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Examining Substitution: State Strategies to Limit "Crowd Out" in the Era of Children's Health Insurance Expansions

Publication Date



In recent years, state initiatives to provide health insurance for low-income children have raised a new set of concerns regarding the actual and potential impact of employer- and individual-based substitution. As a number of states elected to expand Medicaid in the late 1980s, researchers began to explore the possibility that Medicaid was substituting for private coverage. By 1992, substitution became a more salient concern as states expanded coverage to all pregnant women and children up to age 6 with incomes up to 133% of the federal poverty level (FPL), and more than half of the states elected to receive federal matching funds to cover all pregnant women and infants up to 185% FPL. As Federal and state governments seek to increase the proportion of people with health coverage, it is critical to understand the nature and extent of substitution. Concerns focus on the potential that if Medicaid and other public expansions are responsible for shifting individuals from employer-sponsored insurance to public programs, the effectiveness of public funds to expand insurance coverage might be limited. As programs minimize the effects of substitution, states will then have the ability to target funding specifically for insuring children who do not have access to affordable health coverage.

Enabled under Title XXI of the Social Security Act, the State Children’s Health Insurance Program (CHIP) is providing $24 billion in funding to states over a five-year period to provide health insurance to uninsured children. The purpose of the law is to assist states in initiating and expanding children’s health assistance programs to uninsured, low-income children. This assistance can be provided through one of three methods: (a) a program to initiate and expand the provision of health care assistance via a separate State Insurance Program; (b) a Medicaid expansion; or (c) a combination of these methods. Eligibles include children under age 19 not eligible for Medicaid with family incomes below 200% of the federal poverty level or 50% above the current state Medicaid limit. State expansions could begin as early as October 1, 1997.

The primary objective of Title XXI, to insure uninsured children, charges states to expand the number of eligible children with health insurance beyond current Medicaid eligibility limits. As research has suggested that substitution is most commonly seen in higher income ranges, substitution of state-funded programs for private insurance coverage has become a substantial concern. Further complicating the issue, families are making difficult decisions which may directly impact individually-based substitution. For example, families may opt to substitute a separate state program for private insurance or for Medicaid. It is important to understand that family decisions are based upon affordability of plans, comparability of the benefit packages, and health status of children. State and national research has not produced conclusive evidence that employers are dropping coverage, yet there is evidence that employer-based coverage is declining. Several states have suggested that the coverage issue, in most cases, is not employers dropping coverage, rather individuals are choosing to opt out of private insurance coverage for state subsidized programs.

Research has attempted to assess the amount of substitution, suggested ways to limit its effects, and weighed the benefits and costs of expanding Medicaid with the potential of crowding out private insurance. Limited data and the complexity of the issue make it difficult to accurately measure the crowd out of public programs for employer-sponsored insurance. Actual substitution is complicated by secular trends including the following: the decline in employer-sponsored insurance; increasing levels of employee premium contributions; the decrease of unionization; and the shift from manufacturing to lower wage service industries. The complexity of measuring substitution and limited state-specific data contributes to conflicting estimates of substitution and makes it challenging for State governments to address substitution in the design and implementation of their children’s health insurance programs. It has also been difficult to apply research focusing on Medicaid expansions to other models of providing low-income children with health coverage. With few estimates indicating the degree of actual substitution and little data on the demographic profile of the "substituters," the discussion on substitution has been primarily based on the perceived effect of crowding out private coverage.

There are two ways that substitution can occur under CHIP. First, there can be substitution of coverage which can occur when families or employers drop existing private coverage to enroll in CHIP. Second, there can be substitution of premiums which can occur when employers reduce their contribution levels of dependent coverage because families are able to obtain subsidies that offset the reduced amount of contributions. To assist states as they address issues related to substitution in their Title XXI plans, this paper focuses primarily on an examination of the experiences of a set of states that have already developed and implemented children’s health insurance programs prior to the creation of Title XXI. Qualitative data, which was collected from state officials through interviews and a round-table discussion, augments previous research by examining states’ perceptions and their actual experiences with substitution.

State Mechanisms To Limit Substitution

State strategies to address substitution include nine mechanisms that either purposefully or inadvertently limit two types of substitution: individual-based and employer-based. Because different dynamics drive employee and employer substitution, states have implemented specific mechanisms to address these two types of substitution. For the most part, state officials agreed that the primary concern is whether, and to what extent, previously insured workers are dropping their employer-sponsored coverage. Substitution of coverage seems to be primarily driven by individual choices rather than employers strategically eliminating coverage. Although states have distinguished between individual- and employer-based substitution and have established mechanisms focused on limiting both types of crowd out, states and researchers also have identified the overlap between the two. Substitution is a result of the dynamic relationship between the types of benefits employers want to provide to employees and the willingness of employees to participate in the programs offered. Both employers, in offering coverage, and employees, in taking up coverage, are forced to make complex decisions which are driven by complicated issues such as secular trends in the economy and family dynamics.

The extent to which states deliberately institute mechanisms limiting substitution varies by program and state. In some cases, substitution appears to be restricted indirectly through mechanisms established in program designs for other purposes. For example, many states require copayments for services rendered which mirror cost-sharing in the private market. Although required copayments are customarily included in program design for financial purposes, when comparable to private market copayments they limit the number of individuals who drop private insurance to enroll in state-subsidized programs.

Mechanisms limiting individual based substitution. State mechanisms to limit individual-based substitution primarily target those dynamics that prompt family decisions to opt out of private coverage such as: the cost comparisons of copayments and premiums; the affordability of private coverage; and the comprehensiveness of benefits. The majority of states’ efforts to curb substitution has focused on the dynamics that drive families to opt out since individual-based substitution is a greater concern than employer-based substitution. The primary mechanisms utilized by states include the following: (1) evaluating affordability of private coverage; (2) requiring periods of uninsurance; (3) providing subsidies; and (4) limiting the scope of benefit packages. These mechanisms are effective ways to curb substitution by making state-sponsored children’s health insurance comparable to employer-sponsored coverage.

Mechanism 1: Identifying the Affordability of Private Coverage: Setting Premiums and Copayments That Do Not Deter Utilization or Enrollment

Several states have identified the affordability of employer-sponsored insurance as an important consideration in the implementation of mechanisms to limit crowd out. Affordability is usually defined as the percentage of family income that is believed families could or are willing to use to purchase health care. In developing strategies, states have considered the tradeoffs between encouraging participation and limiting substitution. Specifically, states have identified the importance of establishing cost sharing (e.g., premiums and copayments) that is low enough to encourage participation, yet high enough to limit substitution.

Setting Premiums. While there are no data that directly link the establishment of premiums as a deterrent to families opting out of employer-based coverage, several states anticipate that this is the case. New York specifically identified that while increases in monthly premiums were not established as a mechanism to discourage substitution, it is anticipated that newly established increases will ultimately result in reducing individual-based crowd out. The state has identified that a $9 to $13 monthly premium per child should discourage families from dropping employer coverage to enroll in the New York Child Health Plus Program. Florida’s Healthy Kids program has set premiums that range from $5-10 per child per month for families below 130% FPL and $13-27 per child per month for families from 131-185% FPL. Families pay 100% of premium above 185% FPL. Florida experimented with raising premiums beyond ten dollars, but found these amounts directly resulted in decreased enrollment. Nevertheless, state program representatives felt that premiums at a lower level (between $5-10) were a viable means of evoking a sense of responsibility in participants by making public insurance comparable to employer-sponsored coverage.

Defining Copayments. Many existing children’s health insurance programs have established copayments for physician visits, prescriptions, and emergency room use as mechanisms to mirror the requirements of private coverage. The initial intent behind establishing copayments varied by program. The primary rationales state officials expressed were to offset costs and to instill a sense of responsibility in participants. Some states believe that price sensitivity was a critical aspect of determining copayments and cost-sharing policies. Florida and Rhode Island program officials identified the importance of establishing copayments that do not deter eligible families from enrolling in state programs and utilizing necessary services, yet do not encourage the inappropriate use of services.

Mechanism 2: Using Periods of Uninsurance, Access to Employer-Sponsored Insurance, and Employer Contributions

Several states have established requirements based on access to employer-sponsored insurance, employer contributions, and/or specific periods of uninsurance as a means to limit substitution. MinnesotaCare has instituted relatively stringent time and cost requirements, described by some as "firewalls" in order to prevent the crowd out of employer-sponsored insurance. For example, MinnesotaCare requires that prior to enrollment in the program, families may not have access to employer-sponsored coverage in which an employer subsidizes 50% or more of the cost of the policy for at least eighteen months preceding application to the program. Exemptions to this include children under 150% FPL and situations where a parent in a family over 150% FPL becomes unemployed, does not qualify for workers compensation, and is unable to pay for COBRA.

The process of verification of access to employer-sponsored insurance, employer contributions, and periods of uninsurance has been challenging for states. Most states verify eligibility based on self disclosure or the "honor system," as other means of verification are costly and increase the complexity of enrollment processes. Some states have chosen to piggy back on other existing state programs in order to efficiently evaluate eligibility status. The most commonly cited example has been the process used by the Florida Healthy Kids Corporation in which eligible children are required to qualify for the National School Lunch Program. Other states have chosen to utilize existing verification structures of state Medicaid programs to assist in the determination of eligible enrollees.

Mechanism 3: Use of Subsidies

Some states are designing their programs to work in tandem with employer-sponsored coverage as a means of limiting substitution. Assisting families to purchase private coverage with public funds may deter families from dropping, or not pursuing employer-sponsored insurance beyond their economic reach. While subsidies support families in purchasing insurance in the private market, they may also contribute to substitution. Oregon's 1997-1999 budget proposed the creation of the Family Health Insurance Assistance Program (FHIAP), an insurance subsidy program for families with incomes between 100% and 185% of poverty. Essentially, FHIAP will establish a voucher system for families with access to employer-sponsored insurance, assisting eligible families in buying into employer-sponsored programs. Colorado has also considered subsidizing families’ insurance as a viable means of limiting substitution and is considering the implementation of a voucher program. Colorado has identified this strategy as an approach that will prompt the public and private sector to cooperate in the process to insure children. Florida is also considering a type of voucher mechanism that will assist families in purchasing coverage as a supplement to Healthy Kids and other efforts.

Mechanism 4:Limiting the Scope of the Benefit Package

Limiting the scope or comprehensiveness of the benefit package is another mechanism that seems to deter families from opting out of employer coverage. The CaliforniaKids program, the Massachusetts Children’s Medical Security Plan, and until recently, New York’s Child Health Plus program, declined to offer inpatient care with the rationale that it was better to provide a more modest benefit package to greater numbers of children. Although CaliforniaKids and Child Health Plus were primarily concerned with stretching their funding to meet the basic health care needs of as many children as possible, representatives from both programs believed that excluding inpatient care deterred substitution. These programs were comfortable with offering a limited benefit package, knowing that Medicaid would serve as a safety net for children requiring inpatient care or extended benefits.

Three types of mechanisms are being used by states to enhance the affordability of employer-sponsored insurance: While there is no evidence to suggest that employers are strategically eliminating health coverage so that their workers may receive public insurance, several states have been proactive in designing mechanisms to encourage the availability of affordable employer-sponsored insurance.

Mechanism 5: Purchasing Cooperatives

Health insurance purchasing cooperatives, which assist employers in purchasing insurance at more affordable rates, are enabling small employers to offer benefits in Oregon and Rhode Island. The State supported Associated Oregon Industries’ (AOI) efforts to develop a privately sponsored Health Insurance Purchasing Cooperative (HIPC) targeted at small group employers. AOI, Oregon’s largest business organization, shows promise for assisting small employers in maintaining existing or establishing new insurance programs to employees. Rhode Island has four small business purchasing cooperatives that may be deterring crowd out by making the provision of insurance by small businesses affordable.

Mechanism 6: Employer Buy-Ins

Allowing employers to directly buy into state programs at reasonable costs is another means of encouraging employers to take responsibility for sponsoring workers' insurance. The Washington Basic Health Plan (BHP) established provisions in which employers can buy into the program. As BHP is generally less expensive than private insurance for most employers due to subsidized premiums for low-income workers, there is a positive incentive for employers to participate. The employer buy-in also provides employers the benefit of the larger purchasing power and risk pool of the state.

Mechanism 7: Reimbursements To Small Businesses

Assisting employers through reimbursement plans is another strategy geared toward helping small employers purchase health coverage. Massachusetts has planned the implementation of an experimental program in the year 1999, entitled the "Insurance Reimbursement Plan" to be administered through the Medical Assistance program. The Plan will be structured to reimburse small businesses (i.e., employers with less than 50 workers) that cover in excess of 50% of the cost of insurance for their employees. Eligible employers will be annually reimbursed $1000 for family coverage, $800 for couples coverage, and $500 for individual coverage. This option, not yet implemented, has been considered quite controversial as it would be paying employers to provide insurance, which in some cases, they may already offer.

Disconnect Between State Experiences and Research

While research has yielded varying estimates of crowding out private coverage, ranging from 0-50%, states providing coverage for low-income children indicate they have seen little evidence of these levels of substitution. Although the majority of these states have not collected sufficient data to determine an accurate estimate of crowd-out, states’ anecdotal evidence pointed to minimal numbers of enrollees with access to affordable private coverage and did not seem to warrant further investigations. States queried about their experience with substitution noted that despite some researchers’ predictions about employers strategically eliminating or reducing their contribution to employee health benefits, real or potential crowd out is primarily the result of families opting to discontinue private insurance for financial reasons.

States that have collected information on the number of program participants with previous insurance, revealed estimates that were lower than estimates derived from nationally-based research.

? Preliminary data from Colorado’s Child Health Plan estimate that 0.007% dropped employer coverage to enroll in the plan. In addition 5% of their enrollees carry other insurance coverage.

? Florida’s Healthy Kids program estimates that 94% of their children had been uninsured for 6-12 months before enrolling in Healthy Kids.

? New York found that more than 50% of all Child Health Plus enrollees had no insurance at all during their lifetimes; approximately one-sixth had Medicaid prior to Child Health Plus; and approximately one-sixth were underinsured or fully insured.

MinnesotaCare, which began as a state sponsored program in 1992 and switched to a Medicaid waiver program expansion in 1995, is one of the few programs that has evaluated their participants' access to private coverage. MinnesotaCare, offering coverage to families with children under 275% of the federal poverty level, noted that approximately 13% of their enrollees technically had access to other health coverage: 7.1% reported giving up private market insurance and 5.7% of the sample reported dropping coverage from another public program to enroll in MinnesotaCare. Of note, the majority of enrollees who had access to private insurance said they could not afford it.

Implications For Future Expansions Under Title XXI of the Social Security Act

Current research coupled with past experiences of states provides some information for states to consider as they plan and implement programs funded by Title XXI. Four major program design issues were identified as important areas in addressing substitution: the overall design of the program; determining whether to use Medicaid expansions or separate state programs; the development of specific provisions related to employer coverage; and the oversight and evaluation of the expanded program.

One of the most difficult issues facing states is how to design a program that neither limits access to new coverage, nor replaces existing insurance coverage. Among the many programmatic areas that need to be addressed are: the determination of an appropriate benefit package; the implementation of suitable cost-sharing measures; the development of an administratively simple, yet stringent enrollment process; the identification of appropriate eligibility criteria that will encourage enrollment, while limiting substitution; and strategies focused on collaboration with the private market.

It is essential for children's health insurance programs to adequately design programs that target children not eligible for Medicaid, affordable employer-sponsored, or other health insurance programs. Implementation of well-defined state programs that conduct outreach to enroll targeted children while controlling for substitution, may be a vehicle through which states can actually increase participation in all forms of available insurance.

As state programs to insure children have evolved, such expansions have raised a new set of concerns about the effectiveness of these state programs in enrolling only their targeted populations. As programs have expanded into higher income ranges, policy makers, program administrators, and researchers have expressed a concern about the potential that these programs have begun to substitute for employer-sponsored insurance. In an era of limited public resources, the erosion of employer-sponsored insurance coverage has taken center stage in the debate over new or expanded state health insurance programs at the federal level and in some states.

States' strategic choices to be evaluated in the light of federal program goals include: (a) reducing the number of uninsured children over time; (b) increasing the participation of children in public programs for which they are eligible; (c) minimizing the potential to cover children who would have otherwise had private insurance coverage; and (d) creating a private/public partnership which increases coverage for children in the private market. Given the goals of the federal program, states need to determine not only how they will develop strategies to limit substitution, but also how they will evaluate the cost of enforcing enrollment barriers of potential eligibles and the overall impact on administrative complexity.

Children's Health Insurance Program (CHIP)