The Entrepreneur and the Specter of Health Care

How reform will affect small employers Trey Swacker

As the federal government debates the health care system in the United States—specifically the future of the Affordable Care Act (ACA)—the majority of media coverage and attention has focused on the uncertain future of the individual market. This article shines the spotlight on the potential impacts health care reform may have on the small employer market.

Current Environment

As we think about the small employer market, it is important to understand the context of the current environment. During the past few election cycles, politicians increasingly have focused on small employers. Both political parties speak positively about the impact their policy proposals would have on this community, and both parties claim to seek to reduce taxes and compliance issues that many small employers consider burdensome.

It is also important to look at historical coverage trends to understand the small employer market. Figure 1 summarizes data on small employers from the U.S. Census Bureau. In this chart, small employers are classified as having fewer than 100 employees, and large employers have 100-plus employees. Sole proprietorships are excluded from the analysis, and small employers are reclassified as large employers as employment levels cross the 100-person threshold.

Figure 1: U.S. Employment Statistics
Employment (in Millions) by Employer Size Change in Employment
Year <100 Employees <100 Prior Year 100-Plus Employees <100 100-Plus
2010 39.1 M 72.8 M
2011 39.1 M 0.7 M 73.6 M 1.8% 1.3%
2012 39.8 M 1.1 M 75.1 M 4.4% 2.2%
2013 40.2 M 0.9 M 77.2 M 3.3% 2.0%
2014 40.8 M 0.8 M 79.4 M 3.7% 2.4%

Source: Statistics of U.S. Business. United States Census Bureau. February 2017.

In spite of the employment growth with small employers, there has been a decline in the number of individuals enrolled in small employer group health policies.

Figure 2 is based on aggregated data from the National Association of Insurance Commissioners (NAIC) Supplemental Health Care Exhibits filed annually by health insurance issuers. For this analysis, the definition of small employer varies by state.

Figure 2: Small Employers in the Insured Market

The primary observation is that fewer small employers are offering fully-insured medical coverage to their employees. These employers have either chosen to self-insure their coverage or drop coverage altogether.

Based on data from the Medical Expenditure Panel Survey (MEPS),1 there was not a statistically significant uptick in the number of small employers choosing to self-insure at least one of their medical plan options between 2013 and 2015. Therefore, it appears that the drop in fully-insured coverage is primarily because of employers dropping coverage while not offering any alternatives. This is supported by the MEPS data, which highlights a drop in the percentage of employees working at firms offering health insurance (53.1 percent of small firms offered coverage to their employees in 2013, compared to 47.6 percent in 2015). See Figures 3 and 4 for more data from the MEPS.

Figure 3: Percentage of Private-Sector Employees in Establishments That Offer Health Insurance, by Firm Size, 2003–2015
Number of Employees 2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015
United States 86.8% 86.7% 86.9% 86.9% 87.7% 87.6% 86.5% 85.3% 84.7% 84.9% 83.2% 83.8%
<50 61.6% 61.0% 62.2% 61.2% 61.6% 59.6% 57.8% 54.7% 52.9% 53.1% 49.8% 47.6%
50–99 86.7% 88.0% 86.2% 87.6% 90.7% 89.6% 87.3% 85.6% 84.1% 87.0% 83.0% 85.3%
100+ 97.9% 98.2% 97.5% 97.7% 98.2% 98.8% 98.5% 98.1% 98.2% 98.0% 97.3% 98.8%

Source: Medical Expenditure Panel Survey–Insurance Component, private-sector establishments, 2003–2015.
Note: Medical Expenditure Panel Survey–Insurance Component estimates are not available for 2007.

Figure 4: Percentage of Private-Sector Establishments Offering Health Insurance That Self-Insure at Least One Plan, Overall and by Detailed Firm Size, 2003–2015
Number of Employees 2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015
United States 32.4% 35.0% 32.7% 34.4% 34.2% 35.1% 35.8% 36.9% 37.2% 37.6% 37.2% 39.0%
<10 12.4% 13.7% 12.7% 14.9% 14.0% 14.6% 13.1% 12.6% 14.9% 15.2% 14.4% 15.8%
10–24 11.3% 12.7% 11.2% 11.6% 11.1% 10.4% 11.6% 9.9% 10.7% 9.0% 12.0% 10.6%
25–99 12.7% 13.9% 12.2% 13.5% 12.6% 13.4% 14.3% 12.2% 13.5% 12.4% 12.2% 13.7%
100–999 33.5% 31.8% 34.9% 30.6% 32.7% 29.9% 30.9% 31.7% 30.1% 30.1% 32.5% 33.7%
1,000+ 83.2% 87.0% 82.7% 83.8% 86.5% 85.8% 86.6% 87.5% 87.1% 88.0% 84.2% 83.8%

Source: Medical Expenditure Panel Survey–Insurance Component, private-sector establishments, 2003–2015.
Note: Medical Expenditure Panel Survey–Insurance Component estimates are not available for 2007.

The Impact of the ACA

The ACA affected the small employer market in many ways. It established that the new rating principles and coverage requirements for fully insured policies issued in the individual market also applied to the small employer market. Namely:

  • Health insurance policies must cover essential health benefits2 and provide coverage levels in defined metallic tier categories.3
  • Policies are guaranteed issue and guaranteed renewable.
  • Benefit exclusions or premium increases are not allowed for pre-existing conditions.
  • Rates can vary only based on three criteria:
    • Age
    • Location
    • Tobacco status

The impact these provisions had in the small employer market varied at the state level. Some states had already instituted rules prohibiting medical underwriting, community rating by class and mandated benefit coverage. Many small employers also chose to keep their current plans in states that allowed “grandfathering” and “grandmothering” of benefits. Grandfathered plans (in place prior to March 2010) can maintain pre-ACA coverage provided there are no substantial changes to benefits or cost-sharing. Grandmothered plans (in place prior to 2014) would include ACA coverage mandates but not the small employer rating reforms.

The ACA also introduced a small business tax credit—which was only available to small employers (defined as having fewer than 25 full-time equivalents [FTEs]) who purchased health coverage on the Small Business Health Options Program (SHOP) marketplace. To become eligible, conditions included that these employers paid less than $50,000 in average wages and contributed at least 50 percent of the cost of the employee’s coverage (excluding spouses and dependents). The Government Accountability Office released a report in March 20164 noting that use of this tax credit has been limited due to a number of factors: awareness of the credit, complexity to claim, too few employers qualify and the maximum amount of the credit was too low. In 2014, 181,000 small employers claimed this credit out of an estimated 1.4 million to 4 million eligible employers.

The employer mandate under the ACA only applies to large employers. However, small employers must complete additional reporting to demonstrate compliance. Each year, small employers must certify that they continue to qualify as a small employer, and this is now defined as having fewer average full-time equivalent employees in the prior year than the threshold for large employer status. This threshold remains at 50 employees in most states, though New York and Colorado proceeded with moving the definition up to 100 employees.

What has changed since the passage of the ACA?

The 21st Century Cures Act

The 21st Century Cures Act, passed in December 2016, codified an exception from group health plan requirements for small employer health reimbursement arrangements.5 Previously, technical guidelines issued by the Internal Revenue Service (IRS) and the Department of Labor did not allow contributions to qualified health reimbursement accounts to fund the purchase of an individual policy on a pre-tax basis.

This change allows small employers the opportunity to fund health reimbursement accounts (HRAs) for their employees, up to $4,950 per individual or $10,000 per family in lieu of subsidizing premiums for a health plan. Employees could use the money in the HRA for payment, or reimbursement, of eligible expenses of medical care. Additionally, employees could use the funds as premiums to purchase a plan on the individual market.

If the small employer utilizes the HRA funding approach, it has satisfied the ACA provision of offering affordable coverage, provided that the incremental cost to the employee for the second-lowest silver plan in the individual market does not exceed 9.5 percent of the employee’s household income.

Any income-based premium assistance that the employee may be eligible for in the individual market will be offset by the amount the employer contributed to the HRA. Since the 21st Century Cures Act became law in December 2016—after the majority of employers had already purchased policies for 2017—it is unclear how many small employers will ultimately opt to offer this “defined contribution” approach. Furthermore, the value to the employees will vary greatly by state depending on insurer participation and premium levels in the individual market. For example, in 2017, a 40-year-old employee with earnings more than 400 percent of the federal poverty level (FPL) would need to pay $6,800 for the second-lowest silver plan in Charlotte, North Carolina. But the second-lowest cost silver plan available to this individual in Cleveland, Ohio, would cost $2,700 annually.6

Pending Legislation

There are three pieces of legislation that have passed the U.S. House of Representatives that could ultimately affect small employers, either directly through passage, or indirectly via influencing elements of future legislation. These are:

  • Self-Insurance Protection Act (H.R. 1304)
  • Small Business Health Fairness Act (H.R. 1101)
  • American Healthcare Act/A Better Care Reconciliation Act (H.R. 1628)

The Self-Insurance Protection Act

The Self-Insurance Protection Act, which passed the House on April 5, 2017, by a vote of 400–17, clarifies the Employee Retirement Income Security Act of 1974 (ERISA) pre-emption for employers that self-insure their health coverage and purchase stop-loss protection.

What this means is that stop-loss coverage would be excluded from the federal definition of health insurance coverage. Thus, states could not directly regulate this coverage if it is pre-empted by ERISA. Periodically the ERISA pre-emption has been challenged in courts, though it generally has been upheld to date. For example, a Vermont law that attempted to compel self-insured plan sponsors to report claims to an all-payer claim database was successfully challenged in the courts.7 However, a Michigan law imposing a 1 percent tax on benefits paid under a self-insured plan was allowed to stand on the grounds that ERISA does not pre-empt health care claims tax law.8

While the legislation essentially codifies practices that have been upheld to date by the legal system, there are no provisions in the bill that hinder a state’s ability to establish minimum parameters under which stop-loss policies may be issued in the state.

The concept of establishing minimum thresholds for stop-loss coverage ensures that small employers (or any size employer for that matter) cannot purchase excessively rich policies so that all of the medical claim risk essentially is covered by the stop-loss policy. Because stop-loss insurance is not regulated as health insurance, implementing threshold limits would ensure that employers are bearing a meaningful amount of the claim risk when self-funding their benefit plans. The NAIC has developed a model act9 to recommend minimum parameters for stop-loss policies. Milliman conducted an analysis of these parameters,10 and they found that at a $20,000 individual attachment point, approximately 50 percent of an employer’s expected claims in a bronze plan would be covered under the stop-loss policy.11

The Department of Labor clarified state regulation of stop-loss insurance in a 2014, noting that “a state law that prohibits insurers from issuing stop-loss contracts with attachment points below specified levels would not, in the department’s view, be pre-empted by ERISA.”12 To date, 10 states have adopted versions of the NAIC’s Stop-Loss Insurance Model Act, and other discussions are underway:

  • Connecticut has proposed legislation codifying the NAIC Stop-Loss Insurance Model Act (already adopted via a bulletin) and limiting the insurance commissioner’s ability to further regulate stop-loss policies.
  • The Maine Legislature received a proposal to prohibit the sale of stop loss insurance to small employers, though it did not make it through committee.
  • New York has commissioned an actuarial study on the effects of allowing 51–99 groups to continue to offer self-funded benefits, as stop-loss insurance is not currently permitted in the small employer market (the definition moved up to 100 FTEs as of 2016).

The Small Business Health Fairness Act

The Small Business Health Fairness Act, which passed the House on March 22, 2017, by a generally partisan vote of 236–175, addresses the distinction that ERISA makes between multiemployer plans and multiemployer welfare arrangements (MEWAs). Multiemployer plans (also called Taft-Hartley plans) are collectively bargained and usually sponsored by a union. Multiemployer plans are covered by ERISA pre-emption. Thus, plan sponsors who choose to self-insure can offer consistent benefits to their employees across state lines.

MEWAs are non-collectively bargained plans maintained to benefit employees of two or more employers. ERISA was clarified in 1980 to exclude MEWAs from pre-emption. MEWAs that self-insure their health insurance coverage are still subject to all state insurance laws. MEWAs that fully insure their health insurance coverage are still subject to state laws that govern minimum reserve and contribution levels.

H.R. 1101 also outlines a definition of association health plans (AHPs) and amends ERISA to recognize AHPs as employee benefit plans that pre-empt state regulation of insurance. It also lays out provisions to establish federal solvency standards. These provisions would enable small employers to form an AHP that can offer benefit plans similar to what large employers currently are able to offer (on either a fully-insured or self-insured basis). If an AHP wants to purchase a fully-insured policy, insurance carriers may still be leery of their ability to project the underlying costs of the AHP due to potentially higher churn of membership (employers may still choose whether or not to purchase benefits through the AHP). Consumer advocacy groups have come out against this bill due to concerns that the small employer fully-insured risk pool would be adversely affected.

Under the bill, AHPs also would be able to self-fund their health coverage in order to have further flexibility in their plan designs, enabling them to offer consistent benefit options to employers across multiple states.

H.R. 1101 did not specifically address a key Republican proposal, Sales Across State Lines; however, the bill could be considered a litmus test for this broader issue. Sales Across State Lines likely would have a more immediate impact on risk pools in states that have more comprehensive benefit mandates, as employers could purchase plans with less comprehensive coverage from other states. H.R. 1101 could create situations where small employers with a shared interest of offering a different health benefit package to their employees could band together and leverage an AHP as the purchasing vehicle, potentially domiciled in a different state. This is unlikely to have a significant impact on the small group insured risk pool, as AHPs weren’t a common purchasing vehicle prior to the ACA.

The American Healthcare Act/A Better Care Reconciliation Act

With the passage of the AHCA on May 4, 2017, by a vote of 217–213, the future of the small employer insurance market is less certain. The MacArthur amendment that ultimately led to the bill’s passage creates a great deal of uncertainty at the state level. The amendment gave states the option to define their own minimum coverage levels as well as further flexibility in rating factors. This could have a destabilizing effect on the market if other legislation to allow sales across state lines is enacted.

At the moment, any federal legislation appears stalled, as the Senate was unable to pass its reform bill (A Better Care Reconciliation Act), and even the amendments—commonly referred to as the skinny repeal bill—to roll back the individual and employer mandates were voted down on July 27, 2017.

Although the bill’s future is uncertain, it is useful to review changes proposed at the federal level that will affect small employers. These are:

  • Removal of the small business tax credit
  • Increased contribution limits for health savings accounts (HSAs) and flexible spending accounts (FSAs)
  • Delay of the Cadillac tax until 2025

The removal of the small business tax credit will have a relatively modest impact in the overall market. Recall that the tax credit was only available to employers that purchased coverage on a SHOP exchange, had fewer than 25 FTEs and had average wages of $50,000 or less. In 2014, actual claims for this tax credit totaled $541 million, less than 1 percent of the premium paid in the small group market in that year.13

The increase in contribution limits for HSAs and FSAs open up more options for small employers to transition their employee benefit strategy to higher deductible health plans. For example, small employers may be more willing to offer high-deductible health plans (HDHPs) exclusively to their population knowing that contributions to these accounts can be as high as the benefit plan’s out-of-pocket maximum.

In the Senate version (which has stalled at the time of writing), the bill goes further to state that HSAs can be used to purchase premiums. Employers could make direct contributions to these savings accounts on a pre-tax basis (similar to qualified small employer HRAs outlined in the 21st Century Cures Act) to keep their overall spend on health benefits consistent, but this does shift more of their health benefit dollars to a defined contribution instead of a defined benefit.

From an employer perspective, shifting benefits to HSA or HRA plans could reduce premiums if they previously offered more generous benefits. The impact on the employee side is mixed. For higher-compensated employees who can take advantage of an HSA as a savings vehicle, this opens up an option to save for future health care costs on a pre-tax basis. For employees who are unable to take advantage of the additional savings, the deductible and out-of-pocket levels of the benefit plan may be unaffordable.

Under the AHCA, the Cadillac tax is delayed until 2025. But at the earliest, it won’t be implemented before 2020. If this excise tax is ultimately delayed or repealed, employers may not move as aggressively to a defined contribution strategy to avoid hitting benefit levels that would trigger the excise tax. It is possible that the Cadillac tax could be delayed outside of a broader package of reforms, as a two-year delay to 2020 was implemented under the Obama administration. If there are no changes to the current law, a 40 percent excise tax on employer plans valued at more than $10,200 for an individual and $27,500 for families will commence in 2020. This could trigger changes to benefits for a significant number of employers in the small group market. In 2015, the average employee-only premium in the fewer than 50 employees market was $5,947 per year, and the 75th percentile premium was $7,200.14 If premiums trend up 7.2 percent per year between 2015 and 2020, plans above the 75th percentile would trigger the excise tax.


While there are several potential reforms to keep an eye on at the federal level, health care is also a significant issue that is affected by reforms at the state level. How states react to federal legislation and how states seek to regulate their markets will be important factors for the small employer market in 2018 and beyond.

Trey Swacker, FSA, MAAA, is the head actuary for Joint Ventures at Aetna in Hartford, Connecticut. He has more than 15 years of experience as a health plan actuary leading pricing and reserving processes for commercial individual, small group and large group business. He is a graduate of Bellarmine University in Louisville, Kentucky.