Medicare Advantage Under Scrutiny

October 2007

One of the most fundamental issues currently facing Medicare is the program's long-term financial stability.1 As Medicare spending continues to increase, examining current spending and trends has become increasingly important. In particular, Medicare Advantage2 has become a subject of high interest because of its recent growth in enrollees and its impact on Medicare spending. Currently, a record number of health insurance companies are contracting with the government to offer Medicare Advantage plans, and enrollment in these programs is an at all-time high and expected to continue to grow.3

Medicare Private Health Plans

Medicare Health Maintenance Organizations (HMOs) have been a benefit option under Medicare since the HMO Act of 1976. The Balance Budget Act of 1997 created the option for Medicare beneficiaries to receive their coverage through private health insurance plans, rather than through original Medicare Parts A and B.4 As part of this act, additional types of private health plans were authorized in addition to Medicare HMOs, including Preferred Provider Organizations (PPOs), Provider Sponsored Organizations (PSOs), Private Fee-For-Service (PFFS) plans, and high deductible plans linked to Medical Savings Accounts (MSAs). These programs were known as "Medicare+Choice" or "Part C" plans.

More changes were made to Medicare+Choice with the Medicare Modernization Act (MMA) of 2003. Medicare+Choice became known as Medicare Advantage (MA), and new regional PPOs and Special Needs Plans (SNPs) for dual eligibles and other vulnerable populations were created. In addition, payment rates to Medicare Advantage plans were raised.

Of the near 44 million elderly and disabled people on Medicare, 20 percent (8.7 million) receive their Medicare benefits through Medicare Advantage plans.5 About 80 percent of Medicare Advantage beneficiaries are in HMOs or PPOs, which both have comprehensive networks of providers and use care management services to promote better coordination and effective use of care. PFFS plans allow enrollees to obtain care from any provider and are not required to have a network of providers.

The primary goal of the Medicare Advantage program was to offer beneficiaries the choice of enrolling in private health plans. To date, there has been success in providing additional benefits to enrollees and in lowering cost-sharing. The addition of PFFS plans has also increased access to coverage, particularly for people living in rural areas.

Enrollment Trends

Recently, Medicare Advantage plans have become the subject of much debate. These plans are currently growing faster than other Medicare options, in both the number of plans and enrollees. With this growth, particular attention has been paid to increasing costs of the program, creating disagreement regarding size of payments to Medicare Advantage plans and the added benefits that are financed with those payments.

Plan participation and enrollment in Medicare Advantage has fluctuated over the past decade. Although there was a significant drop in enrollment between 1999 and 2002, between 2003 and 2007, Medicare Advantage enrollees increased from 5.3 million to 8.7 million, and the number of contracts grew from 285 to 602.6 Of these increases, the greatest growth in recent enrollment has been in the PFFS plans. Between 2005 and 2007, enrollment in these plans increased from 208,990 to 1,327,826 enrollees.7
Medicare Advantage Payment Rates

Medicare pays MA plans a capitated rate to provide Part A and B benefits to enrollees. For many years, payments to HMOs were generally set at 95 percent of FFS costs in each county.8 As part of changes made by the MMA Act of 2003, since 2006, a bidding system has been used to determine payment for MA plans. Private plans submit bids reflecting the per capita payment for which they are willing to provide Medicare's Part A and B benefits. These bids are compared to county-level benchmarks; the maximum payments that the government will make for enrollees in private plans. Currently, benchmarks are required to be at least as great as per capita FFS expenditures in every county.

Recent discussions have focused on the issue that many county benchmarks are higher than FFS expenditures. The Congressional Budget Office (CBO) calculates that benchmarks are 17 percent higher, on average, than projected per capita FFS expenditures nationwide. CBO determined that this varied between different MA plans, with PFFS plans exhibiting the largest differential at an average of 19 percent above per capita FFS, while other MA plans average approximately 12 percent higher than traditional FFS.9

If plans bid less than the county benchmark, Medicare retains 25 percent of the savings, while the plan receives the other 75 percent as a rebate, which must be used to provide supplemental benefits or decrease premiums for enrollees. Because Medicare Part A and B costs are still distributed across all Medicare enrollees, this leads to a question about the extent to which Medicare distributes extra benefits equitably across Medicare populations.

PFFS Plans

Rapidly increasing enrollment in private plans has been driving the increased cost of Medicare Advantage plans. Although partially offset by decreasing enrollment and spending in FFS Medicare, shifts in enrollment to Medicare Advantage results in higher net costs for the Medicare program overall.10

PFFS plans are particularly unique in comparison to other Medicare Advantage plans because in addition to not having to build a network of providers, they do not have to report quality measures, have CMS review and approve bids, offer Part D coverage, or have an out-of-pocket limit on enrollee expenditures.

The addition of PFFS plans to Medicare Advantage was successful in increasing access and coverage. It has increased the number of plans enrolled in Medicare Advantage, as well as the benefits offered. While this has encouraged participation of private plans, some feel the current MA program offers few incentives for efficiency.11 While PFFS plans help to reach the goals of meeting health care service needs of beneficiaries, these plans undermine goals of financial neutrality.12

Future Challenges

On average, every Medicare beneficiary is paying about $2.00 more per month in Part B premiums to finance the payments being made in MA that exceed Medicare FFS expenditure levels.13 It is argued that this is causing uneven distribution of benefits across beneficiaries, and that there are more targeted, less costly ways to provide these benefits. MedPAC recommends that benchmarks should be set at 100 percent of Medicare FFS expenditures.14 This could increase efficiency and promote the use of potential savings to provide extra benefits to enrollees. While this strategy may force plans to become more efficient, it could result in fewer plan offerings and less generous benefits, which has been one of the successes of the Medicare Advantage plans.

CBO projects that payments to Medicare Advantage plans will increase from $60 billion in 2006 to $77 billion in 2007 and $196 billion by 2017.15 In addition to rising costs, it is projected that enrollment in Medicare Advantage plans will grow at an average rate of about 7 percent over the next ten years, while regular Medicare is only expected to have a 2.5 percent growth rate over the same time. CBO also addressed the potential to decrease Medicare spending by reducing benchmarks to FFS spending, noting that it would reduce federal spending, but also make the program less attractive to beneficiaries and health plans, which could affect participation and enrollment rates.16

The scrutiny of the Medicare Advantage program is likely to continue as policymakers weigh the benefits and costs of this model of coverage. Foremost in their minds will be the question, "how does Medicare Advantage impact the Medicare system and its prospects for remaining fiscally stable while continuing to meet the health care needs of beneficiaries?"

The following selected grants from HCFO's portfolio may help inform policy makers who are working to address current issues around Medicare Advantage. For other Medicare Advantage related grants see

Title: Examining the Impact of Informational Messages on Seniors' Choice of Medicare Drug Plans
Institution: Princeton University
Principal Investigator: Eldar Shafir, Ph.D.
Grant Duration: August, 2007 - July, 2008

The applicants will examine how well people choose from among the large set of alternatives in the Part D plan and evaluate whether psychologically attuned interventions can help improve those choices. Specifically, they will evaluate people's actual choice of plan in light of the medications they use and then experimentally increase the availability of or access to cost information. They will encourage clients to explicitly consider their personal preferences (such as their attitude toward the use of generic medications or mail order prescription drug services) to see how the availability of such considerations might influence chosen plan quality and beneficiary satisfaction with the chosen plan. The objective of this study is to inform policies surrounding Part D and other policies relying on consumer choice in complicated environments.  

Title: Impact of MMA Part D on Medicare Residents in Nursing Homes
Institution: University of Massachusetts Medical School
Principal Investigator: Becky Briesacher, Ph.D.
Grant Duration: January, 2007 - June, 2008

The applicants will evaluate the impact of the transfer of prescription drug coverage for dual-eligibles (Medicare and Medicaid) living in nursing homes from Medicaid to Medicare Part D, as required by the MMA. In particular, they will: 1) measure the rates of enrollment into Medicare Part D for nursing home residents from 2005 to 2007; 2) assess the impact of Medicare Part D on overall prescription drug utilization patterns; 3) identify the major drug classes most affected by the program, including an examination of benzodiazepines and their exclusion from Part D coverage; and 4) determine the impact of Medicare Part D on overall rates of hospitalizations and falls, as indicators of quality care. The objective of the project is to better inform state and federal policymakers about the impact of Medicare Part D on drug utilization, as well as quality (measured by hospitalizations and falls).

Title: Study on Informed Choice of Drug Coverage for Medicare Beneficiaries
Institution: University of Minnesota School of Public Health
Principal Investigator: Bryan E. Dowd, Ph.D.
Grant Duration: August, 2006 - July, 2007

Is Medicare Part D drug benefit a cost-effective option for healthy Medicare beneficiaries? The researchers hypothesize that seniors use current expenditures to estimate their need for coverage, which could result in a significant underestimate of the true risk. The objective of the project is to evaluate the cost-effectiveness of Medicare Part D for healthy beneficiaries and provide accurate lifetime drug cost information to help seniors make more informed decisions regarding Medicare Part D coverage. 

Title: Medicare Beneficiaries Response to Coverage Gaps Versus Actuarially Equivalent Continuous Coverage for Prescription Drugs
Institution: University of Maryland at Baltimore
Principal Investigator: Bruce Stuart, Ph.D.
Grant Duration: July, 2006 - June, 2007

Are Medicare beneficiaries likely to react differently when faced with the donut-hole "gap" in Medicare Part D than they would with actuarially equivalent continuous coverage? The researchers propose to challenge the hypothesis that actuarially equivalent, but structurally different cost sharing arrangements have similar impacts on beneficiaries' prescription drug utilization patterns. The researchers would also determine whether the relationship between use and benefit structure is sensitive to the overall generosity of insurance coverage. This project builds on Stuart's previous HCFO grant assessing the effects of gaps in drug coverage for Medicare beneficiaries with common chronic diseases. That study found that gaps in drug coverage lead to reduced utilization rates and that the effects are magnified for those with common chronic diseases such as diabetes, COPD, and mental illness. This project would extend the understanding of how Medicare beneficiaries react to benefit structure, but would also be useful to private payers as they search for a cost sharing formula that contains costs while minimizing disruption in medication regimens. The objective of this project is to provide policymakers with a better understanding of how Medicare beneficiaries behave when faced with alternative cost-sharing structures.  

Title: Medicare Health Plan Decisions: Will Regional Competitive Bidding Work?
Institution: Boston University School of Public Health
Principal Investigator: Steven D. Pizer, Ph.D.
Grant Duration: July 2004 - December 2006

What is the market entry and exit behavior of health plans (HMOs and PPOs)? The project modeled this behavior in order to provide input to policymakers trying to enhance private plan participation in Medicare. The researchers determined whether plans will require higher premiums or more extensive risk sharing to induce them to enter counties or regions with low population densities. They also modeled the enrollment and disenrollment from health plans to determine whether differences in the service area definitions (county versus regional service areas) may exacerbate adverse selection and cause instability in plan premiums and participation. The objective of this study was to help provide information to federal policymakers implementing Medicare Advantage (formerly Medicare+Choice) and planning for private plan competition demonstrations.

Title: Managed Care and Medicare Expenditures
Institution: University of Michigan
Principal Investigator: Michael E. Chernew, Ph.D.
Grant Duration: January, 2004 - December, 2004

How do Medicare+Choice (M+C) payment rates affect M+C and FFS utilization and expenditures? The researchers: 1) assessed the impact of changes in payment rates to Medicare HMOs on enrollment in HMOs by Medicare beneficiaries; 2) assessed the aggregate impact of Medicare HMO enrollment on FFS Medicare utilization and expenditure; and 3) disaggregated the impact of Medicare HMO enrollment on FFS Medicare utilization and expenditure into a spillover effect and a selection effect. This study revises the assumptions surrounding the impact of managed care on Medicare expenditures in order to assist policymakers in assessing the financial health of the Medicare Trust Funds.

Title: Managed Care's Spillover Effects on the Quality of Diabetes Care for Medicare Patients
Institution: Mount Sinai School of Medicine
Principal Investigator: Paul L. Hebert, Ph.D.
Grant Duration: January, 2002 - July, 2003

How does increased managed care penetration affect quality of care in the non-managed care sector? Paul L. Herbert, Ph.D., at Mount Sinai School of Medicine used data from the Physician Survey of the CTS and the National Diabetes Cohort to examine whether efforts to monitor the quality of care in managed care organizations (MCOs) have had similar spillover effects on the non-managed care market - particularly for chronic conditions such as diabetes. Specifically, the researchers examined whether: 1) increased managed care market penetration affects the provision of diabetes-specific preventive care to Medicare beneficiaries in the non-managed care sector; and 2) increased managed care market penetration affects the provision of high-cost medical services to Medicare beneficiaries with diabetes in the non-managed care sector. The study also examined whether managed-care-induced changes in health care use have implications for "avoidable" hospitalizations for persons with diabetes. This study better informs policymakers of the system-wide consequences of health care cost-containment policies that encourage expanded use of managed care.

Title: Medicare Risk-Contracting: Impact on Access and Quality for Medicare HMO Enrollees and Vulnerable Populations
Institution: University of Southern California
Principal Investigator: Glenn A. Melnick, Ph.D.
Grant Duration: February, 2001 - January, 2005

What are the effects of Medicare managed care on access and quality (compared to Medicare fee-for-service) for the general population of managed care beneficiaries and vulnerable populations, in particular? Based on previous studies finding that managed care works best for those who know how to work the system, the researchers at the University of Southern California hypothesize that vulnerable populations are more likely to plan than their non-vulnerable equivalents. They will test this hypothesis at both the patient and plan levels, examining the following questions: 1) Do vulnerable populations enrolled in Medicare managed care receive different levels or quality of care than their less vulnerable counterparts? and 2) Do health plan characteristics (e.g. type of ownership, organizational structure, or experience with Medicare risk contracting) influence the level of care vulnerable populations receive? The goal of this study is to provide policymakers with a deep and broad analysis of the experiences of Medicare managed care enrollees. They will also conduct a series of case studies to assess the technical feasibility of adding outpatient, pharmacy, and long-term care data from health plans to the OSPHD database.

1 "MedPAC Chair Discusses Challenges in Interview with The Hill ." Kaiser Daily Health Report. September 21, 2007. Also see
2 "Medicare Advantage Plans." U.S. Department of Health and Human Services. See
3 Kaiser Family Foundation, "Medicare Advantage: Key Issues and Implications for Beneficiaries," Testimony of Patricia A. Neuman, Hearing of the House Committee on the Budget, United States House of Representatives, June 28, 2007. Also see
4 "Medicare Advantage," Medicare Fact Sheet, The Henry J. Kaiser Family Foundation, June 2007. Also see,
5 ibid.
6 "Medicare Advantage," Medicare Fact Sheet, The Henry J. Kaiser Family Foundation, June 2007. Also see,
7 Miller, M. "The Medicare Advantage Program and MedPAC Recommendations." Statement before the Committee on the Budget. U.S. House of Representatives, June 28, 2007.
8 "Medicare Advantage," Medicare Fact Sheet, The Henry J. Kaiser Family Foundation, June 2007. Also see,
9 Orszag, P.R. "CBO Testimony: The Medicare Advantage Program" Statement before the Committee on the Budget. U.S. House of Representatives, June 28, 2007.
10 ibid.
11 Miller, M. "The Medicare Advantage Program and MedPAC Recommendations." Statement before the Committee on the Budget. U.S. House of Representatives, June 28, 2007.
12 ibid.
13 ibid.
14 ibid.
15 Orszag, P.R. "CBO Testimony: The Medicare Advantage Program" Statement before the Committee on the Budget. U.S. House of Representatives, June 28, 2007.
16 ibid.