UPDATED: Illinois: More Insight into the Land of Lincoln Debacle (+ other co-op failures)

(Note: I've had to re-work some of this entry thanks to clarifications from Adam Cancryn about the RBC rule; too many little edits to document each one).

Last week I posted about the latest ugly Co-Op meltdown, this time Land of Lincoln Health (LoL) of Illinois.

As pointed out in my follow-up entry, given the precarious financial state LoL was already in last year, it made little sense that they only asked for fairly nominal rate hikes:

Now, since LoL went belly-up mid-year regardless, obviously even those massive rate hikes weren't enough to save them, so the question is, what would have happened if LoL had gotten their nominal increases as requested?

Well, they obviously would have gotten more enrollees, which means more premium revenue, that's for sure...but those enrollees would have been even more likely to rack up expensive treatments. Remember that they were already losing money on their existing enrollees; a nominal increase in revenue wouldn't have been nearly enough to resolve that issue. Doubling your market share doesn't do you any good if you're losing money on that market.

In response, I received the following email from a college professor who's pretty knowledgable about such things, though they prefer to remain anonymous. What they had to say explains quite a bit to me and seems perfectly in line with Adam Cancryn's detailed "autopsy report" on the Co-Ops and the Risk Corridor Massacre. All emphasis mine:

For the Land of Lincoln CO-OP, increasing market share would be even worse than this post indicates. The reason CO-OPs are collapsing is actually because their RBC [Risk Based Capital] falls too low. This is related to losing money but it's not the same thing. RBC is a formula which means what level of reserves (also called the float) that insurers must have on hand in order to pay claims. The formula takes into account how many members are insured. So the greater number of members an insurer has the larger amount of money that must be kept on hand in order to keep their RBC levels above minimum levels.

So if the Land of Lincoln had enrolled all those new members they would have collapsed even if those members were profitable because the acceptable RBC level for reserves would have gone up. A challenge for CO-OPs is to enroll enough members so that administrative costs do not eat up their budgets but not too many members because of the necessity of holding adequate reserves. CO-OPs are held to a higher standard with their loan agreements with the federal government than other insurers because the expected RBC level is 500%, an absurdity for a new insurance company. No regular insurer would be expected to maintain such a high level, often insurers are expected to maintain RBCs of 200% or 250% depending on the state. The departments of insurance in individual states have discretion at what RBC level they expect the CO-OPs to operate at in order to function. The RBC levels in each state has been a source of confusion for me along as I have observed the closures of a number of CO-OPs.

Well, now. This definitely didn't help matters any.

Every insurance carrier has to keep a certain amount of funding available to pay out the claims filed...and it has to be considerably more than the actual claims being filed, since they never know when one huge claim will show up and wipe out everything.

Let's say a carrier expects $100 million in claims over the coming year. If I'm understanding the above correctly, a typical insurance carrier would normally be required to keep anywhere from $200 - $250 million on reserve as a comfortable cushion...but the Co-Op with similar expected claims would apparently be expected to keep a whopping $500 million on hand. If they don't have that type of funding, they get the plug pulled even if the actual claims never end up hitting anywhere close to $500 million. This is yet another way in which the Co-Ops appear to have been designed to fail from the start.

If they add another $50 million in revenue from additional enrollees, even if they only expect those enrollees to actually cost $30 million (leaving a $20 million profit), their RBC threshold would go up another $100 million, leaving them even further in the hole. This effectively means that they'd have to enroll people who only cost 20¢ in claims for every dollar in premiums...which I'm pretty sure is unheard of in the industry. In fact, even if they were able to somehow pull off an 80% gross profit on the enrollees, that wouldn't be allowed either due to the Medical Loss Ratio provision which restricts carriers to no more than a 20% profit.

Cancryn also references the RBC stupidity in his autopsy report (I somehow missed it when I read it last fall; he pointed it out to me today):

The federal government also worked with insurance commissioners in some states to lower regulatory requirements. The CO-OP program holds companies to a 500% risk-based capital level, a level that exceeds the minimums for many private insurers. The Blue Cross Blue Shield Association, for example, lets its licensees drop as low as a 200% risk-based capital level. CMS relaxed its standards for certain co-ops on a case-by-case basis, allowing them to fall below the 500% floor as they tried to shore up their operations, South Carolina's Farmer said.

As noted in the email, Cancryn confirms that some states do allow the Co-Ops to drop below the 500% threshold, so it's not like this caused them to fail on it's own...but it sure as hell didn't help matters.

Three days later, CMS issued its verdict. It would not be paying 100%. In fact, it would pay just 12.6% of the amount that each insurer requested. The payout totaled $362 million for the whole industry. The risk corridors were hamstrung by Congress' budget-neutral requirement, CMS said, reiterating that it still intended to make the companies whole during the next couple years.

But for several co-ops, the agency's intentions did not matter. The insurers had factored a full risk corridor payment into their capital calculations already. When they took that funding away, their risk-based capital levels plummeted. Kentucky Health Cooperative's 600% risk-based capital went negative overnight. Colorado Health Insurance Cooperative Inc.'s risk-based capital crashed too, the state insurance department told SNL. In South Carolina, Insurance Director Ray Farmer told SNL that Consumers' Choice Health Insurance Co.'s risk-based capital dropped from 877% at the end of 2014 to just 97%.

In a way, this reminds me very much of another absurd bit of Congressional stupidity designed to cause an institution to fail: The USPS Health Benefit Funding Debacle of 2006:

The Washington Post recently published an article asking if the post office should “be sold to save it.” It begins with an explanation of what the author sees as an unsustainable postal service:

The U.S. Postal Service, which has been losing customers for almost a decade, is still struggling to right itself. Everyone understands its basic problem. The electronic age has pushed first-class mail into an unstoppable decline. To stay afloat, the post office needs to get its costs under control, by closing post offices, eliminating Saturday delivery, downsizing its workforce. To boost revenue, it could offer banking services and sell lots of stuff besides stamps.

It goes on to advocate for privatizing the agency by selling off parts of it to bidders who could then operate it independently.

That year, the Congress passed the Postal Accountability and Enhancement Act of 2006 (PAEA). Under the terms of PAEA, the USPS was forced to “prefund its future health care benefit payments to retirees for the next 75 years in an astonishing ten-year time span” – meaning that it had to put aside billions of dollars to pay for the health benefits of employees it hasn’t even hired yet, something that “no other government or private corporation is required to do." The problem with the Post‘s argument starts in its thesis: that the post office is in some sort of deep fiscal hole of its own making – a result of being left behind in the Internet Age and a shrinking consumer base. The truth is that almost all of the postal service’s losses can be traced back to a single change in the law made by the Republican Congress in 2006.

Got that? The U.S. Postal Service is legally required to keep 75 years worth of future retiree healthcare benefit funding stowed away in the bank at all times, an absolutely moronic length of time. In the meantime, it's losing money year after year, while still being required to provide all of the services we expect of it.

Anyway, this helps fill in one more piece of the Co-Op failure puzzle.