Are Health Insurer Profits Really Only 4% Of Total National Health Costs?

Over the past year, as health care premiums have skyrocketed and more Americans became uninsured, the profits of the health insurance industry have soared. WellPoint — the nation’s largest insurer — “posted an eightfold increase in profit for the fourth quarter,” and UnitedHealth recently reported that it’s first quarter profits increased by 21%. Insurers and their representatives, however, continue to insist that their earnings make up only a tiny fraction of overall health care spending and argue that policy makers should focus their cost containment efforts on other industries.

During Tuesday’s hearing before the Senate Health, Education, Labor, and Pensions Committee (HELP), AHIP President and CEO Karen Ignagni explained that “according to government data — just to level set — we’re 4% of national expenditures. The profits of our industry, according to Fortune Magazine…in 2008 were roughly 2%. In 2009, were about 3.2[%]. That’s where we are relative to other stakeholders in the health care sectors that have 3 and 4 times those levels,” Ignagni said.

But at that same hearing, Michael McRaith, Director of the Illinois Department of Insurance, argued that insurers have a certain level of discretion in how they report their profits and could manipulate the books to show lower figures:

McRAITH: We regulate insurance companies at the low-end of their capitol levels. We do not regulate what is too much capital or surplus. A company can decide that surplus is not profit. So when a company tells you it’s making 2.2% profit, what it’s telling you is that the discretionary decision that’s been made about how to report that number — it is not a reflection of capitol received or the financial strength of that individual company, necessarily.

Watch a compilation from Tuesday’s hearing:

As one former CFO of a major insurer explained to me, all insurers are required to maintain “incurred but not reported” reserves (IBNR) and they use actuarial statistics to “guestimate” how much of that premium is “reserved” for future claims that have not yet occurred and/or not yet reported over the expected term of the policy, and how much of the remaining premium portion is designated to the margin “from which expenses are deducted.”

“Insurers report their reserves to State Insurance commissioners annually who review them to gauge the financial soundness of each insurer. While actuaries have well defined methods for computing these reserves, there is always a bit of wiggle room. And I suspect that ‘wiggle’ is what McRaith is talking about. And the risk here is where insurance commissioners can lean towards consumers or towards insurers when assessing the adequacy and accuracy of reserves. Overstating reserves understates earnings and vice-versa,” the CFO said.

In other words, insurers are only as rich as their comparison. As Sen. Jack Reed (D-RI) explained during the hearing, “profit [earnings as a percent of revenue] is one measure, but return on equity is another measure. You can compare them not only to device makers, and other parts, but if you compare them to the manufacturing sector, insurance is doing pretty good I think. So it’s all the point at which you’re comparing.”