CMS’ MLR proposals are understandable, but caution is needed
In a parting shot at the private managed care industry, the Biden administration’s Centers for Medicare and Medicaid Services (CMS) issued a 2026 Medicare Advantage (MA) and Part D proposed rule for 2026 that would make major changes to the minimum medical loss ratio (MLR) requirements in the Medicare managed care program. This comes as Capitol Hill is shining a light on a number of MA program issues, including overpayments, risk adjustment abuses, supplemental benefits, marketing, poor Star performance, and the vertical integration of top national health insurers. These top national players control about three-quarters of all MA enrollment right now.
Minimum MLR explained
Most lines of business now have MLR requirements except self-funded employer plans. In these cases, businesses are at risk for healthcare expenditures as opposed to insurers. Insurers will still administer such plans usually for a set administrative fee.
The rules across various lines of business require at-risk health plans to report how much of the premium it receives is spent on medical expenses. The percentage of medical expenses against total premium is known as the medical loss ratio.
The rules were put in place to ensure that margins for insurers are not excessive as well as to control the growth of premiums year to year. The calculation of the medical loss ratio is based primarily on the National Association of Insurance Commissioners’ (NAIC) MLR policies, with some tweaks by various state and federal regulators. Generally, plans must spend at least 85% of premium on medical expenses in Medicare Advantage and in most states for Medicaid (although some states have higher requirements). In the at-risk large group market, the requirement is also 85%. In the small group and individual market, the requirement is 80%.
What does the 2026 MA rule do?
CMS says the MLR regulations will be changed to improve the meaningfulness and comparability of the MLR across plan contracts. The rule does the following:
- The changes will help align the requirements to commercial and Medicaid requirements.
- Administrative costs would be excluded from being included in quality improvement activities in both the MA and Part D MLR numerator.
- The rule would adopt additional requirements for the allocation of expenses in the MLR.
- New audit and appeals processes are introduced.
The big controversial proposals, however, are the following:
- The rule would require that provider incentive and bonus arrangements are tied to clinical or quality improvement standards in order to be included in the minimum MLR numerator calculation.
- The rule would also require plans to provide detailed information regarding provider payment arrangements.
- CMS is also seeking information on potential policies that CMS could adopt regarding how the MA and Part D MLRs are calculated in order to enable policymakers to address concerns surrounding vertical integration in MA and Part D.
What is the current concern?
There is growing concern that health plans essentially are getting around the minimum MLR by downstreaming revenue to providers and subcontracted vendors and essentially booking revenue as medical expense when it may not be. The concern can be divided into two areas – one far more important than the other.
First, when plans contract with providers or other subcontracted entities that are not owned by the plan, there is some concern that overly generous arrangements that downstream revenue to entities that take on risk may mean dollars going to profit rather than true medical expense. These arrangements can be divided into two categories with additional subcategories. They can include providers taking on full or partial risk on the up and/or downside. By their nature, then, it would seem clear that not all the revenue downstreamed is truly going to medical expense. Providers have to be incentivized to save money. Oftentimes, but not always, quality outcomes are part of the arrangement too. Why would a plan offer an overly generous deal to an independent physician? Because the doc group in turn could funnel all its members to the plan, which drives incremental margin for the plan.
Second, more worrisome for many are the intercompany deals between health plans and sister entities within a larger global healthcare entity. As examples, think here UnitedHealthcare and Optum, Aetna and CVS Caremark, Cigna and Evernorth, and Elevance Health and Carelon. These arrangements can take on many forms.
- Health plans contracting with sister pharmacy benefit managers to administer the drug benefit.
- Health plans contracting with sister retail, mail order, or specialty pharmacies either directly or through the related PBM.
- Health plans contracting with sister medical management or services entities. These could carry out various utilization, care, or quality management functions.
- Health plans contracting with sister wholly owned or partially owned provider groups. These contracts would be along the lines of the global and partial risk agreements noted above.
Now, not every service between a plan and a sister company qualifies within the MLR calculations, but what worries regulators and lawmakers is that many speculate – and there is some evidence of such already out there – these intercompany contracts exceed market rates and are still booked as medical expense. A few examples:
- Health plans give their sister PBMs overly generous reimbursement for drugs and other services.
- Health plans give their various sister pharmacies excessive reimbursement for drugs.
- Health plans give their sister medical management or services entities excess reimbursement via risk arrangements. Pure administrative costs would not be within the MLR.
- Health plans give sister provider groups global and partial gap deals that are excessive.
The MLR rule changes further explained
With regard to the proposed, CMS believes a good test for whether provider downstream revenue should be calculated in MLRs is if the provider incentive and bonus arrangements are tied to clinical or quality improvement standards. Specifically, CMS says only those provider incentives and bonuses made, or expected to be made, that are tied to clearly defined, objectively measurable, and well documented clinical or quality improvement standards that apply to providers may be included in incurred claims in the numerator for the MLR. CMS says this would align such bonus payments with care outcomes and avoid excess premium transfer to providers. In addition, CMS would ensure plans supply detailed information related to the provider payment arrangements. Today these arrangements are confidential between the plans and providers. With the information, CMS would be able to assess the contracts.
In asking for information regarding concerns surrounding vertical integration in MA and Part D, CMS is really attempting to go even deeper to address the intercompany deals that the highly vertically integrated healthcare companies have. CMS is concerned that while health plan margins may be about 5% on average, PBM and medical service entities seem to have margins that are double or triple the insurance margins. Is this driven by inappropriate downstreaming of MA revenue?
Could the MLR changes be excessive and hurt the emerging value-based paradigm?
On the whole, I understand what CMS is doing here. I feel that the minimum MLR rule is a good one. It ensures more premium revenue going to medical expense, provides for a disincentive to have excessive prior authorization and claims denial approaches, and helps limit premium hikes. I also feel that the minimum MLR has to have integrity. Using NAIC’s approach is an important first step, but stopping inappropriate shifting of revenue within a large healthcare organization to get around the MLR rule is important.
At the same time, caution is clearly needed. If CMS were to adopt overly stringent definitions related to provider payments or overly restrict intercompany agreements, it could stymie reform and potentially even drive up costs.
In that spirit, I offer a few suggestions to CMS here:
- CMS should ensure that provider agreements include ties to clinical and quality standards. It should, though, resist putting limits or caps on what these doctor groups can earn if they do deliver cost-savings and drive quality. That would impact the emerging value-based care arrangements throughout the nation between plans and providers. Here is a different way of looking at it. A Medicare fee-for-service (FFS) doctor theoretically earns margin within each payment for a service. The problem is the doctor is incentivized in such a system to provide as many services as possible to derive more and more margin. This drives unnecessary utilization and costs. So, there is nothing wrong with a provider reducing trend in MA and increasing quality and profiting from it. In the end, it will slow trends compared with the FFS world.
- Like CMS and Capitol Hill, I, too, am worried about intercompany agreements and whether they are excessive. In the end, inappropriate contracts drive costs to the system and consumers. It also could encourage more and more consolidation, which impacts costs as well. As such, CMS should collect sufficient information on all provider and intercompany deals to ensure that agreements constitute arm’s length transactions and meet market rate conditions. What is an arm’s length transaction? In business, an arm’s length transaction occurs when two parties are independent and unaffiliated. They act in their own self-interest, have roughly equal bargaining power, and access to the same information. By including an arm’s length standard, intercompany agreements would then be as cost-effective and efficient as true arm’s length agreements in the industry.
Administrative costs for quality improvement
I wonder if CMS is being penny wise and pound foolish if it excludes administrative costs from being included in quality improvement activities in both the MA and Part D MLR numerator. By any definition, this is good admin spend. Will it serve as a disincentive for plans to hire qualified clinicians and invest in administratively heavy initiatives?
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— Marc S. Ryan
