I have changed health insurance plans three times in the last eighteen months. This was not because I wanted to, but because when people change jobs in America, they lose their insurance and have to sign up for new insurance. This involuntary insurance churn happens virtually nonstop to the half of Americans that use the employer-provided insurance system.
It’s a miserable experience, both because of the hassle of it all and because, each time you do it, your annual deductible — the amount of money you have to pay before the insurance really kicks in — starts over. If you have any care needs in the hazy period when you are switching your insurance over, it’s unclear which of the two insurers to charge it to or whether you need to pay for it yourself as if you are uninsured.
The upside of the system, relative to national health insurance programs, is supposed to be that you get to choose your health insurance plan. This is, of course, not true for workers employed by the many companies that only offer one health plan. But even for those who do have a choice, it is hard to believe all but a small fraction have any idea how to exercise it.
Back in my federal government days, we were blessed with literally dozens of health insurance options. So much choice. So much freedom. The condensed summaries of all the plans ran hundreds of pages long. Even if you read the seemingly endless tables of information, it would not be enough to actually compare the plans against one another. For that, you’d need to open up a spreadsheet and start copying over values and cooking up some formulas.
In my most recent journey, the choices were mercifully limited to three options: the preferred provider organization (PPO) plan, the health maintenance organization (HMO) plan, and the high-deductible health plan (HDHP).
The plans differ in so many ways that it would be difficult to come up with a singular index to rank them. So, for my purposes here (and in real life), I will focus purely on the money parts of them to walk you through how you would try to choose between them.
The best place to start is the annual employee-side premium of each plan, which are as follows:
- HDHP – $3,840
- HMO – $5,640 ($1,800 more than HDHP)
- PPO – $9,360 ($5,520 more than HDHP)
At a glance, you’d think that, all else equal, if you pick the HDHP instead of the HMO, then you’d save $1,800 per year. Likewise, if you picked the HDHP over the PPO, then you’d save $5,520 per year. But since these savings are taxed as income if you decide to take them down as cash compensation, to really do a comparison, you need to deflate the values by your marginal income and payroll tax rates. Thus, if your marginal federal tax rate is 22 percent and your marginal payroll tax rate is 7.65 percent and your marginal state income tax rate is 3.35 percent, then your all-in tax rate is 33 percent, meaning that your savings from picking the HDHP are only two-thirds of what they initially appear to be.
Once you understand the premium situation, you now need to turn your eye toward what the plans actually cover and on what financial terms. For this, there are basically four things to look at.
- What does the plan cover before you meet your annual deductible?
- How much is your annual deductible?
- How much is your annual out-of-pocket maximum?
- How does cost-sharing work for care received after you meet your annual deductible but before you have hit your annual out-of-pocket maximum?
The answers for my options are as follows:
- For the PPO and HMO, in-network preventive care and immunizations, office visits, in-network prescription drugs, emergency room visits, and urgent care facility visits are covered without regard for whether you have met your deductible. For HDHP, only in-network preventive care and immunizations are covered this way.
- Deductibles are HDHP – $3,000; HMO – $600; PPO – $1,200.
- Out-of-pocket maximums are HDHP – $6,000; HMO – $6,000; PPO – $5,000.
- For the HDHP, you pay 20 percent of the cost of the care incurred between meeting your annual deductible and hitting your annual out-of-pocket maximum. For the PPO, it is a bunch of flat copay amounts that vary depending on what care you are getting. For the HMO, it is a mix of flat copay amounts and paying 10 percent of the cost, with the precise mix varying based on the care you are getting.
When calculating through these four interconnected variables, which plan is better for you will ultimately depend, of course, on how much and what type of care you end up receiving. Some of that you may know in advance, e.g., if you have a chronic condition and take regular medication. Some of it you will not know in advance. Once you figure out all the financial upsides and downsides for these four variables with these three plans, you will, of course, still need to balance that consideration against the premium differences discussed above as deflated by your marginal tax rate.
If things weren’t complicated enough, there is actually yet another consideration that goes into the HDHP plan. Unlike the PPO and the HMO, the HDHP comes with a Health Savings Account (HSA), and the employer is going to contribute $1,200 per year into that. Employees may contribute up to another $6,100 per year into the plan and, critically for making the math work, the employee contributions also go in tax free.
To factor in the value of the HSA for purposes of comparing the plans, what you want to do is look at what happens if you assume that the employer puts $1,200 into the HSA and that you redirect all your premium savings from picking the HDHP over the PPO or the HMO into the HSA as an employee contribution.
I’m sure your eyes are glazing over at that, but we can do this very concretely. Remember from above that the premium savings from picking the HDHP over the PPO are $5,520 per year. If all of that, plus $1,200 from the employer, is contributed to the HSA, then the HSA will receive $6,720 per year, money that can be used to pay for the deductible and other cost-sharing for the HDHP. Also remember from above that the out-of-pocket maximum for the HDHP is $6,000. So, even if you end up having to spend all the way to the out-of-pocket maximum, the HDHP+HSA ends up being a financial winner over the PPO.
For the HMO, things are not as clear-cut. Recall that the HMO premium is $1,800 higher than the HDHP premium. If that $1,800 plus the $1,200 employer contribution is placed in the HSA, then the HSA will have $3,000 per year. That is also conveniently equal to the $3,000 deductible for the HDHP. Thus, you effectively neutralize the high deductible of the HDHP by picking it over the HMO. This means you only really start incurring a net financial hit after you’ve incurred $3,000 of care for the year. If you find yourself in that situation, then there are scenarios where the HMO outperforms the HDHP in terms of total cost, but only for a narrow band of care incurred after the deductible but before the out-of-pocket maximum.
There are some chronic conditions and regular medications used in my family, and so the choice actually ends up being a little bit difficult between HMO and HDHP, because it is reasonably possible that we will wind up in a utilization sweet spot where the HMO outperforms the HDHP, but also reasonably possible that we won’t quite get there or, if something bad happens, we’ll go beyond it. In short, I chose the HDHP with the HSA because I think it probably, on average, generates the best financial outcome, though this is far from certain.
I am writing this because, having just done all of this, I doubt very seriously that more than a tiny percentage of Americans have the knowledge and quantitative abilities to do all this, and I suspect even fewer than that want to do it. Yet the ability to do this, which is called “choice,” is seriously offered as something that a lot of people would be sad to lose.
I just don’t believe it.