The bad Medicare Advantage bet

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In a prior post on Medicare Part B “Medigap” plans I hinted at my dislike for Medicare Advantage. I have found that lots of people really like their Medicare Advantage plans. Almost all, in my experience, are healthy seniors or have retired with a high-end employer-sponsored Advantage plan.

On the other hand, there are many horror stories of seniors who contract cancer or other expensive medical conditions getting trapped in their Advantage plan and incurring thousands of dollars more in out-of-pocket costs than they would have incurred under “traditional” Medicare with a good “Medigap” supplement.

Simply put, the Medicare Advantage bet, especially for the most heavily marketed, low-cost plans, is this: “Despite being over 65 years old, I bet that I will stay healthy.” The math is pretty clear; that’s a very risky bet.

“Who built Las Vegas?”

Later this post I will to explore the math behind that bet some more, but let me first suggest that you can get a clearer picture of the financial side of this bet through what I call a “Who built Las Vegas?” economic analysis.

I have been to Vegas numerous times for work and conferences, and my dominant “accountant gene” invariably wins out over any recessive “gambler gene,” admittedly depriving me of some “gaming pleasures” during my stay. My “accountant gene” observes the impressive casinos, the bargain prices, and the cheap airline connections, and asks, “Who pays for all of this?”

“Las Vegas economics” is the simple reality that much more money flows into the city than most people think flows out. That’s a great deal for the residents. Unless you are Donald Trump, it is hard to lose money on a well-run casino because a lot of people are making bad bets, and “the house” gets a piece of the pie with each transaction regardless of who wins the bet. To top it off, the “bet losers” rarely admit their losses, while the winners can’t help but brag of their “skill.” It’s a marketing “win” for the city.

The Medicare Advantage advertising flood

Every autumn, hundreds of millions of dollars are expended on television and postal advertisements for the dozens of Medicare Advantage offerings. If you are over 65, your mailbox will receive daily pitches, and many cable channels catering to my demographic seem to survive the fall season on these advertisements. In the terms of our Vegas model, “Who is paying for all of this marketing?”

With Medicare Part C, commonly called Medicare Advantage, the government contracts with private insurance companies to package together the Part A (mostly hospital) and B (mostly outpatient) services, plus some Part D prescription benefits. In return they provide certain additional benefits, perhaps a health club membership or some basic dental procedures, or alternatively to reduce monthly costs to the insured senior. Indeed, the biggest advertising come-on is to promise that “some” might pay no monthly premium at all. Free insurance! What’s not to like?

In addition to receiving guaranteed per-subscriber fees from the Centers for Medicare & Medicaid Services (CMS), the Medicare Advantage plan providers maximize their cashflow by restricting the network of available providers to a limited “quasi-cartel” of contracted hospitals, doctors, and other healthcare providers. They also have some flexibility to deny or ration care beyond what might be covered under conventional Medicare rules. But if you stay healthy and they don’t mess with your preferred medical providers, Medicare Advantage often looks really good.

On the down side, the larger co-payments allowed by CMS for many services under these plans can quickly turn a hospital stay or a long cancer treatment into huge out-of-pocket costs to subscribers that they would not have had to bear under “traditional” Parts A and B Medicare with a good Medigap supplement.

There are a lot of ways to compare Medicare Advantage plans and benefits, but the “Las Vegas economics” approach is the simplest: These plan providers are willing to spend hundreds of millions of dollars annually on promotion to seniors in order to gain a couple of percentage-point increases in new market share, if they are lucky. Why? Because there is a huge amount of federal dollars (i.e., your Medicare taxes) at stake. If you can’t figure out “Who pays?” for all that marketing the answer may well be “You.”

A 2018 resolution by the American Medical Association complained that seniors “are lured to these Advantage plans by misinformation and confusing sales techniques” (p. 183). The AMA also expressed concern about the treatment of chronically ill seniors by Medicare Advantage providers, such as restrictions and higher costs in nursing facility and other rehabilitation care benefits that the same seniors would not have experienced under conventional Medicare. In addition, allowed administrative costs are much higher in Advantage plans as compared to traditional Medicare (10% vs. 3%).

Employer-provided Medicare Advantage

It is important to note that many of the Medicare Advantage plans that seniors like are not the ones advertised on television or through the mail. Instead, they are extensions to high-quality employer-sponsored healthcare plans. Retiring long-term employees in good companies often slide seamlessly into a Medicare-compatible version of their existing healthcare coverage.

I noted in a recent post that most recipients of employer-sponsored healthcare plans are unaware of the true cost of those plans to their employers, and taxpayers in general are unaware of the massive “tax expenditure” benefit that underwrites these plans. If your employer offers a generous Medicare Advantage plan as part of your retirement, that can be a great benefit to you. However, you do remain a “captive” of that insurance company and its coverage whims. In addition, the costs of employer-sponsored plans are increasing rapidly while benefits to employees are often slipping to compensate for the higher costs.

The “Medigap” alternative

Medicare Part B “Medigap” plans offer seniors up to ten standardized options (only eight to new entrants) from several different providers. These plans cover some or most of the hospital and outpatient costs that traditional Medicare does not cover. As noted in an earlier post, these are closer to “true insurance,” with rates to the consumer that more closely reflect the actuarial odds of differing coverages, such as deductibles and coinsurance costs. These providers advertise far less heavily than the Advantage plans, because they need to focus instead on efficiency and slim margins in order to make a profit.

With Medigap plans, most decisions on whether or not they must reimburse a medical provider or approve a particular treatment are made by CMS itself, not by the insurer, reducing the administrative overhead. With Medicare Advantage plans, on the other hand, you have handed many of these decisions back onto a private insurance company, whose profits depend on not paying or “slow-paying” wherever possible. [1]

Getting out is much harder than getting in

The cost of switching to a Medigap plan from a Medicare Advantage plan can be very expensive, especially if you do it after the onset of medical problems. Medigap plans can usually require “underwriting” before giving you a price quote if you join late, which is the evaluation of your medical history and potential care liabilities. In many cases this price difference can be prohibitive. The earlier you make the change, the cheaper the cost of transfer.

And it is not just medical conditions that can jack up your costs. For instance, if you have a very inexpensive, location-specific plan in a Midwestern state (i.e., with heavy restrictions on allowed medical providers) and then decide to move to Florida, you will likely be in for a cost shock, not just because of the more expensive location but because you are a new customer coming late into a risk pool. Actuarially, you are a suspected drain on the pool, and you will pay for that.

The math of “sand pile probabilities”

Caution: The rest of this post gets a bit depressing because it talks about the costs and the math of dying. You won’t find this in Medicare Advantage advertisements, which invariably show good-looking, tennis-playing seniors.

First the good news. The average life expectancy in the United States is currently at about 76 for men and 81 for women. But once you have made it to 65, you are statistically farther away from dying than you might think. Here are some sample expected additional years at different ages:

The flip side is that this is the median for your age group, so flip a coin to see which side of the number that you are on. I’ll wait…

My preferred way to visualize health risks is similar to how you might look at many climate-related probabilities. I have written in the past about the “sand pile effect,” technically called self-organized criticality. When you sprinkle sand down from above, it will form a nice conical pile, but depending on the rate of sand flow and the characteristics of that sand, at some point the cone will collapse into a disorganized heap.

There is nothing special about that last grain of sand that causes the pile to collapse. . In weather terms, think about a localized, freak five-inch rain. The unknown here is exactly when that sand pile collapse will occur. That is an easy statistic to figure out in the long run (the pile will eventually collapse) but very difficult to predict in the short run.

Medicare insurers are basically doing the “sand pile math” on you when you join or switch plans. If you enter a big-pool plan at age 65, they can well predict how much you are going to cost them in the long term. But they also know that people switching at a later point are bringing with them an already-large sand pile. When major medical crises hit, your liability to the insurance company goes from perhaps a few hundred dollars a year to many thousands of dollars in a “sand pile collapse.” As a senior, your health is likely good until it isn’t.

Now, you may want to bet that you will die quickly and cheaply when your time comes, say in a sudden cardiac arrest. Even then your survivors will likely face some big bills for ambulances and EMTs. More likely you will hit some major medical bumps in the road on the way there, however, and these are the medical cost “sand pile collapses.” As much as 25% of Medicare costs hit in the last year of life.

If you are a betting person, recognize that these “collapses” will likely hit, but predicting them is really tough. Insurance company actuaries spend a lot of time analyzing these sand piles. Assume that they know the math better than you do when you place your bet.

In short, the math of insurance says that you get what you pay for. If you have an employer-sponsored Medicare Advantage plan, see if you can find out what it costs them per retiree. If the cost is comparable to the best Medigap plans, then you probably have decent coverage. If it seems like you are getting this insurance “for free,” be very suspicious. Or better, shell out for a safer bet.

The sad part about Medicare Advantage and Medigap coverage is that the “bets” in practice are not so much rational trade-offs as they are financially stretched seniors trying to get through the month on limited incomes. Another feature of “Las Vegas economics” is that financially desperate gamblers are at the same time the least rational and the most profitable customers of the casino.


My follow-up post on “Your Medicare Part D prescription drug plan bets” has now been published.  As I noted in my earlier post on this subject, if you disagree with my analysis, see an error, or simply have some words of wisdom, feel free to comment below. Click on the Facebook or Twitter icons to be notified of new posts, or enter your email address in the “Subscribe” box on the left of your screen (or scroll down on your phone to the “Subscribe” box).


Notes:

  1. “Slow-paying” is a payment and collection policy used by some plan providers to challenge a high percentage of payment requests in order to bet that some will just “go away” to avoid the hassles, and to capitalize on “the time value of money.” Cash payments delayed mean better returns on capital.

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