CRS Report for Congress
Received through the CRS Web
Managed Health Care: Federal and State
October 8, 1997
Beth C. Fuchs
Specialist in Social Legislation
Education and Public Welfare Division
Congressional Research Service ˜ The Library of Congress
Managed Health Care: Federal and State Regulation
Numerous bills have been introduced in the 105th Congress to regulate managed
health care. Some target specific aspects of the delivery of care, such as hospital
length-of-stay for mastectomies. Others address a broad range of consumer and
provider concerns that have emerged as managed care has become more
commonplace. State legislatures have been even more active on this issue with over
1,000 managed care bills introduced in 1996 alone. Key to understanding these
federal and state proposals is the current regulatory environment in which managed
care organizations (MCOs) function.
The regulation of managed care depends on who sponsors the plan and who
bears the risk for paying for the insured services. Generally, the federal government
regulates managed care and other health plans sponsored by private-sector employers.
On the other hand, the states regulate the business of insurance, which includes the
MCO (such as a health maintenance organization (HMO)) that offers a managed care
policy to an individual, employer, or other purchaser. If a private sector employer
sponsors a plan that is not purchased from an MCO (i.e., the plan is self-insured),
then the plan is regulated solely by the federal government. If that employer
contracts with an MCO to provide managed care services to his or her employees,
then the regulation of that plan depends on who bears the risk. If it is the MCO, the
plan is regulated by the state; if the risk is borne to any degree by the employer, then
the plan is subject to federal law only.
The traditional division of regulatory responsibilities between the federal
government and the states resulted from provisions of several federal laws and
subsequent decisions of federal courts. Most importantly, the Employee Retirement
Income Security Act of 1974 (ERISA) preempted the states from regulating health
plans of private sector employers but left to the states the regulation of the business
of insurance. While the HMO Act of 1973 established certain federal standards for
HMOs that elected to operate under federal law, almost all other regulatory authority
over the business of health insurance remained with the states. This deferral to state
regulation of insurers has been somewhat altered with the Health Insurance
Portability and Accountability Act of 1996 (P.L. 104-191) to the extent that it applies
certain federal minimum requirements to state-regulated insurers as well as to
employer-sponsored plans, including managed care plans.
The regulation of managed care varies significantly across the 50 states. Many
have HMO laws and regulations that are based on the National Association of
Insurance Commissioner’s (NAIC) HMO Model Act. Some have used the NAIC
model as a floor and have adopted more stringent requirements on MCOs.
Responding to the emergence of varying types of risk-bearing entities that provide
both insurance and medical services, the NAIC has issued model laws on quality
assessment and improvement, provider credentialing, network adequacy, grievance
procedures, standards for utilization review, and will be issuing one on capital
standards to ensure solvency. State laws may begin to incorporate these models as
they respond to these and other issues arising from the growth of managed care.
Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Concepts and Terminology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
The Division of Federal and State Responsibilities . . . . . . . . . . . . . . . . . . . . . . . 4
Major Federal Laws Affecting the Regulation of Managed Care . . . . . . . . . 5
McCarran-Ferguson Act of 1945 (P.L. 79-15) . . . . . . . . . . . . . . . . . . 5
Employee Retirement Income Security Act of 1974 (ERISA,
P.L. 93-406) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
The HMO Act of 1973 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
The Health Insurance Portability and Accountability Act of 1996 (HIPAA,
P.L. 104-191) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
P.L. 104-204 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
Other Federal Laws Affecting Managed Care Plans . . . . . . . . . . . . . 14
State Regulation of Managed Care Plans . . . . . . . . . . . . . . . . . . . . . . . . . 14
Licensure/Certification/Organization . . . . . . . . . . . . . . . . . . . . . . . . 16
Access to Services and Providers . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Quality Assurance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
Protection Against Insolvency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
Grievances . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Utilization Review . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
Additional State Laws . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
List of Figures
Figure 1. Who Provides Managed Care Health Insurance? . . . . . . . . . . . . . . . . 4
Figure 2. Major ERISA Requirements on Employer Group Health Plans . . . . . . 7
List of Tables
Table 1. Selected State Managed Care Legislative Strategies . . . . . . . . . . . . . 27
Managed Health Care: Federal and State
Who regulates managed care plans and what requirements and standards must
they meet in order to operate? This report explains the role of federal and state laws
in regulating managed care, summarizes the relevant federal statutes, and highlights
major regulatory issues that are arising with respect to this growing sector of the
health insurance marketplace. The report also reviews the model laws developed by
the National Association of Insurance Commissioners (NAIC) that often form the
basis for state statutes. Last of all, it details some of the ways in which states have
gone beyond NAIC model laws in regulating aspects of managed care, and provides
a summary listing of selected managed care laws that have been enacted by the states.
The regulation of managed care is becoming an increasingly salient issue at all
levels of government. In 1996 alone, state lawmakers introduced over 1,000 bills
affecting managed care.1 At the federal level, the 104th Congress responded to
increasing consumer and provider concerns about access to and quality of managed
care by passing a law to allow new mothers to remain in the hospital for at least 48
hours after a normal delivery.2 Another bill, which would have prohibited the
restriction of communications between providers and their patients, came close to
enactment. In the first session of the 105th Congress, bills have been introduced
regulating a wide range of managed care activities, including: the amount and scope
of coverage for specific procedures, such as mastectomies; access to emergency care
and specialist services; quality assurance; plan disclosure; due process standards for
providers; and appeals and grievance procedures for enrollees.3 The White House
Bodenheimer, Thomas. The HMO Backlash-Righteous or Reactionary?
England Journal of Medicine, v. 335, no. 21, November 21, 1996. p. 1601-1604.
For more information, see: U.S. Library of Congress. Congressional Research
Service. Hospital Length-of-Stay for Obstetrical Care. CRS Report 95-1114, by Sharon
Kearney, updated November 1, 1996. Washington, 1996. (Hereafter cited as Kearney,
Hospital Length-of-Stay for Obstetrical Care, 1996)
The Balanced Budget Act of 1997 (P.L. 105-33) includes requirements on managed
care plans that contract with Medicare and Medicaid. These requirements are summarized
in: U.S. Library of Congress. Congressional Research Service. Medicare Provisions in the
Balanced Budget Act of 1997 (BBA-P.L. 105-33). CRS Report 97-802, by Jennifer
O’Sullivan, et al., August 18, 1997. Washington, 1997. (Hereafter cited O’Sullivan, et al.,
Medicare Provisions in the Balanced Budget Act of 1997 (BBA 97, P.L. 105-33), 1997);
Medicaid: FY 1998 Budget. CRS Issue Brief 97037, by Melvina Ford, et al., updated
too has been active on this issue. The President’s Advisory Commission on
Consumer Protection and Quality in the Health Care Industry is expected to report
in November, 1997 on its recommendations for a consumer bill of rights that will,
in part, be a response to concerns about managed care.
A key to understanding all of these managed care proposals is an understanding
of the current regulatory environment in which managed care organizations (MCOs)
function. Aiding such an understanding is the purpose of this report.
Concepts and Terminology
Managed care is a term that generally means a system of payment or delivery
arrangement where the health plan attempts to control or coordinate use of health
services by its enrolled members in order to control spending and promote improved
health. Like fee-for-service insurance, managed care arrangements accept financial
responsibility for a defined set of health care benefits in return for a premium paid
by or on behalf of each enrolled member. Unlike fee-for-service insurers, managed
care arrangements directly provide or arrange for health care services, through
affiliated physicians, hospitals and other providers, instead of simply paying bills.
The enrollees covered by the managed care plan agree to obtain all covered services,
except emergency and out-of-area care4, from or with the authorization of the
managed care plan or its affiliated providers. The MCO may reduce unnecessary
hospitalizations, diagnostic tests, or specialty referrals, either through programs to
review the use of services or by giving participating physicians a financial stake in
the cost of the services they order. It may also select low-cost providers of services
or negotiate discounted rates from providers.
At one time, the only type of arrangement that offered managed care was a
health maintenance organization (HMO). Today, managed care coverage is provided
by an array of entities, such as preferred provider organizations (PPOs) and provider
sponsored organizations (PSOs), many of which offer more open-ended coverage
than do traditional HMOs. As in traditional HMOs, these arrangements provide
covered services through provider networks. Enrollees are given financial incentives
to use services within the plan’s provider network, but still receive some coverage
even if they decide to obtain care from outside providers.5
August 13, 1997. Washington, 1997. (Hereafter cited as Ford, Medicaid: FY 1998 Budget,
Many managed care plans require that enrollees obtain prior authorization from the
plan for emergency care services that are not life-threatening and for any such services that
are obtained from providers that are not part of the MCO’s network, including those who
are out of the MCO’s service area.
For additional background on managed care organizations, see: U.S. Library of
Congress. Congressional Research Service. Managed Health Care: A Primer. CRS
Report 97-913, by Jason Lee. Washington, 1997.
Managed care health insurance coverage, like fee-for-service coverage, is
offered by several types of entities. An insurer, such as a commercial health
insurance company or a Blue Cross/Blue Shield plan may offer managed care
coverage to employers. It may also offer such coverage to individuals who purchase
insurance directly (i.e., not as a member of a group such as an employer group).
Similarly, an HMO, PPO, or other type of managed care arrangement may also offer
managed care coverage to an employer. An employer may itself sponsor a health
benefits program which includes one or more managed care options. It may therefore
be considered the sponsor or issuer of the plan. Finally, a public program such as
Medicare or Medicaid, may contract with MCOs to offer managed care to program
To complicate matters, various forms of entities may serve as intermediaries
between purchasers and insurers. Such entities help to facilitate the offering and
marketing of managed care policies to employers (and sometimes individuals).
Purchasing cooperatives, for example, help to give purchasers (such as small
employers) more buying clout in obtaining health benefits for their employees.
Others, such as third party administrators (TPAs), may offer certain types of services
to employers ranging from claims administration to stop-loss insurance for high cost
claims or for overall claims in excess of some preestablished amount of money.
Figure 1 illustrates the many different types of entities that may issue managed care
Insurance is a way to
Insured Versus Self-Insured Plans
spread risk. The risk for paying
for services covered under a
Self-insured Employer Plan — A plan in
managed care plan (and a feewhich the employer takes on some or all of the
for-service plan too) can be
risk of paying for the plan’s covered items and
handled in different ways. An
services. (Also known as self-funded or notemployer, for example, can
fully-insured plans.) Many self-insured plans
fully self-insure the services
assume risk for some amount of claims and
covered under its managed care
then buy stop-loss coverage from a third party
plan. In so doing, it is assuming
(such as a third party administrator) to cover
100% of the risk of paying for
losses over a preset amount or percentage of
the plan’s covered services.
No risk is transferred to an
Insured Employer Plan — A plan purchased from
employer can purchase a fullyan insuring entity, such as a commercial insurer,
insured plan from an insurer or
Blue Cross/Blue Shield, or a managed care
managed care company, thereby
organization. The employer pays the insurer a
transferring all of the risk of
premium in exchange for the insurer assuming the
risk of the plan’s covered items and services.
paying for covered services. In
return for assuming the risk,
the insurer gets a premium from
the employer priced to cover the expected costs of services used by the employer
plan’s enrollees. Sometimes, however, risk is shared between an employer and
another entity, such as an insurer, managed care company, or TPA. In this case, the
plan is said to be not-fully-insured or partially self-insured.
Figure 1. Who Provides Managed Care Health Insurance?
(These entities offer/sell coverage to individuals, groups, or both)
! Commercial insurers
! Blue Cross/Blue Shield plans
! Managed Care Companies -- HMOs, PPOs, PSOs,
(Employers can sponsor health plans that cover their employees and
employees’ dependents. These plans may be insured or self-insured.)
! Private-sector employers
! Governmental employers (nonfederal which include state and local
governments and federal which includes the Federal Employees
Health Benefits Program)
! Church sponsored plans
! Multiple Employer/Association Sponsors
! Multiemployer Plans
Public Insurance Sponsors
Department of Veterans Affairs
Department of Defense
The Division of Federal and State Responsibilities
The regulation of a managed care plan depends on who is its issuer. In general,
the federal government regulates private sector employer health plans, including
managed care plans that are sponsored by a private employer. The states regulate the
business of insurance, which includes an HMO or other type of MCO that sells a
health insurance policy to an individual, employer, or other purchaser. States also
oversee plans sponsored by state and local governments. If a private sector employer
sponsors a plan that is not purchased from a MCO (i.e., the plan is self-insured), then
the plan is regulated solely by the federal government.6 If a private sector employer
This discussion refers to single-employer plans only. The regulation of multiple
employer entities, known under ERISA as multiple employer welfare arrangements
(MEWAs), works differently. See: U.S. Library of Congress. Congressional Research
Service. Health Insurance: Reforming the Private Market. CRS Report 95-877, by Beth
C. Fuchs, updated January 23, 1997. Washington, 1997. (Hereafter cited as Fuchs, Health
Insurance: Reforming the Private Market, 1997)
contracts with a MCO to provide managed care services to the employer’s
employees, then the regulation of that plan will depend on who bears the risk.
Further complicating an understanding of this regulatory environment is the
Health Insurance Portability and Accountability Act of 1996 (HIPAA, P.L. 104-191),
as amended by P.L. 104-204.7 Prior to its enactment, almost all regulatory authority
over the business of health insurance had rested with the states. Once HIPAA’s
provisions are implemented, certain federal minimum requirements will apply to
state-regulated insurers as well as employer-sponsored managed care plans. This
marks the first time that the federal government will have extended its jurisdiction
to health insurers.8 While HIPAA generally allows states to impose on insurers
requirements that provide for greater protections to consumers in lieu of federal
minimum standards, certain federal standards relating to preexisting condition
exclusions override state laws. Moreover, if a state fails to enforce at least the federal
minimum standards, then the federal government is charged with enforcing the law
in that state.
The traditional division of regulatory responsibilities between the federal
government and the states resulted from provisions of several federal laws and
subsequent decisions of federal courts. The following provides a basic overview of
these laws, including the precedent-breaking HIPAA. The report then describes how
states regulate MCOs, particularly HMOs. While this discussion is meant to be
descriptive of the current regulatory environment, it also provides a foundation for
a discussion of the major policy issues related to managed care facing the 105th
Major Federal Laws Affecting the Regulation of Managed Care
Numerous federal laws affect health benefits and health insurance. This section
describes the key statutes, including the McCarran-Ferguson Act, ERISA, the HMO
Act, and HIPAA. Other statutes, such as the health insurance continuation coverage
requirement of the Consolidated Omnibus Budget Reconciliation Act (COBRA),
impose requirements on certain health plans. These, however, are less directly
relevant to issues of managed care and are thus not included.
McCarran-Ferguson Act of 1945 (P.L. 79-15). This Act exempts the business
of insurance from federal antitrust regulation to the extent that insurance is regulated
by the states, and indicates that no federal law should be interpreted as overriding
state insurance regulation unless it does so explicitly. The Act did not prevent the
federal government from regulating insurance in the future; it merely affirmed that
the government had so far abstained from doing so. HIPAA broke with the precedent
P.L. 104-204 also includes new federal requirements relating to minimum hospital
maternity stays and to mental health benefits.
Arguably, the HMO Act of 1973 was the first major federal law affecting the business
of insurance. However, the HMO Act only imposed requirements on HMOs that elected to
become "federally qualified." Similarly, the federal government regulates the policies of
private insurers who sell policies that supplement Medicare and of MCOs that contract with
Medicare and Medicaid.
established by the McCarran-Ferguson Act and established certain federal minimum
requirements on the business of health insurance.
Employee Retirement Income Security Act of 1974 (ERISA, P.L. 93-406).
ERISA establishes federal uniform requirements for employee welfare benefit plans,
including health plans. It was crafted in 1974 to leave the content and design of
employer health plans to employers in negotiation with their workforce. ERISA
does, however, establish certain regulations for health benefit plans. These relate to
reporting and disclosure, fiduciary standards, claims review, and enforcement. It also
provides participants in employee plans limited protection against discrimination.
(See Figure 2.) Governmental plans and church plans are generally exempt from
ERISA. Some plans are sponsored by entities, such as fraternal organizations, in
which there is no employer-employee relationship involved. These too are not
considered ERISA plans.9
One of the most important provisions of ERISA (Section 514) preempts state
laws affecting employee welfare benefit plans. While Section 514 confirms the
states' continued authority to regulate insurance companies, the so-called "deemer"
clause holds that no employee benefit plan or any trust established under a plan "shall
be deemed to be an insurance company . . . ." The courts have generally interpreted
this language to mean that states cannot regulate employer-sponsored health plans.
They may, however, regulate insurance that is sold to employers. As a result, if an
employer fully or partially self-insures its own health plan, it is regulated solely by
ERISA, and not state insurance law. Federal regulation of employer plans includes
those requirements discussed above.
As a consequence of ERISA's Section 514, employers that self-insure are
exempt from state regulatory requirements such as taxes on insurance premiums,
requirements that health plans include specific benefits or pay specific providers
(known as state mandated benefit laws); solvency and funding standards;
requirements to participate in the financing of state risk pools; and, of increasing
prevalance, laws regulating various characteristics and actions of managed care plans.
ERISA's preemption of state regulation has helped to increase the attractiveness of
self-insurance to many employers, so that today, roughly 40% of all employees are
covered by self-insured plans. (Data on rates of self-insurance widely vary depending
on the survey.)10
This discussion of ERISA relates to plans sponsored by individual employers (i.e.,
"single-employer" plans). Different rules apply to plans that are sponsored by two or more
employers, such as multiple employer welfare arrangements. The regulation of these plans
is not covered in this report. For more information, see: Fuchs, Health Insurance:
Reforming the Private Market, 1997; Butler, Patricia and Karl Polzer. Private-Sector Health
Coverage: Variation in Consumer Protections under ERISA and State Law. National Health
Policy Forum, Washington, D.C., Special Report/June 1996. (Hereafter cited as Butler, et
al., Private-Sector Health Coverage)
The General Accounting Office has estimated that about 44 million Americans are
in self-insured health plans that states cannot regulate. See: U.S. General Accounting
Office. Employer-Based Health Plans: Issues, Trends, and Challenges Posed by ERISA.
(GAO/HEHS-95-167), July 25, 1995. Washington, 1995. This number may actually be
Figure 2. Major ERISA Requirements on Employer Group Health Plans
! Fiduciary standards — plan fiduciaries must act in the sole interest of plan
participants in the management and disposition of employee benefit funds.
! Reporting and disclosure requirements — plans must disclose information
about the plan to participants and beneficiaries.11
! Nondiscrimination — a person cannot "discharge, fine, suspend, expel,
discipline, or discriminate against a [plan] participant or beneficiary for
exercising any right to which he is entitled under the provisions of an
employee benefit plan . . . ."12
! Claims review — a plan must provide adequate notice in writing to any
participant or beneficiary whose claim for benefits under the plan has been
denied, setting forth the reasons for the denial, and afford a reasonable
opportunity for a full and fair review by the appropriate named fiduciary of the
decision denying the claim.
! Continuation of coverage (COBRA) — a plan with 20 more employees must
offer participants and beneficiaries the option to continue group health
coverage in the case of certain events (such as terminating from the job or
experiencing a change in family status) for 18 to 36 months, depending on the
! Coverage of adopted children — an employer group health plan that provides
coverage for dependent children must treat children placed for adoption the
same as natural children, even if the adoption does not become final until
some time later.
! Health Insurance Portability and Accountability Act (HIPAA) — a plan must
comply with the portability, access, and renewability requirements of the Act
(as described below).
declining, partially as a result of employers’ switching from fee-for-service plans to fully
insured managed care plans. A 1996 study, using a different research methodology than
GAO’s, found that the number of Americans covered under self-insured plans that the states
could not regulate was 35 million in 1995, a decrease from 38 million in 1993. Liston,
Derek and Martha Priddy Patterson. Analysis of the Number of Workers Covered by SelfInsured Health Plans under ERISA of 1974-1993 and 1995. Henry J. Kaiser Family
Foundation, Menlo Park,CA, August 1996.
Plans used to be required to file summary plan descriptions and summaries of
material modifications with the Department of Labor. However, under the Taxpayer Relief
Act of 1997 (P.L. 105-34), sponsors of employee benefit plans are no longer required to file
such information. Such documents have to be filed, however, at the request of the
Department of Labor within 30 days of the request.
Section 510 of ERISA.
ERISA's exemption of employee health plans from state regulation means that
a wide range of state health reforms face legal challenges by self-insured employers
and unions if and when those laws are implemented.13 The plaintiffs are likely to
argue that they do not have to comply because they are exempt from state law under
Section 514 of ERISA. Organizations representing state interests have argued that the
threat of such court challenges discourages new state reform efforts and limits the
effectiveness of existing state laws because such laws cannot be enforced on a sizable
portion of the insurance market, i.e., self-insured health plans. Opposing this view are
groups representing larger employers, many of whom operate in two or more states, who
argue that if they lose their preemption and become subject to state law, they will be
financially and administratively burdened. Complying with 50 different state regulations
would drive up their costs of operating a health plan and reduce their ability to
implement innovative plan changes. Also in opposition are organizations representing
self-insured firms and sellers of administrative services and stop-loss insurance to selfinsured firms, arguing that ERISA preemption is necessary to ensure the continuation
of their health plan arrangements.
The effect of ERISA’s preemption clause on the regulation of MCOs is
significant and complex. With the growth of managed care arrangements, the
distinction between plans that are fully insured from those that are self-insured (i.e.,
to some extent risk bearing) has become less clear. An obvious case of a fully
insured plan exists when an employer purchases for a premium a fee-for-service plan
from an insurance company. Less obvious is the situation where an employer plan
has contracted with an MCO to use its network of providers in order to offer plan
participants an HMO option. Then the question becomes: who is bearing the risk?
Is the employer paying the MCO a per enrollee premium which will not vary
regardless of how much health care each participant uses? In this case, the MCO is
at risk and the employer is buying a fully insured product which is clearly subject to
state regulation. Alternatively, is the employer’s plan operating as the risk-bearing
entity and the MCO is simply contracting for a negotiated fee the use of its doctors,
hospitals, and other providers?14 In this instance, the MCO may or may not be
subject to state regulation. State insurance regulators may wish to regulate the MCO
if it were considered to be assuming any insurance risk. However, the state might be
blocked from applying such regulation as a result of ERISA’s preemption of state
regulation of employer-sponsored plans.
In the same vein, an issue arises with respect to the question of whether a state
law applies to the plan offered by a MCO. Does the law relate to an employee
benefit plan? More specifically, does the law regulate the structure, content, method
of administration, or plan requirements? Does it directly affect the participants of the
plan? The federal courts have used the concept of relatedness as a major litmus test
in determining, for example, whether a state health care provider tax could be
For more information, see U.S. Library of Congress. Congressional Research
Service. Health Benefit Plans: ERISA and the States. CRS Report 93-747, by Joan
Sokolovsky, August 11, 1993. Washington, 1993.
About 65% of HMOs and PPOs were estimated to be offering employer self-insured
products in 1996, including “network rental” options and third party administrative services,
up from 53% in 1995. American Association of Health Plans. 1995 AAHP HMO/PPO
Trends Report. Washington, 1995.
assessed on participants of an employee health plan.15 This “relatedness” test may
be central to judicial challenges to state laws regulating managed care arrangements.
For example, an employee health plan might argue that ERISA preempts a state
provider network licensing law directed only at self-insured plans because the law is
seeking to regulate activities related to the employee plan.16 “Who shall regulate?”
may become even more complicated with the emergence of increasingly complex
risk-sharing arrangements, both between employers and MCOs, and MCOs and
provider sponsored entities, such as physician-hospital organizations.
This rather intricate and confusing regulatory environment has led some to
suggest that insurance regulation be federalized. In that way, one uniform set of laws
would apply to health plans, regardless of whether such plans were insured or selfinsured. Of course, a debate might then arise about the content of such a law. What
requirements should the federal government impose on privately-sponsored health
plans? The reverse view is also found. Some advocate that the states be given
greater latitude to regulate the health plans sponsored by employers so that insuring
entities are competing on the same “level playing field.” There appears to be
growing interest in the current Congress in legislation that applies federal minimum
requirements to all health plans, regardless of whether they are purchased or selfinsured, but that also give states flexibility to apply their own laws if such laws are
consistent with (or, in some bills, more restrictive than) the federal standard. (This
approach is reflected in the HIPAA of 1996, discussed below.) Whether this
approach results in more or less uniformity of insurance regulation remains to be
McCarran-Ferguson and ERISA established the respective jurisdictional reach
of the federal government and the states over health insuring entities. Other laws,
such as the HMO Act of 1973, and the HIPAA of 1996, both affect “who regulates
what” as well as the content of that regulation.
The HMO Act of 1973. The HMO Act of 1973 (P.L. 93-222) added a new title
XIII to the Public Health Service (PHS) Act.17 This title, as amended, is known as
“the HMO Act.” The HMO Act was enacted largely to encourage the growth of
HMOs, thought by many to be a more cost-effective way to deliver health care than
traditional, fee-for-service insurance. The Act originally provided federal funds to
develop new HMOs and to help them through the start-up period. These funds are
no longer available. The Act also created certain financial and organizational
standards. Certification of federal qualification was once the responsibility of the
PHS. Currently, it is done by the Health Care Financing Administration, the agency
of the Department of Health and Human Services (HHS) in charge of the Medicare
and Medicaid programs.
New York State Conference of Blue Cross and Blue Shield Plans, et al vs. Travelers
Insurance Co., U.S. 93-1405, April 26, 1995.
Butler, et al., Private-Sector Health Coverage, p. 57.
This section is from: U.S. Library of Congress. Congressional Research Service.
Health Maintenance Organizations and Employer Group Health Plans. CRS Report 91261, by Mark Merlis, March 19, 1991. Washington, 1991.
It once was the case that the main reason for an HMO to obtain federal
qualification was to take advantage of the HMO Act’s “dual choice” requirement.
Any employer with 25 or more employees that was subject to the Fair Labor
Standards Act and that provided group health insurance benefits was required to offer
an HMO option as an alternative to its existing health plan, if a federally qualified
HMO was available in its areas and asked to be included. The employer had the right
to choose among qualified HMOs if there were more than one in an area. This “dual
choice” requirement was eliminated by the HMO amendments of 1988, effective 7
years after enactment, or October 24, 1995.18
As of the end of 1995, about 45% of all HMOs were federally qualified,
although qualified HMOs accounted for 68% of total enrollment.19 The process of
seeking federal qualification is a voluntary one, and many HMOs operate only under
state licensure because they choose not to meet some of the benefit and operating
requirements of the HMO Act.
The HMO Act specifies that a federally qualified HMO is a public or private
entity organized under the laws of any state which provides basic and supplemental
health services to its members and meets certain financial and organizational
requirements. These requirements include:20
Each member has to be provided basic health services which are paid for on
a periodic basis without regard to when the services are provided. The
payment must be fixed without regard to the frequency, extent, or kind of
health service (within the basic health services) actually furnished. These
basic services may be supplemented by additional nominal copayments but
such copayments cannot act as a barrier to care.21
The HMO Act of 1973 also required the employer to include the HMO option in the
offering on terms no less favorable with respect to the employer’s monetary contribution
than the terms on which other alternatives (such as a fee-for-service plan) were included.
The employer’s contribution had to be equal, in dollar amount, to the largest contribution
made by that employer, on behalf of a particular employee, to a non-HMO alternative
included in the plan offering. This is known as the nondiscrimination requirement. While
the dual choice provision was repealed by the HMO amendments of 1988, the
nondiscrimination requirement was retained with modifications to enable employers greater
flexibility in setting their contributions to HMOs that they offer voluntarily. HCFA issued
a final rule implementing these changes on May 31, 1996. See Federal Register, May 31,
1996. p. 27282.
Interstudy. The Interstudy Competitive Edge. Part II: Industry Report. St. Paul,
1996. Tables 3 and 5.
Section 1301-1302 of Title XIII of the HMO Act. See also the regulations for
federally qualified HMOs in 42 Code of Federal Regulations., Ch. IV, Sections 417.1417.169.
This provision was amended by Section 193 of HIPAA (P.L. 104-191) to allow
federally qualified HMOs to offer high deductible plans that could be sold in conjunction
with tax-favored medical savings accounts (MSAs).
! Basic health services include: physician services; inpatient and outpatient
hospital services; medically necessary emergency services; short-term, outpatient mental health services; medical treatment and referral services for the
abuse of or addiction to alcohol and drugs; diagnostic laboratory and
diagnostic and therapeutic radiologic services; home health services; and
preventive health services.
! Basic health services have to be available and accessible with reasonable
promptness and in a manner which assures continuity, and when medically
necessary, be available and accessible 24 hours a day, 7 days a week.
(Exceptions are provided for rural HMOs.)
! Each HMO must have a fiscally sound operation and adequate protection
against the risk of insolvency which is satisfactory to the Secretary. It must
also have administrative and managerial arrangements satisfactory to the
Secretary. The HMO must assume full financial risk on a prospective basis
for basic health services except that it may obtain insurance or make other
arrangements to cover losses in excess of a specified level.
! The HMO must enroll persons who are broadly representative of the various
age, social, and income groups within its service area. (Special provisions
apply in the case of HMOs in medically underserved areas.) It cannot expel
or refuse to re-enroll any member because of the individual’s health status or
need for health services.22 It has to have meaningful procedures for hearing
and resolving grievances between the HMO and the members of the
organization. In addition, the HMO must have an ongoing quality assurance
program, and provide for the reporting of certain information.
! The HMO must generally use “community rating,” that is, premium rates may
not vary according to enrollees’ need for health services.
Federally qualified HMOs are also subject to state insurance laws with
exceptions. The HMO Act explicitly preempts “restrictive” state laws and practices,
including those that: (1) require as a condition of doing business that a medical
society approve of the furnishing of services by the entity; (2) require that physicians
constitute all or a specified percentage of its governing body; (3) require that all
physicians or a specific percentage of physicians in a locale participate or be
permitted to participate in the provision of services for the HMO; (4) require that the
HMO meet state requirements for health insurers respecting initial capitalization and
establishment of financial reserves against insolvency that would prevent it from
doing business in the state; and (5) impose requirements which would prohibit the
HMO from complying with requirements of the HMO Act.
Under the Act, the HMO is prohibited from denying enrollment to a member of an
employer group on the basis of health status. However, it can refuse an entire group or an
individual applicant. This provision is superceded by HIPAA (P.L. 104-191), which
generally prohibits an HMO from denying enrollment to a small employer group (2 to 50
employees), or any member of the group, on the basis of health status and related factors.
It can reject new enrollees in the event of capacity limits.
The Health Insurance Portability and Accountability Act of 1996 (HIPAA,
P.L. 104-191). The HIPAA establishes federal minimal health insurance standards
that apply to MCOs as well as indemnity insurers, plans sponsored by employers, and
plans sponsored by unions, associations, and other entities. Most provisions take
effect for plan years beginning after June 30, 1997. HIPAA also establishes some
minimal standards that apply to MCOs (and other insuring entities) operating in the
individual insurance market.23 These too are generally effective beginning July 1,
1997.24 The standards are established under ERISA, the PHS Act, and the Internal
Revenue Code (IRC). The following summarizes the basic requirements of the Act.
! Limits on the use of preexisting condition restrictions. Group health plans, and
health insurance issuers25 offering group health insurance coverage, are
prohibited from imposing a preexisting condition exclusion that exceeds 12
months (18 months for late enrollment) for conditions diagnosed or treated
withing the previous 6 months prior to becoming insured. Preexisting
conditions cannot include pregnancy and cannot apply to newborns and newly
adopted children (including those newly placed for adoption). Such plans are
required to credit periods of qualified previous coverage toward the fulfillment
of a preexisting condition exclusion period when an individual moves from
an individual or group source of health coverage to a source of group
coverage. Plans and issuers have to provide a certification of the period of
! Guaranteed availability. Group health plans, and health insurance issuers
offering group coverage, cannot exclude from coverage or fail to renew
coverage based on an individual’s health status or on the health status of a
dependent. (Health status is defined to include, with respect to an individual,
medical condition, claims experience, receipt of health care, medical history,
genetic information, evidence of insurability (including conditions arising out
of acts of domestic violence), or disability.) A group health plan must provide
for special enrollment periods for employees who experience a change in
family composition, employment status, or employment status of a family
member. The Act does not restrict the amount that an employer or issuer can
charge for coverage or prevent the plan or issuer from establishing premium
discounts or rebates or modifying applicable copayments or deductibles in
return for adherence to programs of health promotion or prevention.
More information on the HIPAA is provided in: U.S. Library of Congress.
Congressional Research Service. The Health Insurance Portability and Accountability Act
of 1996: Guidance on Frequently Asked Questions. CRS Report 96-805, by Beth C. Fuchs,
Bob Lyke, Richard Price, and Madeleine Smith, updated April 10, 1997. Washington, 1997.
The provisions applying to the individual market may become effective later than
July 1, 1997 in the case of states that, for example, that do not have a legislature that meets
in 1997 or indicate that they intend to implement an alternative mechanism. Alternative
mechanisms generally take effect January 1, 1998.
The term “issuer” used below is defined under HIPAA as an insurance company,
Blue Cross/Blue Shield company, or insurance organization (including an HMO which is
licensed to engage in the business of insurance in a state and which is subject to state law
which regulates insurance).
! Requirements on issuers of group insurance (including HMOs and similar
entities). Each small group insurer or HMO is required to accept every small
employer in the state that applies for such coverage. It must also accept for
enrollment under such coverage every individual who applies for enrollment
during the initial enrollment period in which the individual first becomes
eligible for coverage under the group health plan. No exclusions can be
placed on the coverage of an eligible individual based on health status or the
health status of the dependent. Exceptions apply in the case of network plans
that have limited capacity. (Many managed care plans are network plans.)
The small group market is generally defined as employer groups with more
than 2 and less than 51 employees. All health insurance sold in the group
market must be guaranteed renewable, regardless of firm size, except for cause
(e.g., fraud and nonpayment of premiums).
! Enforcement. Each state may require that health insurance issuers that issue,
sell, renew, or offer health insurance in the state in the small or large group
markets meet the above requirements. In the case of a determination by the
Secretary of HHS that a state has failed to substantially enforce these
requirements, the Secretary would generally enforce them. The group health
insurance rules on private sector plans would be enforced through ERISA.
Plans that fail to comply could be sued for relief and for recovery of any
benefits due under the plan. They could also be subject to civil money
penalties. Private group health plans would be subject to an excise tax of
$100 per day violation under the IRC. Noncomplying issuers (such as an
HMO) would be subject to civil money penalties under the PHS Act.
Individuals would also have a private right of action against such issuers under
P.L. 104-204. Not long after HIPAA was enacted, it was amended to provide
for federal standards related to maternity stays and coverage for mental health
services.26 Under the Act, group health plans and issuers of insurance plans in the
group and individual markets will be prohibited from restricting benefits for any
hospital length-of-stay for mothers and their newborns following a vaginal delivery
to less than 48 hours and following a caesarean to less than 96 hours or from
requiring that a provider obtain authority from the plan or the issuer for prescribing
longer length-of-stays. Such prohibitions will be inapplicable in the case in which
the decision to discharge the mother or her newborn prior to the 48/96 hour minimum
requirements is made by an attending provider in consultation with the mother.27
The provision applies for plan years beginning on or after January 1, 1998.
P.L. 104-204 also provides limited parity for mental health coverage under
group health plans. It requires annual and aggregate lifetime limits for mental health
coverage to be the same as for physical health coverage. Group health plans (or
health insurance coverage offered in connection with group health plans) that cover
These provisions were part of the fiscal year 1997 appropriations act for the
Departments of Veterans Affairs and Housing and Urban Development.
For more information, see: Kearney, Hospital Length-of-Stay for Obstetrical Care,
mental health and medical/surgical conditions and have annual or aggregate dollar
limits for medical/surgical conditions must establish either an inclusive limit for all
benefits (e.g., $1 million lifetime limit for all benefits) or separate limits for mental
health services that are no more restrictive than those for medical/surgical services
(e.g., separate lifetime limits of $1 million for each type of benefit). The provisions
do not apply to benefits for substance abuse or chemical dependency. Plans of
employers with fewer than 50 employees are exempt from the requirement. The
requirement also does not apply to any group health plan whose costs increase 1%
or more due to the application of the requirement.28 This provision too applies for
plan years beginning on or after January 1, 1998.
Other Federal Laws Affecting Managed Care Plans. MCOs that contract
with Medicare, state Medicaid programs, and military health care programs must
comply with requirements specific to those programs. For example, as of August of
1997, Medicare had 292 contracts across the United States with MCOs that have
agreed to provide on a risk basis coverage for Medicare beneficiaries and comply
with a set of Medicare rules. In return, the MCO receives a preestablished per capita
payment called the adjusted average per capita payment or AAPCC. (As of
September, 1997, the capitation amount is calculated using a new methodology
specified by the Balanced Budget Act of 1997 — BBA 97 — and is technically no
longer the AAPCC.) Under Medicaid, many states contract with MCOs to provide
services to their Medicaid beneficiaries in return for capitation payments. The
regulation of managed care plans that contract with public programs is not addressed
further in this document.29
State Regulation of Managed Care Plans
All 50 states regulate HMOs under self-contained state HMO enabling laws
which address the insurance and delivery aspects of HMOs.30 It is common for the
state’s department of insurance to oversee the insurer functions of the HMO and for
its department of health to oversee the provider and quality assurance functions.31
U.S. Library of Congress. Congressional Research Service. Mental Health Parity
Under P.L. 104-20. CRS Report 96-827, by Jennifer A. Neisner, updated October 15, 1996.
Washington, 1996. Note that P.L. 104-204 amended only the ERISA and PHS sections of
HIPAA. The IRC provisions were amended to include the 48-hour stay and mental health
parity provisions as part of the Taxpayer Relief Act of 1997 (P.L. 105-34).
For Medicare managed care, see: U.S. Library of Congress. Congressional Research
Service. Medicare: The Restructuring Debate in the 104th Congress. CRS Report 97-102,
by Beth C. Fuchs, Bob Lyke, Jennifer O’Sullivan, and Richard Price, January 9, 1997.
Washington, 1997; Medicare Contracts With Managed Care Organizations. General
Distribution Memorandum, by Mark Merlis, March 27, 1995, RA 413 B. Washington,
1995; O’Sullivan, et al., Medicare Provisions in the Balanced Budget Act of 1997 (BBA 97,
P.L. 105-33), 1997; Ford, Medicaid: FY 1998 Budget, 1997.
NAIC, table attached to NAIC HMO Model Act.
Furrow, Barry R., et al. Health Law. St Paul, MN, 1995. p. 525-532.
In some states, the agency administering Medicaid also is involved in MCO
Other types of managed care arrangements may be regulated under separate state
statutes. For example, as of 1996, about half of the states had statutes or regulations
authorizing and overseeing PPOs. Unlike HMOs, PPOs are provider networks
developed to serve people insured through indemnity plans. They typically do not
bear insurance risk; those that do are then regulated as HMOs.33 A few states have
developed laws to apply to physician-hospital organizations and PSOs. These are
provider-owned and provider-operated entities that combine the financial
intermediary role of an insurer with the health care delivery role of a provider
organization. They differ mainly from HMOs to the extent that they are provider
controlled.34 Many HMOs are, in fact, owned and controlled by providers, thus
making them, at least by some definitions, PSOs.
The Role of the NAIC. The NAIC is an association made up of the chief
regulatory officials from the 50 states, the District of Columbia, Puerto Rico and the
territories. It develops model insurance laws and regulations which the states may
elect to adopt, wholly or in part. The NAIC’s Model HMO Act was designed to
provide a flexible legal framework, enabling a wide variety of HMOs to operate; to
provide a regulatory monitoring system to prevent or remedy abuse; and also to assist
in the future development of this type of health care delivery system.35 Twenty nine
states have HMO laws which are based in part on the NAIC’s Model HMO Act.36
The NAIC has an initiative called “the Consolidated Licensure for Entities
Accepting Risk or CLEAR,” which is aimed at consolidating the NAIC model
statutes for licensure of various health coverage products into one new model which
would replace the existing model statutes for HMOs and PPOs. This initiative is
Aspen Systems Corporation. A Report to the Governor on State Regulation of
Health Maintenance Organizations, prepared for the U.S. Department of Health and Human
Services. Rockville, MD, 6th edition, 1996. (Hereafter cited as Aspen Systems Corporation,
State Regulation of Health Maintenance Organizations); Horvath, Jane and Kimberly Irvin
Snow. Emerging Challenges in State Regulation of Managed Care. Report on a Survey of
Agency Regulation of Prepaid Managed Care Entities. National Academy for State Health
Policy, Portland, ME, August 1996. This report points out that in some states, there are
overlapping responsibilities for MCO oversight of two or more state agencies. In some
states, regulatory gaps exist in which no agency has responsibility. These are more likely
with respect to quality assurance and monitoring than financial standards.
Butler, et al., Private-Sector Health Coverage, p. 56.
U.S. Library of Congress. Congressional Research Service. Medicare
Restructuring and Provider Sponsored Organizations (PSOs). CRS Report 96-921, by Beth
C. Fuchs, November 12, 1996. Washington, 1996.
NAIC, Health Maintenance Organization Act, 1990.
U.S. Congress. House. Ways and Means Committee. Subcommittee on Health.
David Randall, Testimony of the National Association of Insurance Commissioners (Ex)
Special Committee on Health Insurance. Medicare HMO Regulation and Quality, March
6, 1997. 105th Cong., 1st Sess. Washington, GPO, 1997. (Hereafter cited as House Ways
and Means Committee, Testimony of David Randall, 1997)
partly in response to the emergence of varying types of risk-bearing entities that
provide both insurance and medical services. Indeed, new types of arrangements
crop up regularly, adding to the alphabet soup of existing types of MCOs. Five
health plan and accountability standards have been completed: (1) quality assessment
and improvement; (2) provider credentialing; (3) network adequacy; (4) grievance
procedures, and (5) standards for utilization review.37 As of February 1997, no state
had adopted these model acts but the NAIC was expecting some to do so in the 1997
and 1998 state legislative sessions. The NAIC is in the process of finalizing riskbased capital standards for insuring entities that would base financial reserve
requirements on the amount of risk assumed.38 All of these model standards, those
completed and those to come, are designed to be applicable to all plans “performing
managed care functions, regardless of their structure or acronym.”39
State Actions. States also establish their own laws regulating MCOs that differ
from those of the NAIC. In recent years, a large number of laws have been passed
regulating various aspects of MCOs, ranging from their organizational structure to
prohibiting certain types of financial incentives to providing standards for utilization
review. Most recently, these laws have been enacted in response to consumer and
provider concerns about access to and quality of MCO services (sometimes referred
to as the managed care “backlash”).
The following discussion summarizes state requirements on MCOs, drawing
first from such requirements as spelled out in the NAIC’s HMO Model Act, the
model acts that emerged out of the CLEAR initiative, and from state laws that may
illustrate or go beyond these model acts.40 The section ends with a table providing
information on selected types of managed care laws and the states that have adopted
them (see Table 1).
NAIC. The NAIC HMO Model Act establishes criteria for licensing an
organization as an HMO. An HMO is defined as an entity that undertakes to provide
or arrange for the delivery of basic health care services to enrollees on a prepaid
basis, except for enrollee responsibility for copayments and/or deductibles. The Act
specifies that as a prerequisite to issuance of a certificate to operate, that the state
entity responsible for health (such as a public health department) determine whether
the HMO applying for a license has satisfied quality assurance requirements.
House Ways and Means Committee, Testimony of David Randall, 1997.
National Association of Insurance Commissioners. The Risk-Bearing Entities
Working Group of the State and Federal Health Insurance Legislative Policy (B) Task Force.
The Regulation of Risk-Bearing Entities, September 1996 (Draft).
House Ways and Means Committee, Testimony of David Randall, 1997.
For additional information on the managed care laws and regulations of the 50 states,
see Health Policy Tracking Service. Major Health Care Policies: 50 State Profiles, 1996,
5th ed. Washington, January, 1997.
The NAIC HMO Model Act does not regulate premium rates per se but does
require that rates (or methodology for calculated the rates) be filed for approval by
the state regulator, that rates be established in accordance with actuarial principles
for various categories of enrollees, and that the premium applicable to an enrollee not
be individually determined based on the person’s health status. Rates should not be
“excessive, inadequate, or unfairly discriminatory.” It also provides that HMOs
should be examined no less than once every 3 years for their overall operation and
quality assurance program. Finally, it sets forth an enforcement process in which
noncomplying HMOs could have their licenses suspended or revoked. Monetary
penalties could be used in addition to or instead of suspension or revocation
State Laws. Some states require a consumer representative on the HMO board
and for there to be a policymaking role for subscribers. Most states require that
premium rates be approved. At least one state limits HMO licenses to non-profit
organizations. Some states require that HMOs provide for annual open enrollment
Access to Services and Providers.
NAIC. The NAIC HMO Model Act states under its provisions related to quality
assurance that the plan maintain procedures to assure availability, accessibility, and
continuity of care. The new NAIC Network Adequacy Model Act42 establishes
explicit standards for the creation and maintenance of provider networks which, in
turn, are designed to ensure that services are available and accessible, and that
enrollees benefit from continuity of care. For example, the carrier must maintain a
network of providers that is sufficient in numbers and types of providers to assure
that all services to covered persons are accessible without unreasonable delay.
Emergency care must be accessible 24 hours per day, 7 days per week. Providers
have to be within a “reasonable proximity” to covered persons. Carriers are required
to file access plans with the state regulator. The Network Adequacy Model Act also
specifies requirements to ensure that participating providers play by certain rules that
protect covered persons from breaks in service in the event that the plan experiences
financial shortfalls (see “Solvency”below).
The Network Adequacy Model Act also includes standards related to the
selection of providers and the relationship between the carrier and the provider.
Selection criteria for providers cannot be established in a manner that would allow
a carrier to avoid high-risk populations (e.g., the MCO cannot exclude providers in
a geographic area that contains populations of above-average risk or exclude
providers who specialize in treating high-risk patients (e.g., oncologists or physicians
who specialize in treating patients infected with the human immunodeficiency virus
(HIV)). Carriers could, however, exclude from its network providers who “fail to
meet the other legitimate selection criteria of the carrier developed in compliance
Aspen Systems Corporation,
Organizations, 1996, Chart 1.
State Regulation of Health Maintenance
National Association of Insurance Commissioners. Model Regulation Service.
Managed Care Plan Network Adequacy Model Act. October 1996.
with this Act.” Certain procedures designed to ensure due process would have to be
followed before terminating a provider without cause.
The Network Adequacy Model Act also addresses several issues that have been
much discussed in Congress and in state legislatures. One is the nature of
communications between a managed care provider and his or her patient. A
restriction on communications imposed by an MCO on providers is often referred to
as a “gag rule” or (if part of a contract) “gag clause.” The Network Adequacy Model
Act includes an “anti-gag rule.” It provides that a health carrier shall not prohibit a
participating provider from discussing treatment options with a covered person or
from advocating on behalf of covered persons.
State Laws. As shown in Table 1, 28 states (as of mid-1997) had enacted laws
or issued regulations requiring plans to provide access to obstetricians/gynecologists,
without referral from the enrollee’s primary care physician. Twenty-eight states had
enacted laws or regulations prohibiting the use of “gag rules.43 Nine states had
passed laws protecting physicians from termination from MCOs “without just
NAIC. The NAIC HMO Model Act requires an HMO to “establish procedures
to assure that the health care services provided to enrollees are rendered under
reasonable standards of quality of care consistent with prevailing professionally
recognized standards of medical practice. Such procedures shall include mechanisms
to assure availability, accessibility, and continuity of care.”45 The organization must
have an ongoing internal quality assurance program which meets specific
requirements, such as having a written statement of goals and objectives emphasizing
improved health status; having a written quality assurance plan; ensuring the use of
an adequate patient record system; and making enrollee records available to the state
public health entity to determine compliance. The HMO Model Act requires
organizations to disclose specific information about the plan in its contracts for
individual and group insurance policies, including eligibility requirements, benefits,
emergency care benefits and services, cost-sharing requirements, limitations and
exclusions, and enrollee grievance procedures. The organization is also required to
file financial and other information at least annually and to provide enrollees notice
of changes to the plan, and on how to obtain services.
The NAIC’s new Quality Assessment and Improvement Model Act builds on
these requirements. It establishes criteria for the quality assessment activities of all
health carriers that offer managed care plans; for closed network plans it establishes
additional criteria for quality improvement activities. It requires a carrier to include
Health Policy Tracking Service. Washington, September 1997. Unpublished tables.
Families USA Foundation. The Text of Key State HMO Consumer Protection
Provisions: The Best from the States. Part I. Families USA Web, March 1997. (Hereafter
cited as Families USA Foundation, 1997)
NAIC, Model HMO Act, Section 7, Quality Assurance Program.
a summary of its quality assessment and improvement programs in its marketing
materials and in the certificates of coverage issued to enrollees. Certain findings
from the carrier’s quality assessment and improvement programs would have to be
made available to providers and enrollees, and enrollees would have to be given an
opportunity to comment on the carrier’s quality improvement process. The Act
advises states that they may wish to consider accreditation by a nationally recognized
accrediting entity as evidence of meeting some or all of the Act’s requirements.46
Another issue relates to the use of MCOs of financial incentive arrangements to
encourage providers to hold down utilization of services. The Network Adequacy
Model Act (described above) provides that a carrier cannot offer an inducement under
the plan to a provider to provide less than medically necessary services to a covered
State Laws. Forty-two states require HMOs to develop and implement a quality
assurance plan; about one-half of these states stipulate what HMOs must include in
their plans. Consumer advocates have identified Minnesota, Maine, and New Jersey
as having the “most carefully crafted quality assurance requirements.”47 As of
August 1997, six states prohibit the use of physician financial incentive arrangements
(California, Connecticut (relating only to utilization review companies), Maryland,
Louisiana, Nevada, and Texas).48 For example, the Maryland statute prohibits the use
of withhold arrangements in which a health plan holds back from participating
physicians a certain amount which is then only paid if referral services do not exceed
some preestablished threshold.49 Ten states require that the use of physician
incentive arrangements be disclosed (Arkansas, Colorado, Georgia, Louisiana,
Minnesota, Rhode Island, Tennessee, Vermont, Virginia, and Washington.) In some
cases (e.g., Colorado), the state law requires that the information be disclosed on
request. In others (Louisiana), the disclosure of such arrangements must be made
annually to every subscriber, enrollee, and participating provider.)
Protection Against Insolvency.
NAIC. The NAIC HMO Model Act requires that before issuing any certificate
of authority, that the state regulator require that the HMO have an initial net worth
of $1.5 million and will thereafter maintain a net worth equal to the greater of:
(a) $1 million;
(b) 2% of annual premium revenues on the first $150 million of premiums and
1% of annual premium on the premium in excess of $150 million;
(c) an amount equal to 3 months uncovered health care expenditures;
NAIC, Model Regulation Service. Quality Assessment and Improvement Model Act,
Families USA Foundation, 1997.
Personal communication with American Association of Health Plans, September
Families USA Foundation, 1997; also U.S. Library of Congress. Congressional
Research Service. Managed Health Care: The Use of Financial Incentives. CRS Report
97-482, by Jason Lee and Beth C. Fuchs, April 21, 1997. Washington, 1997.
(d) an amount equal to the sum of 8% of annual health expenditures except
those paid on a capitated basis or managed hospital payment basis and 4% of
annual hospital expenditures paid on a managed hospital payment basis.
Under the HMO Model Act, each HMO has to deposit a specified amount
(generally $300,000) with a trustee or other entity acceptable to the state regulator.
This amount is intended to protect the HMO’s enrollees and to assure continuation
of services in the event that the organization runs into financial difficulties.
The HMO Model Act also requires that every contract between an HMO and a
participating provider be in writing. The HMO must ensure that in the event that it
fails to pay for services, the subscriber or enrollee is not liable to the provider for any
amounts owed by the HMO. This is known as a hold harmless provision. The Act
further requires that each HMO have a plan for handling insolvency which allows for
an enrollee’s continuation of benefits for the duration of the contract period. If an
HMO’s uncovered expenditures50 exceed 10% of total health expenditures, it is
required under the model Act to deposit into a trust or approved account an amount
equal to 120% of the HMO’s outstanding liability for uncovered expenditures for
enrollees in the state.
In addition, the HMO Model Act provides that in the event of an HMO
insolvency, that other insurance carriers that participated in the enrollment process
with the insolvent HMO be required by the state regulator to offer to the group’s
enrollees a 30-day enrollment period commencing on the date of insolvency. The
carriers would have to offer the same coverage and premium rates that it had offered
to enrollees of the group at its last regular enrollment period. If no such carrier
existed, then the regulator would equitably allocate the insolvent HMO’s enrollees
to HMOs within the same service area. These HMOs would have to offer as similar
coverage as possible but at rates consistent with the successor HMO’s existing rating
methodology. Successor HMOs could not deny benefits to an enrollee based on a
preexisting medical condition.
Finally, the HMO Model Act provides that some states may want to adopt a
mechanism to assess each HMO doing business in the state up to 2% of its premium
to cover the claims for uncovered expenditures for enrollees of insolvent HMOs.
This assessment could also be used to provide for the continuation of coverage for
those enrollees not otherwise helped by the continuation measures described above.
It should be noted that under the Federal HMO Act of 1973, a federally qualified
HMO (and an HMO that has received federal financial assistance under Title XIII of
the PHS Act) is exempt from state solvency and capitalization standards that would
prevent it from operating in accordance with the HMO Act. In other words, if such
a state law were inconsistent with federal law, the state law would be overridden or
The NAIC Model HMO Act defines “uncovered expenditures” as the costs to the
HMO for health care services that are the obligation of the HMO, for which an enrollee may
also be liable in the event of an HMO’s insolvency and for which no alternative
arrangements have been made that are acceptable to the state regulator.
preempted. It appears that most state laws are, in fact, consistent with the solvency
provisions of the HMO Act. In only a few states are the laws such that a question
might arise. Such a state might, for example, apply to HMOs the reserve and
capital requirements of indemnity insurers instead of applying separate HMO
As noted earlier, the NAIC is close to finishing work on a model act for
regulating the capital needs of an insuring entity, officially called the Health
Organizations’ Risk-Based Capital Formula. This model standard, which is due to
be voted on by the NAIC either late 1997 or early 1998, is designed to provide a
uniform model act for capital requirements for all health care entities that take on
risk, including HMOs, provider sponsored organizations (PSOs), and traditional
A major reason for developing the risk-based capital standard is that traditional
capital/solvency requirements have not recognized some of the assets that may be
held by the newer forms of MCOs. For example, a PSO that includes a hospital, may
have substantial assets in real property (so-called "bricks and mortar"). It may also
have a substantial asset in its group of affiliated physicians and its other health care
The formula being developed will set capital requirements specific to the risk
borne by the insuring entity and will address five major risk elements:
affiliated investment risk — the risk of ownership of affiliated entities to the
managed care entity (if applicable);
asset risk — the risk that existing assets will decline in value;
underwriting (insurance) risk — the risk of errors in assumptions used in
determining premium or capitation rates or deviations between assumptions and
experience in payment of medical expense;
credit risk — risk that parties with which the managed care organization (MCO)
enters contractual arrangements will not fulfill their obligations, a risk common
to all types of businesses; and
general business risk — such as risk of overruns in administrative expenses,
also common to all businesses.
These factors would then be assessed based upon the arrangements under which the
health care is delivered and paid for. For example, if the financial risk for delivering
Whether such a law is “potentially inconsistent with Section 1311(a)(1)(d) [of the
HMO Act] has not been established.” See: Aspen Systems Corporation, State Regulation
of Health Maintenance Organizations, 1996.
the service is passed on to providers through contractual arrangements, then the entity
would be permitted to have less capital.52
State Laws. About 14 states have adopted the NAIC reserve and capital
requirements by law or regulation, although these states vary in the application of the
requirement. Other states generally require HMOs to comply with specific reserve
standards -- higher or lower-- that differ from those of the NAIC.53
NAIC. The NAIC HMO Model Act requires that the HMO establish and
maintain a grievance process that has been approved by the state insurance regulator.
The HMO is required to maintain records regarding grievances which would be
subject to examination by state regulators.
The NAIC Health Carrier Grievance Procedures Model Act contains more
developed standards for internal grievance procedures to be used by carriers.54
Carriers are required to file annually with the state regulator a certificate of
compliance stating that the carrier had grievance procedures that fully comply with
these standards. Grievance procedures have to be disclosed in materials provided to
covered persons. Every carrier has to provide for an initial level of grievance review
in which covered persons could seek to reverse the plan’s decision, such as a decision
not to cover or pay for a specific procedure. The covered person can appeal an
adverse decision by initiating a second level of review. A majority of the individuals
reviewing the grievance in this instance has to be health care professionals with
appropriate expertise. In cases involving a denial of service, the reviewing health
care professional generally cannot be a provider in the person’s plan and cannot have
a financial interest in the outcome of the review. (See "Utilization Review" below.)
The time that can elapse at different stages of the grievance process is limited,
especially in the case of expedited reviews involving decisions that could seriously
jeopardize the life or health of a covered person or would jeopardize the covered
person’s ability to regain maximum function.
State Laws. All states require that HMOs have internal grievance procedures
in which a plan member can appeal a benefit denial. At least 13 states provide
specific direction on the nature of grievance procedures that should be used by
HMOs. The remaining states require procedures for resolving grievances but
“provide little direction” on what the grievance system should include.55 Many states
also regulate utilization review firms and require processes by which providers (e.g.,
Bureau of National Affairs. Plan Regulation NAIC Approves Health Organization
Risk-Based Capital Formula for Testing. Managed Care Reporter, v. 3, no. 25, June 18,
Aspen Systems Corporation, State Regulation of Health Maintenance Organizations,
National Association of Insurance Commissioners. Model Regulation Service.
Health Care Grievance Procedure Model Act. October 1996.
Families USA Foundation, 1997.
hospitals and physicians) and plan members can appeal adverse decisions.56 (See
"Utilization Review" below.) Members of HMOs who are not participants of ERISA
plans may also be able to sue for damages under state law. Damages can include the
cost of the service as well as consequential costs (such as lost wages) and noneconomic costs (such as pain and suffering). They may also include punitive
Participants in health plans that are ERISA plans (private-sector, employee
benefit plans) are not able to resolve grievances about claim denials through state
remedies. This is the case regardless of whether the ERISA plan is insured or selfinsured and is an exception to the more general interpretation of ERISA preemption
that ERISA overrides state laws regulating employer plans but not the plan that the
employer buys from an insurer. Denial of access to state courts and remedies for
ERISA participants was determined in Pilot Life Insurance Co. vs. Dedeaux, in
which the U.S. Supreme Court held that ERISA preempted those state laws which
permit insurance policyholders to sue insurance carriers for damages due to the bad
faith denial of their claims.58 It held that ERISA provides that participants and
beneficiaries in ERISA plans may sue only in federal court. If successful, he or she
is due recovery for the cost of the test, procedure, or other benefit denied.
Whereas indemnity health insurance plan disputes are usually over whether a
claim should have been paid (the care having already been received), disputes
emerging in managed care arrangements are more likely to be over services that may
not have been provided or about a referral to a specialist that was not allowed. Such
denials may be made on the basis that the service or referral in question was not
medically necessary, or because the treatment was considered experimental. The
federal courts seem to be moving in the direction of distinguishing between whether
the dispute is over quantity or quality of services. In several cases decided over the
past 2 years, the courts have said that ERISA gives employers substantial discretion
to determine what benefits they should include under their health plan. However,
issues of quality, such as failing to check on a doctor’s background, or negligently
delaying needed care, are not covered by ERISA.59 Therefore, state remedies may be
Medical societies, trial lawyers, and consumer groups have been pressing for
state legislation to hold MCOs responsible for negligence and poor quality of care
that will survive ERISA preemption challenges. For example, such proposals would
hold a health care organization liable for the harm (personal injury or death) it causes
when it delays, denies, or fails to provide health care it is contractually or legally
obligated to provide. In May, 1997, Texas became the first state to enact a law that
holds MCOs liable for medical decisions affecting a patient’s health. A MCO whose
doctor or other provider causes harm to a patient by failing to exercise "ordinary
Butler, et al., Private-Sector Health Coverage, p. 48.
Pilot Life Insurance Co. vs. DeDeaux, 481 U.S. 41 (1987).
Bills in Five States Would Make HMOs Liable in Patient Lawsuits over Quality of
Care. State Health Watch, March 1997. p. 1, 8.
care" in making treatment decisions can be sued for malpractice. Plaintiffs have to
exhaust the MCO’s internal appeals and grievance procedures before filing suit In
June 1997, Aetna Health Plans of Texas sued in federal court in Houston to block the
provision, arguing that it was preempted by ERISA because it improperly interferes
with the administration of employee benefit plans.60 Employers and MCOs, more
generally, are concerned that the ERISA protections against liability will be eroded,
thus exposing them to significant and costly litigation. However, the larger public
policy question may be to what extent is an MCO merely administering a plan for an
employer group health plan or is it influencing the medical treatment provided to the
NAIC. The NAIC HMO Model Act does not include any specific requirements
relating to utilization review. Its new Utilization Review Model Act61 requires health
carriers that provide or perform utilization review to file certain information about
utilization review with the state insurance regulator and satisfy other disclosure
requirements. It would need to implement a written utilization review program that
describes all review activities, including procedures to evaluate the clinical necessity,
appropriateness, efficacy, or efficiency of health services and data sources and
clinical review criteria used in decision-making. The carrier would be prohibited
from using incentives, direct or indirect, to encourage utilization reviewers to make
inappropriate review decisions. Compensation is not allowed to be based on the
quality or type of adverse determinations that reviewers render. In addition, the
carrier would have to follow specific procedures in responding to requests from
providers and patients for reconsiderations and appeals.
Perhaps one of the most important areas covered by the Utilization Review
Model Act relates to emergency care services. Consumers have sometimes found that
their managed care plan refuses to pay for services sought from a hospital emergency
room because in the view of the plan reviewers, there was no actual medical
emergency. The Utilization Review Model Act requires a carrier to cover emergency
services necessary to screen and stabilize a covered person, without prior
authorization from the plan if a “prudent layperson” acting reasonably would have
believed that an emergency medical condition existed. Also, a covered person could
obtain from a non-contracting provider within the carrier’s service area those
emergency services needed to screen and stabilize the person, without prior
authorization, if a prudent layperson believed that using a contract provider would
cause a delay worsening the emergency or if a provision of federal, state, or local law
required the use of a specific provider.62
Corporate Health Insurance Inc. vs. Texas Department of Insurance, DC (Texas,
No. H-97-2072), filed June 16, 1997. For additional information on this issue, see Coleman,
David L. Crushing Your Health Plan’s Legal Protection. Business and Health, August
1997. p. 40-46.
National Association of Insurance Commissioners. Model Regulation Service.
Utilization Review Model Act. October 1996.
State Laws. Some states authorize judicial review of utilization review
decisions.63 Numerous states have acted to expand access to and provision of
emergency services consistent with the NAIC Utilization Review Model Act. For
example, some states prohibit plans from requiring authorization prior to the delivery
of emergency services; some have adopted the prudent layperson standard; and some
require payment for initial screening and stabilizing treatment in an emergency room.
A few states go further. At least two states have provisions to ensure specialty and
post-stabilization care in the emergency room.64
Additional State Laws. Numerous additional aspects of managed care are
regulated under state law. These range from narrowly targeted laws, such as laws
requiring that health plans pay for a minimum of 48 hours of inpatient hospital care
following a mastectomy to those that incorporate a wider range of consumer
protections and requirements relating to provider participation in a plan’s network.
Table 1 provides in summary form information on which states have enacted
certain managed care laws. The data for the table were provided by the Health Policy
Tracking Service of the National Conference of State Legislators.65 A short
description of the laws included in the table follows:
Hospital length of stay for mothers and newborns: This provision was a reaction
to the perception that new mothers and their infants were being discharged
prematurely from hospitals after childbirth because insurers would pay for no more
than a 24-hour stay. Most of the state laws allow an "attending provider" (varying
in definition), in consultation with the mother, to determine what length of stay is
most beneficial. However, if a longer stay is determined to be needed, the law
requires insurers to pay for coverage for at least 48 hours of inpatient hospital care
following a normal vaginal delivery and 96 hours following a Caesarean section. A
federal law was enacted as part of P.L. 104-204 in 1996 which is similar.66
Hospital length of stay for mastectomies: This is a relatively new requirement
on MCOs and other insurers similar to the provisions passed at the state and national
level to mandate a minimum length of inpatient hospital stay for new mothers and
their children. A typical state statute requires that insurers provide coverage for a
defined minimum number of hours (ranging from 24 to 100) of hospital care
following a mastectomy. It may also require that there be a minimum hospital stay
after a lymph node dissection. Exceptions are provided in cases where a physician
in consultation with a patient determines that a shorter length of stay is appropriate.
Some statutes require coverage of home care if a shorter length of stay is provided.
Furrow, Barry R., et al. Health Law. St. Paul, MN, West Publishing Co., 1995. p.
Families USA Foundation, Families USA Web (www.epn.org/families/hmostate).
Health Policy Tracking Service. National Conference of State Legislatures.
Washington, D.C. Unpublished memoranda, 1997.
Kearney, Hospital Length-of-Stay for Obstetrical Care, 1996.
Any willing provider (AWP): A typical state requires an MCO to contract with
any providers who are willing to meet the terms and conditions of the MCO’s
contract. Many state AWP laws apply only to pharmacies; a few apply only to other
types of non-physician providers such as chiropractors and allied health
Freedom-of-choice: This provision states that an MCO or health insurer cannot
limit an enrollee’s choice of provider. The provision is often combined with an any
willing provider clause. Together, the provisions may specify that the MCO or health
insurer cannot prohibit or limit an enrollee who is eligible for reimbursement for
specific services from selecting a provider of his or her choice if the provider has
agreed to the plan’s terms and conditions. Some state laws apply to specific
providers, such as pharmacists, chiropractors, or allied health professionals. One
state, New Mexico, provides any person the right to exercise full freedom of choice
in the selection of any licensed doctor of oriental medicine for treatment within
his/her scope of practice.
Direct access to obstetricians and gynecologists: The provision gives women
enrolled in managed care plans direct access to these specialists by either not
requiring the woman to first get a referral from a primary care physician or by
allowing a woman to designate an obstetrician or gynecologist as her primary care
physician. These requirements target managed care plans that use primary care
physicians as "gatekeepers" for access to the services of specialists.
Ban on gag clauses: The provision prohibits the use of gag clauses by MCOs
in contracts with providers to restrict them from discussing treatment options with
their patients. The states listed in Table 1 have enacted laws that broadly prohibit
a plan from refusing to contract, terminating a contract, or financially penalizing a
provider for such communication. Some state laws are very specific about the
content of the communication; others just refer to communication about treatment
Comprehensive Consumer Protection Acts: Some states have enacted laws that
are based on model laws developed by the American Medical Association or by
consumer organizations. These concern a range of managed care issues, such as
access, choice, benefits, quality, utilization review, procedural protections for
physicians and the disclosure of plan information. The laws reflected in Table 1
significantly vary in scope, from those that address only a few issues (e.g., disclosure
of certain information, freedom of choice of providers, and a ban on gag clauses) to
those that address the organization, delivery, and quality of the care provided by the
Table 1. Selected State Managed Care Legislative Strategies
(35 laws +
24 states (23
laws + 1
Ban on gag
(37 laws +
30 states (28
laws + 2
Ban on gag
Rx, and other
Ban on gag
Health Policy Tracking Service. National Conferences of State Legislatures. Washington, D.C. Unpublished memoranda/tables, 1997.
Allied = allied health professionals (e.g., providers such as optometrists, podiatrists, and chiropractors)
Broad = broad array of health care providers (e.g., physicians, hospitals, pharmacies, chiropractors, etc.)
Eye = eye care
MD = physicians
Rx = pharmacies
OB = obstetricians/gynecologists
This report has sought to introduce the reader to the issues related to the current
regulation of managed health care. Whether additional federal or state regulation is
desirable or needed is likely to be an agenda item for the 105th Congress. As of
October of 1997, a few congressional committees have announced plans to hold
hearings and review pending managed care proposals.
In the event that Congress decides to tackle this issue, a first order question will
be whether additional regulation is needed. Some may conclude that the market is
better suited to weeding out MCOs that do not meet consumer demands for
affordable, accessible, and high quality health care than is government regulation.
Or, some may decide that the managed care industry’s efforts to police itself will
provide consumers and providers with sufficient protection.67 For those who decide
that regulation is necessary, opinions may be divided over whether the federal
government or the states is the more appropriate locus for such regulation.
Should Congress decide to consider new federal regulations on managed care,
it will be able to draw on the substantial experience of the states in regulating HMOs
and to a lesser extent, other types of managed care arrangements. One of the major
challenges, however, will be the regulatory treatment of managed care plans
sponsored by employers. Many in Congress are reluctant to impose new
requirements on employer plans, mindful of the concerns of business about the
financial and administrative burdens that such requirements can entail. And perhaps
most difficult will be resolving what to do when new federal law conflicts with
existing state law. Should, for example, state laws be preempted thereby providing
for uniform, national regulation? Or should state laws that are similar to or more
protective of consumer and provider rights be allowed to apply? These and similar
issues are likely to be hotly debated.
In 1996, the American Association of Health Plans (AAHP), which is the national
trade organization representing over 1,000 managed health care plans, initiated Putting
Patients First "to improve communication with patients and physicians: to make clear that
the AAHP and its member plans are listening to the concerns of patients and physicians and
acting to meet their needs; and to demonstrate AAHP member plans’ commitment to higher
standards of accountability." In 1997, the membership of the AAHP voted to require health
plans joining or renewing membership in the association to uphold the Putting Patients First