Employers providing health care benefits to their employees can choose one of two options: a fully insured health plan or a self-funded health plan. Although there are many similarities between the two, there are striking differences as well—And each approach has its pros and cons.

A fully-insured group health plan is one in which the employer purchases the benefits from an insurance company. In exchange for the premium it receives, the insurance company assumes the financial risk and responsibility of paying for covered services. Conversely, a self-insured (also referred to as “self-funded”) plan is one in which an employer, not an insurance company, funds the plan’s health benefits. Generally, federal law governs both fully-insured and self-insured plans; however, self-insured plans are not subject to state insurance regulation.

Understanding self-funded health insurance

In the realm of health insurance, self-funded plans have emerged as a popular option for employers seeking more flexibility and control over their healthcare benefits. Understanding self-funded health insurance is crucial for both employers and employees alike, as it offers a unique approach to managing healthcare costs and coverage. In this section, we’ll delve into the fundamentals of self-funded health insurance, exploring how it works, its advantages and disadvantages, and key considerations for businesses considering this option.

How does a self-funded health insurance plan work?

Most employers hire a health benefits consultant or third-party administrator to help the employer in the design of benefits that meet employee health coverage needs within the company’s budget. Typically, the consultant helps the employer to establish a plan document outlining the covered expenses, exclusions, who is eligible to participate in the plan, how provider networks integrate into the benefits, and other important terms.

Instead of paying premiums to traditional health insurance companies, the employer pays claims for services covered by the self-funded plan using the company’s own funds, along with enrollee contributions. Often, the health benefits consultant or TPA helps the employer determine how much money should be set aside to fund the health and whether the business should fully or partially fund the plan. Typically, a self-insured employer will set up a special trust fund to earmark money (corporate and employee contributions) to pay incurred claims.

TPAs help employers determine the level of stop-loss insurance coverage they need to cover extremely large claims based on their risk tolerance and, if available, claim history. This coverage reimburses or even pre-funds the employer when claims exceed pre-determined individual or group-level thresholds. Specific coverage insures individual claims, while aggregate coverage insures group claims.

Usually, the employer hires a TPA to administer benefits, maintain plan eligibility and membership records, and perform other administrative tasks for the self-funded plan.

Rules and requirements of a self-funded health plan

Self-insured group health plans are governed by applicable federal laws. These laws include the Employee Retirement Income Security Act (ERISA), Health Insurance Portability and Accountability Act (HIPAA), Consolidated Omnibus Budget Reconciliation Act (COBRA), the Americans with Disabilities Act (ADA), the Age Discrimination in Employment Act, the Civil Rights Act, and various budget reconciliation acts such as Tax Equity and Fiscal Responsibility Act (TEFRA), Deficit Reduction Act (DEFRA), and Economic Recovery Tax Act (ERTA).

Advantages of self-funded health plans

Self-funding a health plan incorporates several potential advantages for employers, including the following:

• There is more flexibility in customizing the self-funded plan to the employer’s goals and the employee population.
• The employer retains funds when health claims are lower than expected.
• Self-funding a health plan is often less costly because:
  • There are no profit or risk margins to pay to an insurer.
  • There are no state-levied premium taxes.
• The employer maintains control over the health plan reserves, enabling maximization of interest income – income that would be otherwise generated by an insurance carrier through the investment of premium dollars.
• The employer is not subject to conflicting state health insurance regulations/benefit mandates, as self-insured health plans are regulated under federal law (ERISA).

Disadvantages of self-funded health plans

Self-funding a health plan also carries some disadvantages, including the following:

• Current year expenses will be unpredictable.
• The employer may be exposed to financial risk of high losses due to extraordinary claims if reinsurance or stop-loss insurance is inadequate.
• The employer is exposed to risk of regulatory penalties for potential errors caused by a lack of understanding of the regulatory requirements.
• The employer is exposed to a risk of potential lawsuits caused by plan participants possible misunderstanding of plan benefits and/or procedures or the possible plan procedural error.
• Management time and resources are likely to increase to monitor the self-funded plan’s performance, financially and operationally.

Alternatives to self-funded plans for employers

If you don’t think a self-funded plan for your employees is a good fit for your business, you have other options. Consider the following options.

Fully Insured group health coverage

Many health insurance carriers design health plans for employers of varying sizes and industries. Therefore, you are likely to find a group health plan that meets your employees’ needs and your business’ budget. You have less control over healthcare costs with a fully insured group health plan, but you also have less risk to manage and fewer responsibilities related to the health plan’s performance.

Individual Coverage Health Reimbursement Arrangements (ICHRAs)

With an ICHRA, you determine a set budget to reimburse your employees for health insurance, and workers buy the plan that works best for them. Some employers also reimburse for a portion of medical expenses. Employers “design” their HRA. They can choose to divide by class, or set varied rates by family size and age. Employees submit their eligible expenses to their employer, and the employer reimburses these expenses up to the budgeted allowance. Learn more by reading our article, “ICHRA 101: All About Individual Coverage HRAs.”

Frequently asked questions about self-funded health plans

Are self-funded insurance plans suitable for every employer?

No. Since a self-funded plan sponsoring employer assumes the risk for paying the health care claim costs for employees, the employer must have the financial resources (cash flow) to meet this obligation, which can be unpredictable. Therefore, small employers and other employers with poor cash flow may find that self-funding the group health plan is not a viable option.

What types of coverage can be included in a self-funded health plan?

 Self-funded health plans can include a variety of coverage options, such as medical, dental, vision, and prescription drug benefits.

Can employees customize their coverage in a self-funded health plan?

 Yes, self-funded health plans often allow employees to customize their coverage based on their individual needs and preferences, providing flexibility and choice.

Are self-funded health plans taxable?

Self-funded health plans are typically not subject to state insurance premium taxes, but they may be subject to other taxes such as federal income tax on certain benefits. It’s important to consult with a tax advisor for specific guidance.

Learn more about group health coverage

To learn more about group health coverage, visit eHealth’s Small Business Health Insurance. We have a resource center designed to answer most of the questions business owners have regarding group health. In addition, you can find and compare group health plans available from leading health carriers licensed and doing business where you live. Finally, eHealth’s licensed health insurance brokers are available to help you determine the right plan for your business and employees. Our services are available to you free of charge 24/7.