollee if the MLR (using the categories of expense required to be reported in the accounting) is less than: (i) 85%, or a higher percentage established by state regulation, with respect to coverage in the large group market; and (ii) 80%, or a higher percentage established by state regulation, with respect to coverage in the small group and individual market.2

The implementation of this new requirement represents one of the many regulatory challenges associated with PPACA. This article discusses the regulation prepared by the National Association of Insurance Commissioners ("NAIC"), that establishes the criteria for calculating MLR under the new provision, and which was effectively adopted by HHS in December.3 In addition, this article discusses the impact that the new provision will likely have on the existing MLR standards in four specific states: Maine, Massachusetts, New Hampshire and Vermont.


On October 27, 2010, the NAIC delivered the NAIC Regulation regarding "uniform definitions and standard methodologies for medical loss ratios" as required by PPACA.4 In its cover letter to HHS Secretary Kathleen Sebelius, the NAIC noted that although it had attempted to complete its work in a manner that remained faithful to the provisions of PPACA, it continued to have concerns about unintended consequences from the new MLR requirements. Specifically, the NAIC expressed its concerns about negative impacts on consumers as a result of potential solvency issues for carriers.

Although PPACA establishes the new MLR requirement, it provides little direction regarding the calculation of the MLR. In particular, it does not define the term "activities that improve health care quality." This critical element was left to be filled in by regulation. The NAIC Regulation does this by, among other things, defining certain key terms, including "expenses to improve health care quality" ("QI").

On December 1, 2010, HHS issued an interim final rule regarding the new MLR standards that effectively adopts the NAIC Regulation, and which took effect on January 1, 2011.5  Specifically, it indicates that "[t]his interim final regulation certifies and adopts the NAIC's model regulation in full."6  As the next step in the regulatory process, HHS will accept comments on the interim rule and adopt a final rule later this year. Set forth below is a summary of the major components of the NAIC Regulation, as adopted by HHS in its interim final regulation.

A. Levels of Aggregation for MLR Calculations

The NAIC Regulation provides that carriers are to calculate MLR at the licensed entity level in each state.7 Experience is to be allocated to states primarily based upon contract situs (i.e., where the contract was issued), except that individual business sold through an association is to be allocated based on the issue state of the certificate of coverage, and employer business issued through a group trust is to be allocated based on the location of the employer.8 In addition, experience is to be further subdivided into (1) individual, (2) small group and (3) large group plans or, if a state merges its individual and small group markets, into (1) individual and small group and (2) large group health plans.9 Finally, experience for plans classified as "dual contract" may be allocated as if it were all generated by the plan provided by the in-network issuer, provided that this method must be applied by the carrier for a minimum of three plan years.10

B. Timing of Calculations

MLR must be calculated by each carrier annually.11 The calculation is to be based on data as of December 31st of the plan year, except for incurred claims, which are to be restated as of March 31st of the following plan year.12 MLR must be reported to each applicable state by May 31st of the following plan year, and rebates must be paid by June 30th of that year.13

C. Numerator and Denominator Calculation

As discussed below, one of the most important changes made by PPACA and the NAIC Regulation is the introduction of the concepts of: (1) the addition of expenses for QI activities to incurred claims; and (2) the deduction of taxes and fees from earned premiums. The NAIC Regulation establishes the elements for the numerator and denominator of the MLR calculation, which is the same for all three plan years covered in the regulation (i.e., 2011, 2012 and 2013). The numerator is expressed as "incurred claims" plus "expenses to improve health care quality" or QI.14 The denominator is expressed as "earned premiums" less "Federal and State taxes and licensing or regulatory fees."15

Consistent with the statutory accounting definition contained in the current NAIC Accounting Practices and Procedures Manual, "incurred claims" is defined as:

claims for health insurance coverage on a direct basis incurred during the applicable plan year, plus unpaid claim reserves associated with claims incurred during the applicable plan year, plus the change in contract reserves, plus the claims-related portion of reserves for contingent benefits and lawsuits, plus any experience rating refunds paid or received, and reserves for experience rating refunds.16

The term "expenses to improve health care quality" are defined by reference to Appendix C to the NAIC Regulation and include QI expenses.17 Generally, qualifying QI activities may not be designed primarily as cost containment measures but instead for the purpose of achieving one of the following goals: (1) improve health outcomes; (2) prevent hospital readmissions; (3) improve patient safety and reduce medical errors, lower infection and mortality rates; (4) increase wellness and promote health activities; or (5) enhance the use of health care data to improve quality, transparency and outcomes.18 Examples of activities that qualify include disease management, wellness initiatives and a 24-hour hotline.19 However, the regulation excludes costs associated with retrospective and concurrent UR, fraud prevention, development of provider networks, credentialing and marketing expenses, among others (prospective UR is included if not conducted in accordance with an accredited program20, and actual fraud recoveries up to the amount they reduce incurred claims).21

As with "incurred claims," the definition of "earned premium" is consistent with the statutory accounting definition contained in the current NAIC Accounting Practices and Procedures Manual, plus or minus any portions of premium associated with group conversion privileges transferred between group and individual lines, and plus or minus any experience rating refunds paid or received.22 The term "Federal and State taxes and licensing or regulatory fees" is defined by reference to Appendix C, and generally includes federal taxes allocated to health insurance coverage, state premium taxes and state assessments.23

Carriers are to determine the appropriate MLR by using the numerator and denominator figures described above at the level of aggregation required by Section 5 of the NAIC Regulation. In 2011, no rebate is payable with respect to any aggregation (i.e., to a state and market) that is "non-credible." The term "non-credible" means less than 1,000 life years, where "life years" is equal to member months divided by 12.24 (For 2012 and 2013, no rebate is payable for aggregations that are non-credible based on the sum of life years for the cumulative plan years covered by the regulation.) If for any level of aggregation, 50% or more of the earned premium is attributable to newly issued policies with less than 12 months of experience in that plan year, the experience of those policies may be excluded by the carrier and, if excluded, such experience would be added to the MLR calculation for the following plan year.25 In addition, carriers are permitted to make certain adjustments to the numerator calculation for coverage provided to a single employer at blended rates.26 Furthermore, carriers can make "credibility adjustments" to the MLR calculations pursuant to the Tables included in Appendix B of the NAIC Regulation, for an aggregation that is "partially credible."27 The term "partially credible" means experience generated by at least 1,000 life years but less than 75,000 life years.28 These "credibility adjustments" are intended to protect small carriers by effectively reducing the amount they need to spend on claims costs if they qualify for the adjustment.

D. Key Areas for HHS Decision/Future Interpretation

HHS will be forced to make several difficult choices when certifying the final MLR regulation. First, HHS will need to decide whether to adopt the definition of "expenses to improve health care quality" (QI) used in the NAIC Regulation. Second, HHS will need to decide whether to include all federal taxes (except taxes on investments) in reducing earned premiums, as the NAIC Regulation does, or to limit it to federal taxes created by PPACA, as several architects of the bill suggest was their intent. HHS must also consider whether it will make any modifications to further protect against destabilizing individual insurance markets, such as delaying implementation of the individual market MLR requirement. Initial comments from HHS suggest that it may adopt the NAIC Regulation with few changes.

Even assuming that HHS adopts the NAIC Regulation largely unchanged, there are likely to still be some aspects of the regulation that will be open to interpretation. In particular, carriers are likely to continue to push for the most expansive possible definition of "expenses to improve health care quality." Although the NAIC Regulation arguably defines this phrase in relatively strict terms, it is certainly not free from ambiguity.


A. Current Standards

The current MLR standards in Maine, Massachusetts, New Hampshire and Vermont, by market category, are as follows:


Individual: 65%29

Small group: 75% (with an optional MLR of 78% with no prior approval)30

Large group: none

Maine defines the term "loss ratio" as "the ratio of incurred claims to earned premiums for a given period, as determined in accordance with accepted actuarial principles and practices."31 Incurred claims do not include any claim adjustment expenses or cost containment expenses except that any "access payments" paid pursuant to 24-A M.R.S.A. § 6917 must be treated as incurred claims.32


Individual: 88% (90% in 2011) (except as provided below)33

Small group: 88% (90% in 2011) (except as provided below)34

Large group: none

Massachusetts law provides that rates in the individual and small group market will be presumptively disapproved as excessive if: (1) the administrative expense loading component for the base rate, not including taxes and assessments, increases by more than the most recent calendar year's percentage increase in the New England medical CPI; or (2) the carrier's reported contribution to surplus exceeds 1.9%; or (3) the aggregate MLR for all individual and small group plans is less than 88% (90% in 2011).35 However, if the carrier's rates would be presumptively disapproved only for failure to meet the MLR requirement, the rates will not be presumptively disapproved if the carrier's aggregate MLR for all individual and small group plans is not less than 1% greater than the carrier's equivalent MLR 12 months prior to the current rate filing.36 Massachusetts defines "medical loss ratio" as "the ratio of the incurred loss (or incurred claims) plus the loss adjustment expense (or change in contract reserves) to earned premiums, according to current NAIC methodology."37

New Hampshire

Individual: varies depending on whether coverage is optionally, conditionally or guaranteed renewable or non-cancellable (from 65% to 75%)38

Small group: 80% (but can vary based on premium category)39

Large group: 80% (but can vary based on premium category)40

The New Hampshire regulations use the term "anticipated loss ratio," which is defined as "the ratio of the present value of the expected benefits to the present value of the expected premiums calculated over the lesser of 20 years or the lifetime of the policy."41


Individual: 70%42

Small group: none

Large group: none

The Vermont statute uses the term "anticipated loss ratio," which is defined as a "comparison of earned premiums to losses incurred plus a factor for industry trend."43 (The statute does not define the term "industry trend" and we have not identified any applicable guidance regarding how this factor is incorporated.)

B. Impact of PPACA

As a practical matter, where there is an existing state standard, the impact of the new PPACA requirement may not be as great as the numbers might initially suggest. Unlike the PPACA requirement, the state requirements reviewed here do not include health care quality improvement expenses (QI) in the MLR numerator and do not exclude taxes and other regulatory fees from the MLR denominator. As the NAIC has noted, when these PPACA adjustments are factored into existing state MLR standards, the resulting MLR for carriers may in fact be higher than the MLR required by PPACA.44 Of course, the result of the adjustments will vary by state, and the adjusted MLRs may be more likely to exceed PPACA standards in the large and small group markets as opposed to the individual market.

Even taking into account these adjustments, most states are likely to see at least some change as a result of the PPACA standards. For example, in the four states reviewed, only New Hampshire currently has an MLR standard for the large group market. In addition, states may amend statutory or regulatory provisions to conform them with the PPACA standards, or if they want to impose stricter MLR requirements. Maine has expressly indicated that it intends to amend its laws and rules. New Hampshire is similarly reviewing its regulations.

With respect to Maine, New Hampshire and Vermont, their relatively small populations will almost certainly create MLR formula adjustments arising out of credibility. It is not clear what effect, by market, this may have.


Ultimately, we believe that the new MLR standards imposed by PPACA and the NAIC Regulation represent a significant change to the insurance regulatory landscape. Even to the extent that carriers will not be required to increase their effective MLRs from existing state standards, the PPACA and NAIC requirements substantially alter the means by which MLR has traditionally been calculated. At a minimum, we believe that most states will amend their statutes and regulations to conform with these new standards. In addition, some states could choose to impose stricter standards per PPACA. From a longer term perspective, we believe that these new standards will result in a continued debate over what activities by carriers constitute quality improvement activities, the expenses for which may be included as claims costs.

Whether the new MLR requirements are viewed as a victory for insurers or consumers depends on one's perspective. In general, carriers have warned (as has the NAIC) about the potential for creating instability in insurance markets, particularly individual markets, as a result of forcing carriers to spend more on claims costs (and thus increasing the possibility of insolvency). In addition, the carriers did not get everything they wanted. For example, carriers wanted to be able to calculate their MLR on a nationwide basis, as opposed to a state-by-state basis as required by PPACA. In addition, they wanted to be able to count utilization review and fraud control programs as quality improvement expenses, which the NAIC Regulation generally does not permit. (Separately, agents and brokers lobbied to have their commissions excluded from the MLR calculation, which did not succeed, at least for now.)

At the same time, the carriers won on other issues. For one, the NAIC agreed with carriers that all federal taxes (except on investment income) are to be excluded when calculating earned premium, even though several drafters of PPACA had indicated it was their intent only to exclude new federal taxes created by PPACA. In addition, although not every item the carriers wanted was included in the definition of quality improvement expenses, it is an expansive enough definition to include many other activities they did want, such as disease management, wellness initiatives and 24-hour hotlines. The statute and rule also include measures to protect small carriers, such as "credibility adjustments" (which effectively require the qualifying carriers to spend less on medical claims).

Although neither consumer groups nor the carriers are probably entirely happy with the final product as a result, the new MLR requirements represent a compromise that seeks to benefit consumers (by increasing carrier spending on claims costs) without jeopardizing the financial health of carriers.



1. PPACA Section 1001 (codified at 42 U.S.C. § 300gg-18(b)).

2. 42 U.S.C. § 300gg-18(b)(1)(A).

3. The official title is the "Regulation for Uniform Definitions and Standardized Methodologies for Calculation of the Medical Loss Ratio for Plan Years 2011, 2012 and 2013 per Section 2718(b) of the Public Health Service Act." It will be referred to throughout this article as the "NAIC Regulation."

4. 42 U.S.C. § 300gg-18(c).

5. See 75 Fed.Reg. 74864 et seq.

6. Id. at 74866.

7. NAIC Regulation, Section 5.

8. Id.

9. Id.

10. Id.

11. NAIC Regulation, Section 6.A.

12. NAIC Regulation, Section 6.B.

13. NAIC Regulation, Section 6.C and D.

14. NAIC Regulation, Section 8.C., 9.C. and 10.C.

15. NAIC Regulation, Section 8.F., 9.F. and 10.F.

16. NAIC Regulation, Section 3(8).

17. NAIC Regulation, Section 3(4); Appendix C, pg. 34.

18. NAIC Regulation, Appendix C, pg. 34.

19. See NAIC Regulation, Appendix C, pp. 34-38.

20. No specific accreditation programs are identified in the regulation.

21. NAIC Regulation, Appendix C, pg. 39.

22. NAIC Regulation, Section 3(3).

23. NAIC Regulation, Appendix C, pp. 32-34.

24. NAIC Regulation, Section 3(14), (17).

25. NAIC Regulation, Sections 8(B), 9(B) and 10(B)

26. NAIC Regulation, Sections 8(D)-(E), 9(D)-(E) and 10(D)-(E).

27. Draft NAIC Regulation, Section 7.

28. NAIC Regulation, Section 3(18).

29. Me. Rev. Stat. Ann. tit. 24-A, § 2736-C(5).

30. Me. Rev. Stat. Ann. tit. 24-A, § 2808-B(2-B).

31. Code Me. R. § 940(4)(D).

32. Id.

33. Mass. Gen. Laws ch. 176J, § 6(d).

34. Id.

35. Id.

36. Id.

37. Mass Regs. Code tit. 211, § 147.02.

38. N.H. Code Admin. R. Ann. Ins. 4102.05.

39. N.H. Code Admin. R. Ann. Ins. 4103.08.

40. N.H. Code Admin. R. Ann. Ins. 4104.07.

41. N.H. Code Admin. R. Ann. Ins. 4102.03, 4103.03 and 4104.03.

42. Vt. Stat. Ann. tit. 8, § 4080b(m).

43. Id.

44. See NAIC Response to Request for Information Regarding Section 2718 of the Public Health Service Act, May 12, 2010, at