In 1997, eHealthInsurance.com was founded to service the individual health insurance consumer online. Today, eHealthInsurance.com has enrolled over 4 million people in health insurance coverage and is the leading online marketplace for individual and family health insurance products in the nation.

In 1999, Paul Zane Pilzer founded ExtendHealth, Inc. (originally Wellness Services, Inc.) to distribute Defined Contribution Healthcare and individual health insurance policies through employers. ExtendHealth eventually focused on offering Defined Contribution Healthcare to retirees of large U.S. employers. ExtendHealth was acquired by Towers Watson in 2012 for $435 million.

In 2003, UnitedHealth Group, Inc. began consolidating several individual health insurance companies to expand its reach in the individual health insurance market including Golden Rule, American Medical Security, Oxford Health Plans, and PacifiCare. UnitedHealth’s individual business unit now operates under the brand UnitedHealthOne.

Paul Zane Pilzer founded Zane Benefits in 2006 to help small employers take advantage of new Defined Contribution Healthcare via its proprietary SaaS software platform ("ZaneHealth"). Using Zane’s platform, employers offer a custom Defined Contribution Healthcare solution that allows the business to reimburse employees for their individual health insurance policies.

2010 – Affordable Care Act Passed

As demand increased for individual health insurance, limitations in the Individual Market were exposed. These limitations included medical underwriting, application denials, and a lack of standardized plans. At the same time, the small business health insurance market was in crisis as employer healthcare costs continued to sky-rocket. Together, the individual and small employer market challenges led to the creation and ultimate passage of the Affordable Care Act (ACA) in 2010. On March 23, 2010, the ACA was signed into law. However, major provisions did not take effect until January 1, 2014.

2014 – Major ACA Provisions Take Effect

While the ACA was passed in 2010, the major provisions of the ACA were delayed until January 1, 2014.

These 2014 reforms fall within three primary objectives for the Individual Market:

1. To standardize plans and provide consumer protections;
2. To provide universal access to health insurance; and
3. To make health insurance more affordable.

1. To standardize plans and provide consumer protections
In order to standardize plans available in the Individual Market and provide better consumer protections, the ACA requires:

- Standard Plan Tiers – Individual health insurance policies are organized by "metal" tiers -- bronze, silver, gold, and platinum -- with the goal of easier and more informed comparison shopping.
- Unlimited Essential Health Benefits – Individual health insurance policies must provide a comprehensive package of items and services, known as “Essential Health Benefits”. Essential Health Benefits must be covered on an unlimited
(annual and lifetime) basis.

2. To provide universal access to health insurance
In order to ensure access to individual health insurance, the ACA requires:
- Guaranteed Issue – All individual health insurance insurers must “Guarantee Issue” policies to all applicants, regardless of health status or other factors.
- State Health Insurance Marketplaces – States must make available a public Health Insurance Marketplace to provide an unbiased location for consumers to comparison shop for individual health insurance policies.

3. To make health insurance more affordable
In order to make health insurance more affordable, the ACA includes:
- Premium Tax Credits – Americans with household incomes below 400 percent of the federal poverty line (FPL) qualify for premium tax credits which cap the cost of a qualifying household’s individual health insurance policy as a percentage of the household’s income.
- Medicaid Expansion – States have the option of expanding Medicaid eligibility to citizens with household incomes up to 138 percent of FPL.
- Individual Mandate – The individual mandate, which requires all Americans to purchase health insurance or pay a tax penalty, is designed to diversify the risk pool with healthy participants in order to lower costs.

While plan standardization and guaranteed access have readied the Individual Market for mass adoption, it is the ACA’s effort to make health insurance more affordable that is driving the shift to individual health plans.

As a result, the Individual Market is expected to expand to more than 150 million insureds by 2025.16

To summarize, due to the high cost of group health insurance and the better value of individual health insurance, small businesses have begun shifting employees to the Individual Market and are replacing existing group health insurance premium contributions with a Defined Contribution toward employees’ individual health insurance premiums.

Conclusion
The small business health insurance market is undergoing a paradigm shift from an employer-driven “Defined Benefit” model to an individual-driven “Defined Contribution” model.

Minimum contribution and participation requirements are forcing small businesses to stop offering traditional health insurance plans. In order to offer health insurance, small businesses are required to contribute a minimum percentage of the premium for each employee (typically 50 to 75 percent). Additionally, coverage may be rescinded if a required number of employees do not enroll in the plan (typically 75 percent of eligible employees). As a result, the number of small and medium businesses (with less than 200 employees) offering coverage is down from 68 percent in 2000 to 57 percent in 2013.

While the transition from employer-based health insurance to individual health insurance has been gradual since 2000, the post-2014 enhancements to the Individual Market have accelerated this shift.

The post-2014 Individual Market’s features of guaranteed acceptance, choice, portability, and tax credits have made individual health policies more attractive to employees than employer plans. As a result, the number of policyholders in the Individual Market is projected to increase to more than 150 million by 2025. Additionally, new Defined Contribution Healthcare arrangements allow small businesses to reimburse employees for their individual health insurance costs – enabling small businesses to offer employee health benefits for recruiting and retention purposes without absorbing the premium and administrative costs of sponsoring traditional group health insurance.

Due to the advantages of the post-2014 Individual Market and the availability of new Defined Contribution Healthcare arrangements, 60 percent of small businesses will eliminate traditional employer-sponsored health insurance in favor of Defined Contribution Healthcare and individual health plans over the next three years.

2000s – The Rise of the Individual Market
By the 2000s, the small employer group health insurance death spiral had begun to run its course. From 1999 to 2013, without accounting for the annual benefit reductions, the cost to cover a single employee rose from $2,196 per year in 1999 to $5,884 per year in 2013. Family coverage increased from $5,791 per year in 1999 to $16,351 per year in 2013.

1. Small business health insurance costs are not sustainable;
2. Individual health insurance policies provide greater value to employees;
3. Individual health insurance costs are 20 to 60 percent lower; and
4. Defined Contribution Healthcare arrangements allow employers to reimburse employees for individual health insurance costs.

1. Small business health insurance costs are not sustainable
Nothing in the ACA addresses “adverse selection” (referred to previously as the small employer group health insurance death spiral).

As the small employer group health insurance death spiral continues to run its course, small businesses that currently offer health insurance coverage will either: (1) be forced to cancel the plan; or (2) become unable to meet the minimum contribution requirements or minimum participation requirements set by the insurer, and have the plan canceled by the insurer.

2. Individual health insurance policies provide value to employees
Once educated, many employees prefer individual health policies to employer-provided plans due to two key advantages:

. Choice – With individual health insurance, employees choose the coverage and doctors that best fit their family’s needs and budget.
. Portability – Employees keep their health insurance when they leave the company because individual health plans are independent of employment.

3. Individual health insurance costs are 20 to 60 percent lower
On average, individual health insurance plans cost 20 to 60 percent less than traditional group health insurance.

The following U.S. maps show a state-by-state cost-comparison of individual health insurance premiums offered through the federal Individual Health Insurance Marketplace in 2014 compared to group health insurance premiums. In all states using the federal Marketplace, individual health insurance policies are less expensive than group health
insurance even before one takes into account premium tax credits. As the maps show, this holds true across Bronze, Silver, and Gold plans.

The Shift to Individual Health Insurance and Defined Contribution Healthcare

Over the next three years, 60 percent of small businesses will eliminate small business health insurance in favor of individual health plans funded by Defined Contribution Healthcare arrangements because:

The History and Future of Small Business Health Insurance

Introduction
Since 2000, the percentage of Americans covered by job-based health insurance has steadily declined. Facing double-digit growth in health insurance premiums, many small businesses (defined as employers with less than 50 employees) have either eliminated health benefits or redesigned the plans to include higher deductibles, larger co-payments, and greater premium-sharing by employees.

DROP THE GROUP

Defined Contribution: Drop Group Employer Coverage and Switch to Individual Health Insurance

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This price pressure has created a paradigm shift in the way small businesses offer employee health benefits – a shift from an employer-driven “Defined Benefit” model to an individual-driven “Defined Contribution” model. While the transition from employer-based health insurance to individual health insurance has been gradual since 2000, the post-2014 enhancements to the Individual Market have accelerated this shift.

As a result, the Individual Market is expected to expand from 30 million insureds in 2012 to more than 150 million insureds by 2025.

This paper focuses on the first phase of this shift, which will be led by small businesses. Adopting Defined Contribution Healthcare and individual health policies will allow small business owners and their employees to save 20 to 60 percent ($4,000 to $12,000 in savings per family per year) on health insurance. Due to the significant cost advantage for small business owners and their employees in the Individual Market, 60 percent of small businesses will eliminate traditional employer-sponsored health insurance in favor of Defined Contribution Healthcare and individual health plans by 2017.

History of U.S. Employer-Provided Health Insurance

1940s – Creation: Post-World War II

Prior to World War II, most Americans paid for their own medical care. They either paid their chosen provider directly, or through the Blue Cross nonprofit health insurance entities which were created to offer guaranteed service for a fixed fee.

Back then, health insurance really was insurance—providing coverage only for major items like hospitalizations that people could not afford to pay for themselves. Many employees purchased their own individual or family health insurance policies, sometimes called personal health insurance policies, just as they do today with homeowners, auto, and life insurance.

Having witnessed the effects of hyper-inflation on Germany post-World War I, U.S. leaders and economists were concerned about potential post-World War II inflation. To manage this consequence, the U.S. Congress and President Roosevelt instituted wage and price controls during World War II and were determined to maintain them after the war.

In order to grant a concession to labor without appearing to violate wage and price controls, the federal government exempted employer-paid health benefits from wage controls and income tax. In effect, this paved the way for wage increases in the form of non-taxable, employer-sponsored health benefits.

This unreported personal income in the form of health benefits created an enormous demand for employer-sponsored group health benefits over individual health insurance policies and incidental medical expenses purchased by employees with their own after-tax dollars. Employers received a 100 percent federal, state, and city tax deduction for the cost, and health benefits received by employees were exempt from individual federal, state, and city taxation.

The potential 2-for-1 tax advantage (depending on the income tax bracket of the employee) for employer-sponsored health benefits shifted the market away from health insurance purchased by individuals directly.

By the mid-1960s, employer-sponsored health benefits were almost universal. And, the employer model worked well while costs remained low and employees stayed with the same company for their entire career. However, as healthcare costs increased and employees began to change employers regularly, the system began to erode, starting in the small employer market.

1980s and 1990s – Guaranteed Issue Health Insurance for Small Businesses

By the late 1980s and early 1990s, the small business health insurance market became unstable as many insurers only wanted to insure the healthiest groups. As a result, in the early 1990s, most states adopted a version of the National Association of Insurance Commissioners’ (NAIC) "Small Employer Health Insurance Availability" Model Act in an attempt to address this market instability.

The NAIC act stated that insurance companies, as a condition of doing business in a state, had to “Guarantee Issue” certain plans to small employers (typically defined as 2 to 49 employees). However, small employers could be turned down if they did not meet minimum participation requirements and/or minimum employer-contribution-to-premium
requirements set by the insurer.

While the NAIC act did make health insurance more accessible to small businesses, it did not address affordability. Facing double-digit growth in health insurance premiums, many small employers either ceased offering health benefits or redesigned the plans with higher cost-sharing by employees.

These annual benefit reductions and/or increased out-lay by employees inevitably led to an on-going version of adverse selection – a perpetual process referred to as the small employer group health insurance death spiral.

The death spiral starts when an employee’s cost to participate in the employer plan exceeds the employee’s willingness to pay. When this happens, the healthiest employees begin to drop off the employer plan in favor of individual policies. This causes the remaining small employer risk pool to become “sicker,” resulting in higher insurance premiums on renewal the following year. Then, the process repeats. Again, the employer reduces benefits to
maintain costs, more healthy employees drop off, and the rate goes up the following year.

This death spiral perpetuates until the small business either: (1) cancels the plan; or (2) is unable to meet the minimum contribution requirements or minimum participation requirements set by the insurer, and the plan is canceled by the insurer.

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Executive Summary

Minimum contribution and participation requirements are forcing small businesses to stop offering traditional health insurance plans. In order to offer health insurance, small businesses are required to contribute a minimum percentage of the premium for each employee (typically 50 to 75 percent). Additionally, coverage may be rescinded if a required number of employees do not enroll in the plan (typically 75 percent of eligible employees).
The number of small and medium businesses (with less than 200 employees) offering coverage is down from 68 percent in 2000 to 57 percent in 2013.
The post-2014 Individual Market’s features of guaranteed acceptance, choice, portability, and tax credits have made individual health policies attractive to employees.
The number of policyholders in the Individual Market reached 30 million in 2012 and is projected to increase to more than 150 million by 2025.
New Defined Contribution Healthcare arrangements allow small businesses to reimburse employees for their individual health insurance costs – enabling small businesses to offer employee health benefits for recruiting and retention purposes without absorbing the premium and administrative costs of sponsoring traditional group health insurance.
Due to advantages of the post-2014 Individual Market and the availability of new Defined Contribution Healthcare arrangements, 60 percent of small businesses will eliminate traditional employer-sponsored health insurance in favor of Defined Contribution Healthcare and individual health plans by 2017.

About the Map Data

. Individual Marketplace Rates: Data was derived from CMS data available for the states using the Federal Health Insurance Marketplace. Rates were based on a 40-year old, non-smoker.20
. Group Health Insurance Rates: Data was derived from the Kaiser Family Foundation. Rates are from 2012.21

4. Defined Contribution Healthcare arrangements allow employers to reimburse employees for individual health insurance costs
Defined Contribution Healthcare enables small businesses to offer employee health benefits for recruiting and retention purposes without absorbing the premium and administrative costs of sponsoring a traditional group health insurance plan.

Under a Defined Contribution Healthcare arrangement, employees purchase their own individual health insurance policies and the employer reimburses the employees for their out-of-pocket premium cost, often up to a specified monthly healthcare allowance.

There are two core Defined Contribution Healthcare arrangements a small business will consider:

A. A Taxable Healthcare Stipend, or
B. A Tax-free Health Reimbursement Plan (HRP)

A. Taxable Healthcare Stipend
Under this Defined Contribution Healthcare approach, the employer offers all similarly situated employees a fixed, taxable stipend to purchase individual health insurance, whether or not they actually purchase health insurance.

The employee's monthly contributions are typically added to his or her paycheck. At the end of the year, employees receive a form showing the amount of their stipend that they should report as income on their personal income tax return. As a result, most employees prefer their employers to establish a Defined Contribution Healthcare arrangement providing tax-free reimbursement of individual health insurance costs.

Under Section 105 of the Internal Revenue Code (IRC), employers are able to establish a formal self-insured medical reimbursement plan to reimburse employees for individual health insurance premiums on a tax-free basis.

B. Tax-Free Health Reimbursement Plan (HRP)
Under this Defined Contribution Healthcare approach, an employer utilizes Section 105 of the Internal Revenue Code to establish a formal self-insured medical reimbursement plan to reimburse employees for their substantiated individual health insurance costs on a pre-tax basis. Proponents of this arrangement refer to this approach as a Health Reimbursement Plan (HRP).22 An HRP should not be confused with an employer payment plan allowed under Section 106.23

When providing tax-free reimbursement of individual health insurance policies through an HRP, the employer must ensure compliance with federal regulations, including but not limited to legal plan documents, summary plan descriptions, and new “Market Reforms” required by the Affordable Care Act.

For example, in order to comply with the rules outlined in IRS Notice 2013-5424, the HRP must be structured to reimburse employees for only: (a) health insurance premiums up to a specified monthly healthcare allowance; and (b) unlimited basic preventive health services as required by Public Health Services (“PHS”) Act Section 2713.25

Failing to comply with the applicable regulations could result in fines of up to $100 per day per employee if a failure is not corrected within 30 days once it is identified.26 Therefore, it is expected that small businesses will seek assistance in administering HRPs to ensure compliance.

As a result, the Individual Market expanded and numerous entities were formed to service the new health insurance consumer including, but not limited to, eHealthInsurance.com, ExtendHealth, Inc., UnitedHealthOne, and Zane Benefits, Inc.