For most people, catastrophic injury or illness is unlikely. Unfortunately, when such situations do arise, medical costs can quickly spiral out of control. While most people could save enough, over a lifetime, to cover a major medical expense, there is no guarantee that illness will occur only after significant savings have been accumulated. Insurance spreads both risk and costs out over a population, thereby reducing the financial burden of a major medical condition for individuals and ensuring that everyone in the insured group, regardless of life stage, is able to access health care when they need it. To understand health insurance in greater detail, read on.
Premiums and Benefits
Premiums are the payments that individuals make to their health insurance company, on a monthly or yearly basis, to be included in an insurance plan. They are similar, in many ways, to membership dues. To become a member (policyholder) of a health insurance plan and receive the benefits that the plan offers, it is necessary to make monthly payments.
Premiums paid to the insurance company are collected and often invested (some are also used to pay salaries and cover operating costs). When a policyholder needs health care services, the health insurance company covers some or all of the expense associated with those services by paying the health care provider (e.g. doctor, nurse, chiropractor, etc.) out of the pool of collected premiums. The expenses that an insurance company agrees to pay for are called benefits.
Most insurance companies do not cover 100% of the costs of health care. Rather, they cover a percentage of the cost and ask that the policyholder cover the rest. There are two ways, beyond the premiums they charge on a monthly or yearly basis, in which insurance companies ask policyholders to help cover the cost of their health care.
A deductible is an amount that a policyholder is expected to pay for medical expenses before insurance will kick in. For instance, if a policyholder has medical bills totaling $5,000 and a deductible of $1,000, that policyholder must pay $1,000 and the insurance company will cover the remaining $4,000. If the medical bills totaled $10,000, then the policyholder would still pay $1,000, but the insurance company would pay $9,000. Because processing an insurance claim requires a minimum investment of resources that is independent of the claim, the expense of processing small claims, which occur more frequently than large claims, can add up quickly and thus drive up the cost premiums for everyone. Deductibles are designed to eliminate small insurance claims and keep premiums affordable.
Copayments (copays) are set prices that a policyholder must pay for a particular service. For instance, a visit to a primary care provider (e.g. family doctor) may require a copayment of $20. The policyholder must pay $20 to their doctor and then insurance company then covers the rest.
Copayments are designed to prevent moral hazard, which in the case of health care is defined as people seeking medical care that is not necessary. In other words, copayments are meant to prevent abuse of the health insurance system, abuse that would drain resources and thus impact coverage for all policyholders. Copayments are usually different for primary care appointments, specialist appointments, and prescription drugs. Copayments for prescription drugs vary based on the drug in question and usually fall within a pre-defined range (e.g. $10-$50).
Maximum out-of-pocket is a term used to refer to the largest amount of money that any policyholder will be required to pay in a year. This number takes into account most expenses that the policyholder pays, including deductibles, copayments, and even coinsurance (see below). Maximum out-of-pocket does not include premium payments. It is a defined dollar amount and is designed to guarantee that no policyholder shoulders more than a certain maximum burden with regard to health costs.
Coinsurance is an interesting concept in which medical expenses, after deductibles are paid, are shared between an insurance company and the policyholder. For most insurance plans that utilize the coinsurance model, the insurance company pays 80% of expenses after a deductible and the policyholder pays 20%. Like copayments and deductibles, coinsurance is designed to keep premiums low for the entire pool of policyholders. However, because a few people will incur substantial medical bills, maximum out-of-pocket rules were created. (https://www.bluecrossmn.com/healthy/public/personal/home/shopplans/shop-individual-family-plans/shop-how-health-ins-works).
Coinsurance vs. Copayments
Most insurance companies have both coinsurance and copayments and they are used in different capacities. To encourage people to get regular health checkups, most insurance companies will use a copayment system for preventative services because copayments tend to be more affordable. These same company use a coinsurance system for non-preventative services. For instance, primary care visits, check-ups with specialists, and medications are often covered under a copayment model. Services like emergency treatment and surgery are often covered under a coinsurance mode. The idea is to encourage the utilization of preventative health services and limit the use of non-preventative services to only those cases in which the care is necessary.
In the vast majority of insurance policies, deductibles only apply to coinsurance situations. In other words, policyholders only pay a copayment, where it is required by policy, and do not have to first reach their deductible limit before insurance will cover the rest of the cost of the health service. For example, a person may have a $1,000 deductible for non-preventative services and a copayment of $20 for primary care services. If the primary care doctor charges $100 per visit, the patient pays just $20 and the insurance covers the remaining $80. The patient does not have to reach the $1000 limit before insurance will cover the additional $80.
Maximum out-of-pocket calculations are made by taking everything into account (e.g. copayments, deductibles, coinsurance payments, etc.). About the only thing that maximum out-of-pocket calculations do not include is the insurance premiums themselves. (https://www.humana.com/health-care-reform/summary).
Consumer-Driven Health Plans
In recent years, there has been a trend toward low-premium, high-deductible health insurance plans. These plans often dispense with copays entirely and create what are referred to as health savings accounts (HSAs). HSAs are tax-free accounts into which policyholders can opt to put money from their paycheck before taxes are deducted. Any money used from the HSA to pay for medical expenses is not taxed. Policyholders can use HSA money for expenses other than health services as long as they pay applicable tax at the time they withdraw the money. If the HSA contains money at the end of a given year, the money rolls over to the next year. The advantages of such a plan are that it can reduce taxable income and give policyholders more control over healthcare. These plans are generally beneficial for younger, healthier people who have time to build up their HSAs for future medical expenses. Consumer-driven health plans generally operate on a coinsurance system for all expenses (https://www.nerdwallet.com/blog/health/copay-vs-coinsurance/).
A Complex Amalgam
Giving insight into health insurance is difficult because even though all plans operate on the same basic premises the details vary widely from one plan to the next and each person has different needs. As the old adage admonishes, the devil really is in the details when it comes to health insurance. Take the time to read over your policy, using the information above, before agreeing to pay for it. You may find that a cheaper plan offers you better coverage in the areas you need most or you may find that paying a higher premium makes sense because it keeps your maximum out-of-pocket expenses under control. Being a well-informed consumer of health coverage will not only save you money, it could keep you healthier as well.