Skip Ribbon Commands
Skip to main content


In March of 2010, President Obama signed the Patient Protection and Affordable Care Act (PPACA) into law, thereby enacting an integral part of the health reform legislation of 2010.  One of the goals of PPACA was to promote transparency and cost effectiveness within the health insurance arena, and one of the tools used to meet this goal was the setting of a minimum Medical Loss Ratio (MLR), which represents the percentage of premiums an insurer spends on medical claims and initiatives. The purpose of the new requirement was to strongly incentivize insurers to spend more of their premium revenue on members’ medical care, since failing to maintain the required MLR meant the insurer was forced to provide rebates to its members for the difference.


PPACA added Section 2718 of the Public Health Service Act, which requires health insurance issuers offering individual or group coverage to submit annual reports to the Department of Health and Human Services (HHS). The annual report mandates the public disclosure of information regarding the percentages of premiums an insurer spends on reimbursement for clinical services and quality improvement, defined as the Medical Loss Ratio.  PPACA tasked the National Association of Insurance Commissioners (NAIC) with establishing uniform definitions and standardized methodologies for determining which services constitute clinical services, quality improvement, and other non-claims costs. The NAIC drafted and approved a model regulation, which HHS adopted in full.  On November 22, 2010, HHS issued an interim final rule which went into effect on January 1, 2011. 45 CFR Part 158 (2010).



The annual report submitted by insurers will contain information concerning the amount of premium revenues and the use of such revenues for clinical services, activities that improve health care quality, and all other non-claims costs (including an explanation for all such non-claim costs).  In essence, the annual report requires an insurer to account for all uses of premium revenue, whether such use is for quality improvement and claims or not. The interim rule requires the annual report be submitted to HHS by June 1 of the year following the end of an MLR reporting year, which is on a calendar year basis.  An insurer has three months to process claims that were received after December 31 and an additional two months to finalize the report.


To calculate the MLR, the total number of paid claims and expenses to improve health care quality is divided by the total number of premiums received minus taxes and regulatory fees.  This calculation is made on a state by state basis, and, within state, by the three market segments identified in the interim rule: the large group market, the small group market, and the individual market.


The term “expenses to improve health care quality” is arguably the most imprecise of the MLR’s variables.  This term is further described as all plan activities designed to improve health care quality in ways that can be objectively measured and grounded in evidence based medicine. 45 CFR Part 158.150. The activities’ primary purpose must be to improve health outcomes, and any cost saving benefits must be incidental to the health based purpose. The interim final rule provides an extensive list of activities that will qualify as quality improvement expenses, as well as costs that will not suffice.


Under the interim final rule, beginning January 1, 2011, individual and small group commercial health plans will have to spend at least 80% (85% for the large group market) of the premiums they collect on patient care and effort to improve the quality of care instead of toward their own profits and overhead costs. Insurers must provide pro rata rebates to members if their spending does not meet the minimum standard for a given MLR reporting year. If a state sets a higher MLR standard, that higher MLR must be met within that state.


Medicare Advantage (MA) plans must maintain an MLR of at least 85% beginning with the 2014 plan year. MA plans that fail to meet this requirement will be required to refund to CMS the percentage of the MA plan’s revenue equal to the difference between 85% and the plan’s actual MLR. If a plan fails to meet the minimum MLR requirement for three consecutive years, HHS will prohibit the plan from obtaining new enrollment. If a plan fails to meet the MLR requirement for five consecutive years, HHS will terminate the MA plan contract.


HHS may adjust the minimum MLR threshold on a state by state basis if HHS determines that applying the standard may destabilize the individual market in a given state.  Each state is able to request a modification to the required MLR, and HHS will either deny or grant each request after considering the characteristics of the requesting state’s market.  Although individual insurers cannot request adjustments, state insurance commissioners can apply for them on their state’s behalf.  Thirteen states have already applied for an "adjustment" period for implementing the new MLR requirements, and the first three applications have already been evaluated (Maine, New Hampshire, and Nevada).  To date, all of the evaluated applications have resulted in HHS granting an adjustment to the MLR requirements.  The Center for Consumer Information and Insurance Oversight, Medical Loss Ratio, (last visited July 12, 2011).



Health Information Technology: The interim final rule allows insurers to include health information technology investments incurred to support a quality improvement activity as expenses to improve health care quality. Insurers are thereby encouraged to utilize technology in their efforts to achieve the efficiencies and quality of care the MLR rule mandates.


Broker/Agent Commissions: Insurers must allocate broker and agent fees and commissions as non-claims costs that are not includable in the MLR. An insurer would have to be able to demonstrate a direct correlation between an associate’s compensation and improved health care quality in order to include such employee’s compensation as a quality improvement expense.


Fraud prevention: In general, fraud prevention and reduction activities cannot be included as an expense to improve health care quality. However, incurred claims may be adjusted by the amount of claims recovered through fraud reduction activities. This adjustment is capped at the total amount of fraud reduction expenses.


ICD-10 expenses: Claims adjudication costs, including the cost of converting to the new ICD-10 coding system, are not considered expenses to improve health care quality.  However, the NAIC has created a form to facilitate data collection relating to ICD-10 conversion and will report its findings to HHS in 2011. HHS will use the data to determine whether including ICD-10 expenses as a quality improving activity would be appropriate.




The interim final rule allows for a credibility adjustment to account for statistical fluctuations in claims that can affect smaller or newer plans. 45 CFR Part 158.230. HHS recognizes that these plans will experience increased volatility based on their smaller membership pool, and will consequently have a MLR based on unreliable data. Insurers with less than 1,000 members in a market are considered non-credible and will not have to pay rebates at all for 2011. Insurers with 1,000 to 75,000 members are considered partially credible and will receive a credibility adjustment, and insurers with more than 75,000 members are considered fully credible and will receive no adjustment to their MLR.




If an insurer fails to comply with the regulation’s reporting or rebate requirements, civil monetary penalties may be imposed.  HHS can impose a penalty for each violation of up to $100 per entity, per day, per individual affected by the violation.  If HHS chooses to conduct an audit of an insurer’s submitted report, the insurer will be given 30 days notice.  An audit can take place up to six years from the date of filing.  In addition, HHS may choose to accept the findings of a state issued audit.




The heath reform efforts of 2010 were set forth in an attempt to assuage the burden healthcare costs were inflicting on the government and the economy. The anticipated result is more transparent and efficient insurers who place a priority on quality healthcare. However, an insurer has many different avenues toward achieving the required MLR, including changes to provider reimbursement, cutting administrative costs, or even leaving the market if compliance is not financially justified.  The U.S. healthcare industry is in a remarkable period of change and adjustment, and only time will tell if the regulations will prove successful.