When it comes to Medicare, everyone knows there are many acronyms and technical words for the various aspects of the program. It’s almost a kind of foreign language. This technical jargon is one of the main reasons people are so often intimidated by Medicare. This jargon spills over not only on the government program, but also into the many private Medicare Insurance plan options. This is especially the case when it comes to Medicare Supplement Insurance, and the various standardized coverages available.
A common question about these kinds of plans is what makes the insurance companies different from one another. If the benefits are standardized, why are the premiums so different? This happens because the insurance companies use different methods to set their premiums. One of the more unusual methods is called Community Rating. What does community rated mean? We’ll review the details of this rating method in this article.
How Medicare Supplement Insurance Works
In order to understand how setting premiums matters, we need to review how Medicare Supplement Insurance works in the first place. We’ll look at Medicare Supplement, or Medigap as it is also called, first from the perspective of the consumer, and then from the perspective of the insurance company.
Consumers purchase Medicare Supplement Insurance to protect themselves from high out of pocket health care costs when they’re on Medicare. This happens because Original Medicare doesn’t cover all of your health care costs. Instead, you’re expected to pay for some of your costs. These costs that you’re expected to pay are often referred to as gaps in your coverage. The biggest gap in Original Medicare is the fact that there is no cap on your spending during a year. This is not at all like most health insurance you have before you enter Medicare. Typical health insurance includes an Out of Pocket Maximum (OOPM) amount. If your spending reaches this amount, you don’t pay anything for the rest of the year. Your health insurance company pays 100% of your costs for the rest of that year.
As we just said, this feature is NOT a part of Medicare. Therefore, your total potential spending for any year is theoretically unlimited. This is an intolerable situation for many people. While it’s pretty unlikely that your spending would reach, say, $50,000 in one year, the fact that such an amount is possible creates a market for a supplementary insurance products to protect people against these costs. That’s where Medicare Supplement Insurance comes into play. These policies, which are issued in ten standardized “Plans”, protect people from ruinous out of pocket spending. The three most popular Medigap plans, Plans F, G, and N essentially cap your spending at a few hundred dollars a year. With Plan N, the least comprehensive of these three, you might exceed $500 in out of pocket costs in a very bad health year. People on Medicare are willing to pay a monthly premium in order to be protected from these high out of pocket costs.
Medicare Supplement Insurance From The Insurance Company’s Perspective
So, there’s a market for supplemental Medicare coverage, and insurance companies want to profit from it. The problem they face, which is the problem faced by all insurance companies for all types of insurance, is:
If they set premiums too low, and have high claims expense, they will go bankrupt
If they set premiums too high, to make sure they can pay claims and still turn a profit, they will lose or fail to attract customers. In this case, they will either end up losing money anyway because they still can’t cover their claims, or they simply won’t have any clients at all.
Obviously, the way for insurance companies to meet the needs of their policyholders and also to make a profit is to set premiums that strike a balance between these two extremes. This picture is really complicated when you consider the fact that we’re not talking about one single insurance company offering supplemental coverage. There are many insurance companies in competition with each other. This competition adds a third element of complexity, because any particular company must set premiums high enough to cover claims, but also low enough in comparison with other companies to attract consumers. Essentially, this competition puts downward pressure on premium rates. There is little margin for error for insurance companies.
In order to understand how setting premiums matters, we need to review how Medicare Supplement Insurance works in the first place.
How Do Medicare Supplement Insurance Companies Set Their Rates?
Now that we know how premiums affect both the ability of an insurance company to stay solvent and attract customers, we can dive into how they determine those rates. There are essentially three main methods insurers use to set Medicare Supplement Insurance premiums:
Attained age rating
Issue age rating
Attained age rating is the most popular method. With attained age rating, Medigap premiums are based primarily on a person’s age each year. Obviously, age increases each year, so this rating method provides for a steadily increasing premium for policyholders.
Issue age rating is the least popular rate-setting method. With Issue Age rating, premiums are based primarily on your age at issue. For most people, this is 65. The fact that you get older each year has no impact on your premium.
You should understand that age is not the only component in premium calculation. So, with attained age, your premium will likely rise for more reasons than just your increasing age. And, with Issue age, your premium will still increase, even though it’s not based on your increasing age. So, what else affects insurance company premiums? Inflation, especially as it relates to health care costs, is a huge factor. Since these insurance companies are generally committing to paying about 20% of the cost for health care services and procedures (the amount you would normally have to pay under Part B), any increase in the cost for those services will be paid by the insurance company.
Another factor that goes into Medigap premiums is the overall performance of the insurance company itself. If it experienced losses in the prior year, they will raise premiums to offset them the next year. Conversely, larger than expected profits will allow a company to have a smaller premium increase in the following year.
So, What Does Community Rated Mean
The last premium calculation method is Community Rating. With this method, the insurance company sets one premium for the entire “community,” which is usually a county or state. Theoretically, everyone pays the same premium, regardless of age. This tends to produce premiums that are more “stable” than attained age or issue age rated. That is, they increase at a slower rate. It also means that community rated premiums tend to be higher than other methods in early years, but lower than others at higher ages.
It’s important to note that even though community rating produces one uniform premium for everyone, insurance companies using this method often provide enrollment discounts based on age. So, they have one standard premium for everyone, but depending on how old you are, you can receive a discount that decreases over time. This can make community rated premiums closer to attained age rates.
As you can see, Medicare Supplement Insurance premiums are set in complicated ways. However, your goal is probably to get the best coverage possible at the lowest possible rate, regardless of rating method. The best way to achieve that is to work with a licensed, independent health insurance agent. An independent agent can help you review and compare quotes from multiple insurance companies. Request a free consultation today to see how you can save on Medigap coverage in your area.