Millions of American seniors have worked
hard their entire lives in the belief that they would receive
health insurance benefits, including coverage for prescription
drugs, from their employer after retirement. But if Congress does
create a universal Medicare drug entitlement based on bills now
before a House-Senate conference, the retiree drug coverage many
seniors were promised by their employers will be in peril.
- Millions of
seniors will lose their existing employer-provided drug
coverage. If the House and Senate agree to create a
universal Medicare drug entitlement, the Congressional Budget
Office (CBO) estimates that roughly one out of three seniors with
employer-based coverage would lose it. The CBO has estimated that
under the Senate bill, at least 37 percent of seniors with existing
drug coverage would lose it, while 32 percent of seniors with
existing drug coverage would be dropped from their current drug
coverage under the House-passed legislation. This means that between 3.8
million and 4.4 million seniors could be dropped from their
existing private coverage if Congress passes the pending Medicare
drug benefit legislation.2
- Millions of
seniors who do not lose their existing drug coverage will find it
significantly scaled back. According to a recent
Heritage Foundation analysis of the incentives found in the House
and Senate bills, employers are likely to respond by scaling back
or drastically reducing the drug benefit that they currently offer
their retirees and provide some form of coverage to supplement the
entitlement. However, many seniors could
lose their existing coverage altogether because, according to a
recent CBO report on the pending legislation, "some employers
likely would see enactment of a Medicare drug benefit as an
opportunity to reduce the costs and risks of providing drug
coverage and would choose not to supplement [the Medicare drug]
benefit."
- Millions of
seniors have foregone thousands of dollars in compensation for
employer-provided drug coverage that may never
materialize. Many seniors are wondering how they can lose
benefits that supposedly were promised to them when they began
working for their employers two or three decades ago. This is
especially true given that employers have often pointed to retiree
health benefits as a reason for not increasing cash compensation
during contract negotiations. They reasoned that any increases in
wages would lead to cutbacks in current and future health benefits.
But in off-loading the cost of these benefits onto taxpayers,
employers would also effectively be cutting the prescription drug
benefits for which retirees passed up thousands of dollars in
compensation during their working lives.
- Millions of
seniors will lose tens of thousands of dollars worth of superior
private drug coverage in the future. Not only would the
average retiree who is dumped into a Medicare drug benefit lose the
value of his or her current private drug coverage, but that retiree
would also miss out on as much as $110,000 in future prescription
drug benefits over the course of his or her retirement.
According to recent analyses of drug
coverage among seniors by the CBO, the Centers for Medicare and
Medicaid Services (CMS), and the Joint Economic
Committee (JEC) of the U.S. Congress, three-quarters or more of
Medicare beneficiaries already have prescription drug coverage.
According to the JEC, 34 percent of seniors on Medicare with
prescription drug benefits receive that coverage through former
employers.
The
hard truth is that in the vast majority of cases, employers have
the right to alter, cut, or even eliminate health benefits
previously promised to their employees. Given the huge, largely
unfunded liabilities that these benefits often represent, as well
as continuing increases in health care costs, many corporations
have already begun to scale back the health benefits that they
provide to their retirees. Passage of the pending
Medicare drug entitlement would exacerbate this unfavorable
trend.
What Current Law Says about Retiree Health
Benefits
While many American employers provide
health benefits to their employees and retirees, they are not
required by law to do so. Where employers do provide these
benefits, they must abide by certain fiduciary and administrative
standards codified in the Employee Retirement Income Security Act
of 1974 (ERISA). Employers are required, for example, to provide
plan participants and beneficiaries with a summary plan description
(SPD) that is "written in a manner intended to be understood by the
average plan participant" and describes both the rights of the
health plan participant and the "circumstances under which the
health plan can be modified or terminated."
Many
employers specifically reserve their right to alter or terminate
retiree health benefits in official plan documents or collective
bargaining agreements. Thus, federal courts generally have sided
with employers attempting to cut back, modify, or terminate the
health benefits they provide to their retirees. The courts have
also ruled that retirees "cannot rely on oral communications or
representations that benefits would be maintained for life or
without reduction." In other words, the terms
of the written plan documents take precedence over any verbal
promises that may have been made by employers to retirees with
respect to their health benefits.
Retirees from unionized employment who
receive health benefits under collective bargaining agreements may
also have little recourse against former employers that cut back or
terminate their benefits. According to a 2001 General Accounting
Office (GAO) report, "[a]bsent a finding that the parties intended
that the health benefits were to be maintained for the retiree's
life or some period beyond the expiration of the agreements, courts
generally view [retiree health] benefits as ending at the
expiration of the agreements." The expiration of a past
collective bargaining agreement might result in the revocation of
previously promised retiree health benefits. Thus, it would be
inaccurate to assume that unionized retirees from private-sector
employment are not at risk of losing their retiree health benefits
simply because they worked under collective bargaining
agreements.
Current law and tax policy tie health
benefits to one's place of work. Although health policy analysts at
The Heritage Foundation and other policy research institutions have
long argued for a change in existing tax and regulatory policy in
favor of creating a consumer-based market in which individuals
would own and control their own health insurance policies, Congress
has yet to act. Given that retiree health
benefits represent a significant financial burden to employers
across America, they have a tremendous incentive to curtail or even
eliminate these benefits.
Junking Retiree Health Benefits
Escalating health care costs and the
impending retirement of the baby-boom generation have led many
American employers to look for a way out of providing health
benefits to their retirees. Retiree health benefits are something
of a "double whammy" for employers' bottom lines and thus are
especially problematic from a financial perspective. First,
employers are required to account for current spending on retiree
health benefits, which affects their financial statements.
But
it does not stop there: A rule adopted in 1993 by the Financial
Accounting Standards Board (FASB) requires employers to "report
annually on the liability represented by the promise to provide
retiree health benefits to current and future retirees." These
future--in most cases unfunded--liabilities have the potential to
affect public impressions of the profitability and overall
financial health of a corporation, and therefore its value to
investors.
As a
result of the financial burden represented by retiree health
benefits, more and more employers over the past several years have
taken steps to limit both the current and future liabilities
created by these benefits. For example, many employers have
increased the financial burden that retirees themselves must
shoulder for their health benefits by increasing beneficiary
co-payments, deductibles, and premiums. A 2002 survey conducted by
the Kaiser Family Foundation in conjunction with the Health
Research and Educational Trust (HRET) found that 37 percent of
large firms (200 or more workers) and 60 percent of jumbo firms
(5,000 or more employees) sampled have increased the share of
health insurance premiums paid by retirees.
Other employers have terminated retiree
health benefits entirely. The Kaiser/HRET survey notes that the
percentage of all large firms (200 or more workers) offering
retiree health benefits has declined from 66 percent in 1988 to 34
percent in 2002. a 2002 survey conducted by
Mercer Human Resource Consulting contained similar findings.
According to Mercer's 2002 National Survey of Employer-Sponsored
Health Plans, the percentage of employers in their sample offering
health benefits to Medicare-eligible retirees declined from 40
percent in 1993 to 27 percent in 2002.
Government
Control. This contraction of private coverage has broader
implications for health policy. Many Members of Congress,
particularly those who favor some form of national health insurance
managed by the federal government, generally favor the progressive
substitution of public coverage for private coverage through
expansion of programs such as Medicare and Medicaid. It is no
surprise, therefore, that the passage of a Medicare prescription
drug entitlement would conveniently coincide with their long-term
objectives by spurring employers to drop or significantly scale
back the retiree health benefits they currently provide. Moving
millions of retirees from private coverage into a Medicare drug
benefit program would also allow the government to exercise
unprecedented control over a large portion of the prescription drug
market.
New Taxpayer
Burdens
Many employers, especially those with the greatest retiree
health benefit liabilities, stand to gain from the enactment of a
universal Medicare drug entitlement. For example, Goldman Sachs
analyst Gary Lapidus recently estimated that passage of the drug
entitlement bill would reduce General Motors' annual drug spending
by $150 million and overall unfunded health care liabilities by
$2.3 billion. Ford Motor Company would
also benefit significantly: Passage of the pending Medicare drug
legislation would save Ford $55 million per year in drug costs and
reduce its overall unfunded health care liabilities by $1.2
billion.
Thus, the enactment of a Medicare drug
entitlement would shift the costs and liabilities of retiree drug
coverage from corporations to taxpayers. As one analyst writes,
"While your congressman will tout his support for Grandma with the
proposed prescription drug entitlement, third-party payers, like
the automakers, are eligible and will be big beneficiaries as
well."
Other corporations also stand to gain from
passage of a Medicare drug entitlement. An April 2002 GAO study
attempted to identify the "other postemployment benefit
obligations" (OPEB) of major corporations in the airline,
automobile, and steel/metal industries as of December 31, 2002. It is
important to note that these OPEB figures include not just
liabilities from retiree health benefits, but also liabilities from
any other post-employment benefits, including life, dental, and
other fringe retiree benefits. They do not, however,
include any pension obligations that corporations might have.
Pension liabilities are reported separately.
The
OPEB liabilities of major corporations in the airline and
steel/metal industries, for example, are staggering. The GAO found
that American Airlines, Inc., reported OPEB obligations
of $2.8 billion as of December 31, 2001, while Alcoa, Inc., had OPEB
obligations exceeding $3.2 billion.
Thus, congressional enactment of a massive
drug entitlement would give many employers extra incentive either
to scale back prescription drug coverage to current and future
retirees significantly or to eliminate coverage entirely. It would
allow employers to eliminate, in one fell swoop, some (or even all)
of their unfunded health benefit liabilities. As always, the
American taxpayer would be left to foot the bill for these
liabilities.
What Seniors Would Lose
Although many employers stand to
strengthen their financial position with enactment of the pending
Medicare drug entitlement, seniors with existing private drug
coverage have much to lose. Many current retirees with private drug
coverage have foregone wage increases or other forms of
compensation in return for the promise of employer-provided retiree
health benefits. With the pending enactment of a Medicare drug
entitlement threatening to force millions of seniors out of their
existing private drug coverage, many retirees are rightly concerned
over just how much they have sacrificed for retiree health benefits
that may never materialize.
Retirees with existing private drug
coverage face a "double whammy" of their own. Not only do they face
the prospect of losing a benefit for which they gave up additional
compensation, but they also risk losing the entire future value of
their employer-provided prescription drug benefit. Because
employer-provided retiree health benefits are often very generous
and provide significant, if not full, coverage for prescription
drugs, seniors stand to lose tens of thousands of dollars in future
employer-provided benefits if a Medicare drug entitlement becomes
law.
Foregone
Compensation
A preliminary analysis of the available data can provide
an estimate of the amount of compensation retirees have foregone
over their working lifetimes for the promise of a retiree
prescription drug benefit. Because most employers do
not fund health benefits for their retirees on an ongoing basis,
employees are often asked to forego wage increases for the promise
of future retiree health benefits. Thus, calculations of foregone
compensation assume that, without these promised future benefits,
the employee would earn a higher wage or would be compensated in
some other way.
Based on an analysis of the data, a person
who retired in 2002 and worked 30 years with the same employer to
secure retiree health coverage has foregone a total of
approximately $16,183 in wages for the promise of that coverage.
Similarly, a person who retired in 2002 after 20 years with the
same employer has foregone approximately $14,816 in promised
benefits.
According to the GAO, from 40 percent to
60 percent of employer spending on retiree health benefits goes
toward prescription drugs. On that basis, the average
retiree who retired in 2002 after working 30 years has foregone
approximately $6,473 to $9,710 in wages for a retiree prescription
drug benefit. The average retiree who retired in 2002 after 20
years has foregone $5,926 to $8,890 in wages for a retiree
prescription drug benefit.
Lost Benefit
Value
In addition to foregone compensation lost, retirees stand
to lose the value of future prescription drug benefits from their
employer if the pending Medicare drug entitlement is passed into
law. The prescription drug benefits provided by employers are quite
generous, resulting in minimal out-of-pocket costs for retirees.
Thus, the value of the future drug benefit that retirees stand to
lose with the enactment of a Medicare drug entitlement is
significant.
Utilizing retiree health benefit cost data
provided by Mercer and a CBO baseline projection of the rate of
growth in per capita prescription drug spending by Medicare
beneficiaries, one can calculate the value of future retiree health
benefits that would be lost by the average retiree who retired in
2002 at the age of 65 if the pending Medicare drug entitlement is
signed into law. Assuming that the retiree
has a life expectancy of 85, and using the GAO's calculation that
anywhere from 40 percent to 60 percent of employer spending on
retiree health benefits is on prescription drugs, the average
retiree would lose $73,599 to $110,398 in future drug benefit value
if his or her employer dropped the private drug coverage that the
employer currently provides.
The
news is even worse for future retirees. Several factors are likely
to drive the estimated lost benefit values even higher in the years
to come. For example, increasing use of pharmaceuticals in lieu of
inpatient hospitalization will increase total spending on
prescription drugs. Furthermore, the newer and more effective
pharmaceuticals available to the retiring baby boomers are likely
to be increasingly expensive, raising the cost of drug coverage for
these future retirees. Thus, not only would future retirees lose
the benefits of superior private coverage, but they may also face a
tightening of the availability of new medicines in a Medicare
entitlement burdened with rapidly rising costs.
Under these circumstances, current and
future retirees have good reason to be concerned about the impact
of the pending Medicare drug entitlement on their future private
prescription drug benefits and the foregone compensation that
helped to finance those benefits. After all, millions of seniors
have already individually foregone thousands of dollars over their
working careers for the promise of a retiree drug benefit and may
have to sacrifice tens of thousands of dollars more in future
benefits if the Medicare drug entitlement is signed into law.
Many Seniors Will Lose Private Drug
Coverage
There is a debate among health policy
analysts over whether and how many seniors would lose their
existing private coverage under pending Medicare drug benefit
legislation. Some analysts predict a relatively modest impact on
seniors.
While it is very difficult to predict employer behavior, and
therefore the exact number of Medicare beneficiaries that would be
dropped from their existing private coverage, the analyses reported
by the CBO and The Heritage Foundation point toward a significant
number of retirees at risk.
As
noted earlier, the CBO has estimated that 3.8 million to 4.4
million seniors would lose their existing private drug coverage if
the pending Medicare drug entitlement proposals become law. A
recent CBO cost estimate of both the House and Senate legislation
concluded that either bill "would provide a clear financial
disincentive for employers to supplement the [Medicare drug]
benefit."
Conclusion
The
vast majority of seniors already have prescription drug coverage
from a variety of sources: former employers, private Medigap plans,
Medicaid coverage, and other supplemental health insurance.
Policymakers should focus on providing prescription drug coverage
to the minority of Medicare beneficiaries who really need it rather
than on creating perverse incentives for employers to drop the
health benefits promised to current and future retirees.
Current law makes it quite easy to change
existing retiree health benefit policies, and this places millions
of seniors and their beneficiaries at risk of losing their current
private coverage. Passage of a universal Medicare drug entitlement
would only hasten and accelerate the decline in employer-sponsored
retiree health benefits--quality health benefits on which many
retirees depend.
--Lanhee J. Chen is Visiting Fellow in
Health Policy Studies at The Heritage Foundation. The author wishes
to thank Joseph Antos, Resident Scholar at the American Enterprise
Institute, and William W. Beach, Director of the Center for Data
Analysis at The Heritage Foundation, for their advice and
assistance in the development of this paper.
Appendix
Methodology for Calculating Foregone
Compensation
Millions of working Americans have
voluntarily given up or "foregone" a certain amount of compensation
(in the form of wages or salaries) in return for the promise of
future retiree health benefits. The author's goal in this paper was
to estimate the average amount of compensation (in 2002 dollars)
that an employee retiring in 2002 has foregone over a 20-year or
30-year working career in return for the promise of future
retirement health benefits.
Although neither workers nor their
employers are actually paying for retiree health benefits over the
course of their working lifetimes, the calculation of foregone
compensation assumes that they are foregoing or sacrificing a
certain amount of wage in return for the promise of future
benefits. The goal is to determine the value of these foregone
wages over the entire course of an employee's time in the
workforce.
It
is important to note that these foregone wages are not held in some
sort of account until the employee retires. Rather, the wages that
an employee foregoes are effectively used to subsidize the benefits
of those currently in retirement, who are already drawing on those
benefits. Thus, the goal of a calculation of foregone compensation
is to determine the average amount of money that an active employee
would forego while in the workforce for the promise of future
benefits.
To
accomplish this goal, it is necessary to determine the average cost
of retiree health and prescription drug benefits per active
employee at private-sector firms offering these benefits over the
20-year period from 1982-2002 and the 30-year period from
1972-2002. All estimates of foregone compensation are calculated in
2002 dollars and assume that employer savings from lower benefit
costs in a competitive labor market are returned to the employee in
the form of higher wages or compensation.
The
cost of employer-provided health benefits for Medicare-eligible
retirees ($3,180 per year per retiree) is based on the 2002 Mercer
Human Resource Consulting National Survey of Employer-Sponsored
Health Plans. This amount was trended back to 1972 using two
sources.
First, for the period from 1987-2002,
health premium increase data were found in or interpolated from the
2002 Kaiser Family Foundation/Health Research and Education Trust
(HRET) Employer Health Benefits annual survey.
Second, because the Kaiser/HRET trend data
stop at 1987, the period between 1972 and 1987 is trended using
average annual increases in personal health care costs paid by
private insurance found in National Health Expenditure data from
the Center for Medicare and Medicaid Services.
While a continuous time series of data
reflecting average annual premium or private health expenditure
increases from 1972 through 2002 would have been preferable, the
method used reflects the best available data at the time this paper
was prepared.
The
trended yearly employer-provided health benefit costs were averaged
for two periods: 1972-2002 (30 years) and 1982-2002 (20 years). The
resulting averages ($1,205 per year per retiree for the 30-year
period and $1,655 per year per retiree for the 20-year period) were
used as the baselines for calculations of foregone
compensation.
The
slightly higher average for the 20-year period reflects higher
yearly health benefit costs during that period. The estimation of
foregone compensation per retiree per year was limited by the
unavailability of time series data on both the number of
private-sector retirees with health benefits and the number of
private-sector employees of firms offering retiree health benefits.
Thus, the author utilized the most recent available data on the
size of these populations in his calculations.
The
average cost of prescription drug benefits per retiree per year was
calculated as follows:
First, the average benefit costs
determined above were multiplied by the number of retirees with
private-sector employer-sponsored insurance in 2000. The number of
Medicare beneficiaries with employer-sponsored insurance (12.6
million) was obtained from the 2000 Medicare Current Beneficiary
Survey and includes non-institutionalized beneficiaries that have
only employer-sponsored private insurance or employer-provided
sponsored private insurance and individually purchased private
insurance (Medigap plans). This number was then adjusted for the
number of Medicare beneficiaries that receive retiree health
benefits from public-sector employers (at the federal, state, and
municipal levels). This adjustment is based on an Employee Benefit
Research Institute estimate that 39 percent of persons over 65 with
coverage in their own name through a former employer retired from
the public sector. Thus, approximately 7.7 million Medicare
beneficiaries are currently covered by private-sector retiree
health benefits.
Second, based on the average benefit cost
calculated above, private-sector employers are calculated to have
spent an average of $9.3 billion in retiree health benefits per
year over the 30-year span (1972-2002) and $12.8 billion each year
over the 20-year span (1982-2002). To determine the average cost
per active worker per year, this number is then divided by the
total number of active employees working for private-sector firms
that offer retiree health benefits, which is based on the most
recently available data from the Bureau of Labor Statistics
(BLS). Although the
BLS has published data on employee benefits in the private sector
that are more recent than the previously mentioned reports, the
1997 data for medium and large firms and 1996 data for small firms
are the most recent data to detail the percentage of employees that
worked for firms offering retiree health benefits. Given recent
cutbacks in employer-sponsored retiree health benefits, the number
of active employees that qualify for these benefits is likely lower
today than it was when the BLS data were published. However, given
the available data, the most accurate estimate of the number of
active employees that qualify for private-sector retiree health
benefits is 17.2 million. Thus, the average benefit cost per active
employee per year for private-sector employer-sponsored retiree
health benefits is $539.45 over the 30-year period and $740.80 over
the 20-year period.
Finally, the average prescription drug
benefit cost per active employee per year is calculated using the
GAO estimate that 40 percent to 60 percent of employer spending on
retiree health benefits is attributable to prescription drugs.
Thus, each retiree that has worked for 30 years has foregone an
average of $215.78 to $323.67 per year in compensation for the
promise of a retiree prescription drug benefit. Similarly, each
retiree that has worked for 20 years has foregone an average of
$296.32 to $444.48 per year in compensation. These figures are then
multiplied by 30 years and 20 years, respectively, to arrive at the
estimates used in the paper.
Methodology for Calculating Lost Future
Benefit Value
Lost
future benefit value was calculated using the 2002 Mercer per
capita estimate of employer retiree health benefit cost ($3,180).
To isolate the value of the employer-sponsored retiree prescription
drug benefit, this amount was adjusted based on the GAO's estimate
that 40 percent to 60 percent of employer spending on retiree
health benefits is attributable to prescription drugs. Thus, the
estimated baseline per capita value of prescription drug benefits
per retiree in 2002 ranged from $1,272 to $1,908.
These amounts were then trended forward
using an estimated rate of growth in average per capita
prescription drug spending for Medicare beneficiaries in a March
2003 CBO baseline projection. The CBO projections cover growth
rates between 2004 and 2014. The author assumes a conservative per
capita annual growth rate in prescription drug spending of 8.4
percent (the estimated rate for 2014) where data are not available
and beyond the CBO baseline period. This rate of growth is
reasonable given the decline in the growth of per capita
prescription drug spending of Medicare beneficiaries due to the
retirement of the baby boomers over the 20-year period beginning in
2004.
The
resulting forecasted yearly amounts were then summed to determine
the total value of lost prescription drug benefits over the period
between 2002 and 2022.