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D A T A W A T C H : 
R E T I R E E  B E N E F I T S
W E B  E X C L U S I V E   

14 January 2004  
  

Large Firms’ Retiree Health Benefits 
Before Medicare Reform: 
2003 Survey Results

The drug benefits large employers now offer to Medicare-eligible retirees are
much more generous than those Medicare will offer under the new legislation.

by Frank B. McArdle, Patricia Neuman, Michelle Kitchman, Kerry Kirland,
and Dale Yamamoto

ABSTRACT:

This survey of large, private-sector employers offering retiree health benefits in 2003 provides a detailed baseline of private retiree health plans on the eve of the most sweeping changes to Medicare since its enactment. Total retiree health costs rose 13.7 percent in 2003, and average retiree contributions to premiums for employees age sixty-five and older retiring in 2003 rose 18 percent. Nearly half of surveyed employers have capped their contributions to health coverage for retirees over age sixty-five. Before passage of the new Medicare legislation, 20 percent said that they are likely to eliminate benefits for future retirees within three years.

The status of employer-provided retiree health benefits emerged as a critical issue in the recent Medicare prescription drug debate, and it remains a major concern for employers, employees, and retirees themselves. Since 1988 there has been a well-documented decline in the share of employers offering retiree health benefits, dropping from 66 percent to 38 percent in 2003.¹

The issue of retiree health benefits contributed to the final shape of the new Medicare legislation signed by President George W. Bush in December 2003. Attention to this issue was driven in part by Congressional Budget Office (CBO) initial estimates predicting that roughly a third of all Medicare beneficiaries with retiree health benefits could lose them as a direct result of the new Medicare drug benefit proposed in the House and Senate bills.² Policymakers were clearly concerned about the possibility that a new Medicare benefit would accelerate the erosion of highly valued retiree health benefits, in that employer-sponsored health benefits remain the primary source of drug coverage for the Medicare population, assisting one in three beneficiaries today.³

Given employers’ prominent role in providing needed health benefits to retirees and their dependents, the Henry J. Kaiser Family Foundation and Hewitt Associates conducted a survey of large private-sector employers to capture the latest information about costs, benefits, and trends in 2003.⁴ This paper focuses primarily on findings related to the Medicare-eligible population, given the salience of these data to the Medicare debate, although the full study provides similar data for retirees under age sixty-five. This survey, conducted during the period between passage of the House and Senate Medicare bills (27 June 2003) and passage of the final conference agreement (25 November 2003) provides a unique baseline for understanding retiree health benefits offered by large private-sector employers on the eve of Medicare reform. Although employers’ response to the new law is of substantial interest, the survey did not ask them to speculate about their responses to incentives to maintain coverage for retirees, because the survey was conducted before the final specifications were decided.⁵ How employers respond to these incentives beginning in 2006, when the new drug benefit goes into effect, is obviously of critical concern but will only become clear after employers have had sufficient time to understand and analyze the implications for their firms.

Study Data And Methods

This study reflects survey responses of 408 large private-sector employers that now offer retiree health benefits, which together represent 45 percent of all Fortune 100 companies and 30 percent of all Fortune 500 companies. The survey focuses on large private employers (firms with 1,000 or more employees) because larger employers are far more likely than midsize and smaller firms are to offer retiree health benefits.⁶ Also, prior studies by the Kaiser Family Foundation and Hewitt since 1997 have documented that this sector has been particularly dynamic and has undergone continual change in retiree health benefits, more than has been the case for public employers.⁷

The sample was drawn from a list of employers identified as potentially offering retiree health benefits, including participants in the 2002 Kaiser/Hewitt Retiree Health Survey, respondents to previous Hewitt surveys, and data from Hewitt’s proprietary client database, supplemented by other employers drawn from a public database, Standard and Poor’s Research Insight.⁸

This study is based on a nonprobability sample of large employers, because there is no sampling frame identifying all private-sector firms that offer retiree health benefits from which we could draw a random sample. Despite interest in examining trends in this area, this study does not compare 2003 findings with the results from the 2002 Kaiser/Hewitt survey. Trend analysis would not be valid given the nonrandom nature of the sample and the fact that the samples each year include different companies and different plans offered by those companies, and because sample-size constraints preclude a constant sample analysis.

Exhibit 1 presents a description of the 408 employers included in the sample. The majority of participating firms are multistate employers (90 percent) and are publicly traded (72 percent), and they represent a wide range of manufacturing (45 percent) and nonmanufacturing (55 percent) industries. Together, these companies have 8.3 million employees and 3.6 million retirees. Using typical ratios of family members to employees and retirees, the surveyed employers provide health benefits that affect the lives of approximately 20.8 million employees and dependent family members and 5.9 million retirees (both under age sixty-five and age sixty-five and older) and dependents.⁹ The employers in this sample provide health benefits to an estimated 3.9 million Medicare-eligible retirees and their spouses, representing about a third of the roughly twelve million nonfederal retirees with employer-sponsored health coverage.¹⁰

The survey was conducted between June and September 2003. Survey respondents were invited to participate via e-mail or U.S. mail and were provided a link to a Web site where they could complete the survey online and a phone number they could call to request a printed copy if they preferred. Respondents—primarily managers, directors, and analysts within the human resource and benefits departments of companies—overwhelmingly chose the online format over the hard-copy format (82 percent versus 18 percent).

Employers were asked to report premium (or premium-equivalent information for plans that self-insure) and benefit design information for the retiree health plan with the largest number of enrolled retirees available to employees who retired on or after 1 January 2003. To address the variation in retiree and employee populations among the firms in the survey, we weighted the average total premium per retiree by employer size and the number of retirees in employers’ largest plan. As a result, the premiums of larger firms with the greatest number of retirees are weighted more heavily than those of the relatively smaller firms with fewer retirees. The average percentage increase in retiree contributions between 2002 and 2003 is similarly weighted.

Study Findings

For retirees age sixty-five and older, employer-sponsored health plans serve as an important supplement to Medicare. More than half (55 percent) of surveyed firms that offer benefits to Medicare-eligible retirees provide a choice of two or more health plans, while the remaining forty-five percent of firms offer only one health plan option. Indemnity or managed indemnity plans (60 percent) are the most commonly offered plan types for Medicare-eligible retirees, followed by Medicare+Choice (M+C) or other health maintenance organization (HMO) (46 percent) and preferred provider organization (PPO) plans (39 percent).

Employers use a variety of strategies to coordinate with Medicare. The two most common approaches are known as “carve-out” and full coordination of benefits. Under the carve-out approach (used by 43 percent of surveyed employers), the plan calculates the benefit as it normally would and then subtracts or “carves out” the Medicare benefit. Retirees pay the employer plan’s deductible and cost sharing. Under the full-coordination-of-benefits approach (used by 27 percent of surveyed employers), the plan pays the difference between total health care charges and the Medicare reimbursement amount. This latter approach often provides retirees complete coverage and protection from out-of-pocket spending.

Retiree health costs. Despite employers’ concerted efforts to rein in their retiree health costs in recent years, the total cost of providing retiree health coverage continues to rise rapidly. Among the large private-sector employers surveyed, the total estimated cost (employer and retiree share) of providing health benefits for retirees both younger than age sixty-five and age sixty-five and older, and their dependents, reached $18.1 billion in 2002.¹¹

Rising costs. According to these employers, the total cost of providing retiree health benefits increased by an estimated 13.7 percent, on average, between 2002 and 2003 (Exhibit 1). This growth rate is slightly lower than the 14.7 percent average growth in the cost of providing health benefits to active workers observed in a different sample of large employers during the same time frame.¹² Based on respondents’ reported estimates of cost increases between 2002 and 2003, total retiree health costs are estimated to reach $20.6 billion in 2003 for surveyed employers.

As might be expected, retiree health costs vary widely by firm size, with an average total cost per surveyed firm of $42.8 million in 2002 (Exhibit 1). Among jumbo firms (20,000 or more employees), the average total cost of providing retiree health benefits was $156 million in 2002, and some companies in this group reported total costs in excess of $1 billion. Retiree health costs for these companies often represent a fairly large share of their total health care costs.

The costs associated with retiree health obligations are a substantial concern for employers. Ninety-two percent of respondents said that their firm’s chief executive officer (CEO) is concerned about retiree health care costs—64 percent said that their firm’s CEO is very concerned, and 28 percent, somewhat concerned. Among surveyed firms, retiree health costs represent more than a quarter of the total estimated cost of health coverage for active workers, retirees, and dependents.

Financial caps on firms’ retiree health spending. The rising cost of retiree health benefits and previous changes in Financial Accounting Standards Board (FASB) accounting rules have prompted many large employers to place caps on their future retiree health obligations. The use of caps can limit the liability of employers by requiring retirees to assume a greater share of costs if and when retiree health care spending rises above some predetermined amount. Nearly half (46 percent) of surveyed firms offering benefits to retirees age sixty-five and older report having a cap on the employer’s contributions to retiree health coverage.

Among firms that have imposed a cap on their contributions for retirees age sixty-five and older, 52 percent reported having already hit their cap and another 27 percent anticipated hitting their cap within the next one to three years (21 percent did not anticipate hitting it at all). Among firms that have already hit the cap or anticipate hitting the cap within the next year for their retirees age sixty-five and older, 67 percent said that they have held firm on the cap or intend to do so. Retirees in plans where the cap has been hit are likely to face increased retiree contributions, unless the retiree selects another plan option at a lower cost.

Premiums. Total premiums. Total premiums—the sum of employer and retiree contributions for the cost of retiree health coverage—vary across large employers. Premiums vary for a number of reasons, including years of service with the firm, year of retirement, size of employer, and types of health plans available and chosen.

For employees age sixty-five and older retiring in 2003, the weighted average total premium (employer and retiree amounts) is $212 per month for single coverage and $419 per month for retiree and spouse coverage in 2003. Premiums for new retirees age sixty-five and older are roughly half the amount for retirees younger than age sixty-five ($427 per month for singles and $845 for retiree and spouse coverage in 2003). Average total premiums for retirees age sixty-five and older are lowest for HMO/M+C plans and highest for point-of-service (POS) plans.

Retiree contribution to premium. As costs to employers have risen, so too have retirees’ direct contributions. Between 2002 and 2003 the weighted average retiree contribution to premium for new Medicare-eligible retirees increased by 18 percent. However, these increases vary greatly across firms in the survey. Fourteen percent of employers reported that their Medicare-eligible retirees faced increases exceeding 30 percent between 2002 and 2003, while 27 percent reported no change. The average annual increase was highest for 2003 retirees in HMO/M+C plans (29 percent) and lowest for those in POS plans (13 percent).

Employees age sixty-five and older retiring in 2003 contributed 39 percent of the total weighted average premium, on average. This average, however, obscures sizable variations across firms and retirees (Exhibit 2). For example, 11 percent of all employers offering benefits to Medicare-eligible retirees require no retiree contributions to premiums in their largest plan. At the other end of the spectrum, 21 percent of firms require new Medicare-eligible retirees in their largest plan to contribute 100 percent.

Retirees in smaller firms tend to pay a larger share of the premium than do those in the largest firms. For example, retirees in firms with 1,000–4,999 workers paid 44 percent of the weighted average premium, while those in firms with 20,000 or more workers paid 39 percent of the total.

On average, employees age sixty-five and older retiring in 2003 pay $83 per month for their health benefits (Exhibit 3). When we exclude firms that do not require retirees to pay any portion of the premium, the weighted average contribution for new retirees in this age group increases to $94 per month.

Contributions to premiums by new Medicare-eligible retirees also vary by firm size and type of plan. Among surveyed firms, retirees age sixty-five and older in smaller firms (1,000–4,999 employees) have higher monthly contributions than those who retired from larger firms. Those enrolled in PPOs have the highest monthly contributions, while those in POS plans have the lowest.

Retiree contributions to monthly premiums often differ based on retirees’ years of service with their company. For 52 percent of the largest retiree health plans (for those age sixty-five and older and those younger than sixty-five), retiree contributions vary by number of years of employment. Employees with fewer years of employment have larger premium contributions; those with more years of service pay less. Therefore, employees retiring in the same year and of the same ages could be subject to different contributions depending on their tenure.

Benefits and cost sharing for Medicare-eligible retirees. Cost sharing and out-of-pocket spending. To understand common cost-sharing features of retiree plans, we asked employers about the retiree health plan having the largest enrollment of retirees age sixty-five and older. More than three-quarters (78 percent) impose an annual deductible before health care expenses are covered; the most commonly observed deductibles for the largest retiree plans for those age sixty-five and older are $250 for single coverage and $500 for coverage of retiree and spouse. About six in ten employers reported that the deductible counts toward the out-of-pocket limit in their largest such plan.

About six in ten plans require coinsurance for primary care and specialty physician visits, with the most common rate being 20 percent of costs. Retirees who use out-of-network providers are more apt to pay a higher coinsurance rate; this encourages retirees to seek care from in-network providers. In contrast to Medicare, most plans have annual limits on out-of-pocket spending for Medicare-eligible retirees. The most common annual limit for the largest plan for retirees ages sixty-five and older is $1,500 for singles and $3,000 for retirees and spouses.

Prescription drug benefits. Because Medicare does not generally pay for outpatient prescription drugs—and will not do so until 1 January 2006 under the new legislation—employer-sponsored plans are the primary payer for pharmaceuticals prescribed to their retirees. Among firms offering benefits to retirees age sixty-five and older, 93 percent offer drug benefits, and most rely on pharmaceutical benefit managers (PBMs) to administer these benefits. Employer-sponsored drug benefits typically include both retail and mail-order options, although 19 percent of firms that offer drug benefits said that they have a mandatory mail-order feature.

Nearly two-thirds of the largest retiree plans with drug benefits for retirees age sixty-five and older (64 percent) reported that these benefits are subject to the overall plan design, meaning that they do not impose separate deductibles and out-of-pocket limits for drug benefits other than those noted above for other covered medical expenses. More than a quarter (26 percent) of the largest such plans have a separate annual deductible, and 15 percent impose a separate limit on out-of-pocket drug expenses. Benefit limits for drugs are uncommon: Only 8 percent of the largest plans reported a separate limit on drug benefits in 2003.

Changes in the past year. Coverage, premium contributions, and cost-sharing changes. Among large private-sector firms offering health benefits to Medicare-eligible retirees, 10 percent said that they eliminated health benefits for future retirees in the past year (Exhibit 4). In some cases, however, these firms still provide access to group coverage at the retiree’s expense. Most of these terminations affect new hires only, generally those hired after 1 January 2003. The firms that reported terminating benefits in the past year tend to be publicly traded (82 percent) and in the manufacturing sector (62 percent).

Far more common than benefit terminations are increases in retiree contributions to premiums and cost-sharing requirements. In the past year, 71 percent of all surveyed firms said that they increased retiree contributions to premiums; 53 percent increased cost-sharing requirements for retirees, and 45 percent increased retiree contributions for dependent coverage. The most prevalent cost-sharing changes were increases in physician office copayments (37 percent), deductibles (34 percent), out-of-pocket limits (29 percent), hospital copayments (26 percent), out-of-network cost sharing (20 percent), and retiree coinsurance percentages (17 percent). While most employers focused on cost-saving strategies, 12 percent of all surveyed firms said that they added or improved benefits in the past year.

Prescription drug benefit changes. Responding to sharp increases in drug costs, large private-sector employers reported making major changes to their retiree drug benefits but have not eliminated drug coverage. Less than 1 percent of all participating employers eliminated drug coverage within the past year. However, 57 percent raised drug copayments or coinsurance within the past year, and 32 percent imposed three-tier cost-sharing arrangements for Medicare-eligible retirees.

In an effort to manage use, 42 percent of surveyed firms adopted prior authorization requirements in the past year. One-fifth imposed rules related to therapeutic interchange, and 16 percent made changes requiring “step therapy,” in which patients receive progressively higher-cost treatment only if lower-cost alternatives are ineffective.

Changes anticipated in the next three years. Surveyed employers were asked about the changes they are likely to make in the next three years—again, without regard to Medicare reform. Only 2 percent said that they are very or somewhat likely to terminate all subsidized health benefits for current retirees (Exhibit 5). However, 20 percent said that they are very or somewhat likely to terminate all subsidized health benefits for future retirees. Serious consideration is also being given to only providing access to health benefits and asking retirees to pay 100 percent of costs; 26 percent of firms said that they are very or somewhat likely to make such a change.

Employers are also considering changing the basic structure of their offerings. More than one in five surveyed firms said that they are very or somewhat likely to shift to a defined-contribution approach (22 percent) or offer catastrophic benefits in conjunction with medical savings accounts (25 percent).

Most of the anticipated changes by surveyed employers would require higher retiree contributions and cost sharing (Exhibits 5 and 6): 86 percent said that they are very or somewhat likely to increase retiree contributions to premiums in the next three years, and 70 percent said that they are very or somewhat likely to increase contributions for dependents. More than eight in ten (81 percent) said that they are very or somewhat likely to increase cost-sharing requirements for retirees, such as deductibles (75 percent), physician visit copayments (69 percent), out-of-pocket limits (65 percent), hospital copayments (59 percent), and retiree coinsurance (55 percent). Other changes that are very or somewhat likely are increased cost sharing for out-of-network care (54 percent), shifting from copayments to coinsurance (40 percent), and implementing tiered cost sharing for hospitals or physicians, or both (31 percent).

Surveyed firms also identified a number of likely changes to prescription drug benefit designs. Only 2 percent said that they are very or somewhat likely to eliminate drug coverage. Yet 85 percent said that they are very or somewhat likely to increase retiree copayments or coinsurance for prescription drugs. In addition, a sizable share of employers said that they are very or somewhat likely to impose three-tier (44 percent) or four-tier (29 percent) cost-sharing arrangements.

Half of surveyed employers said that they are very or somewhat likely to shift from fixed copayments to retiree coinsurance for prescription drugs. Thirty-eight percent said that they are very or somewhat likely to impose specific deductibles for drugs within the next three years, and 24 percent are very or somewhat likely to cap or decrease the annual drug benefit.

A large share of firms said that they are very or somewhat likely to impose more stringent controls on drug use in the future, including imposing prior authorization requirements (60 percent), requiring therapeutic interchange (46 percent), and requiring step therapy (42 percent).

Although the survey was conducted several months before the final specifications of the Medicare legislation were decided, the survey asked employers a general question to assess their view of savings their firms could achieve as a result of a new Medicare prescription drug benefit. The majority of employers (56 percent) thought that their firm would save money if a drug benefit were enacted, 17 percent said that they did not think their firm would save money, and the remaining 27 percent did not know.

Discussion

This survey of large employers—conducted prior to the enactment of the new Medicare drug legislation—finds employers and retirees feeling the effects of double-digit increases in retiree health costs. Employers are struggling to balance retiree health with other benefit costs and with the business demands of a competitive global economy, and many firms are looking to limit their costs in this area. Retirees are facing higher contributions to premiums and cost-sharing obligations. In addition, the survey confirms that large private-sector employers are continuing to curtail, and in some cases eliminate, retiree health coverage, primarily affecting new hires. The good news, at least for now, is that current retirees are largely shielded from these terminations and that nearly all surveyed employers said that they will likely continue to offer them retiree health coverage over the next three years. While this survey did not address how employers will respond to the new Medicare drug benefit, it is the most recent confirmation that erosions in coverage were continuing on the eve of the Medicare legislation.

Findings from this survey also confirm that the prescription drug benefits offered by employers to Medicare-eligible retirees are much more generous than those that Medicare will offer under the new legislation. The typical employer plan does not impose a separate drug deductible, nor does it interrupt coverage at a given benefit level—known in the Medicare debate as the “doughnut hole”—until the retiree’s drug spending reaches the out-of-pocket limit. The comparative generosity of employer benefits relative to the new Medicare drug benefit could help to explain why some retirees may be worried about losing valued coverage.

Given the large number of Medicare beneficiaries that now have retiree coverage, the relative generosity of such benefits, and the high visibility of this issue throughout debate over the Medicare drug benefit, the new legislation includes incentives to encourage employers to maintain retiree health benefits for Medicare-eligible retirees. It offers employers considerable flexibility and multiple options for aligning their plans with Medicare. These options include a projected $71 billion in tax-free direct subsidies to help cover their retirees’ prescription drug costs between 2006 and 2013 and a projected $17.8 billion in tax benefits over that same period.¹³ How employers and retirees respond to these incentives, and to the specifics of the forthcoming regulations, will play out over the next several years and will be closely watched by policymakers as having potentially important implications for the roughly one-third of all current Medicare beneficiaries who have employer-sponsored health coverage.¹⁴

The authors gratefully acknowledge the research support of Amy Atchison of Hewitt Associates.

NOTES

1. Henry J. Kaiser Family Foundation and Health Research and Educational Trust, Employer Health Benefits: 2003 Annual Survey (Washington: Kaiser Family Foundation, 2003).
2. Congressional Budget Office, “H.R. 1: Medicare Prescription Drug and Modernization Act of 2003 and S. 1: Prescription Drug and Medicare Improvement Act of 2003,” CBO cost estimate (Washington: CBO, 22 July 2003).
3. L. McCormack et al., “Trends in Retiree Health Benefits,” Health Affairs (Nov/Dec 2002): 169–176.
4. F. McArdle et al., Retiree Benefits Now and in the Future, Findings from the Kaiser/Hewitt 2003 Survey on Retiree Health Benefits (Washington: Kaiser Family Foundation, 2004).
5. The new law encourages continued coverage of retiree health benefits by offering employers considerable financial incentives, flexibility, and multiple options for coordinating their plans with Medicare, including tax-free direct subsidies equal to 28 percent of total drug costs between $250 and $5,000 per retiree if the employer plan provides drug coverage that is at least actuarially equivalent to the standard Medicare drug benefit.
6. Kaiser/HRET, Employer Health Benefits: 2003 Annual Survey.
7. For information about health benefits offered to retirees of state governments, see J. Hoadley, How States Are Responding to the Challenge of Financing Health Care for Retirees, September 2003, dev.kff.org/medicare/medicare6104report.cfm (15 December 2003).
8. About half of the companies that participated in the 2002 survey also participated in the 2003 survey.
9. Hewitt actuaries identified typical ratios of family members to employees (2.5) and family members to retirees (1.65).
10. Estimates of nonfederal retirees with employer-sponsored coverage from the CBO, letter to Rep. William M. Thomas, 14 November 2003.
11.The total cost of providing retiree health benefits to retirees younger than age sixty-five, retirees age sixty-five and older, and dependents was calculated using the average total cost by size of firm for the 373 surveyed employers that responded to the total cost question and then applying the average cost per size of firm to the 35 employers that did not respond to the question. This resulted in a total cost of $2.14 billion for the nonresponding firms, which was added to the $15.97 billion for the responding firms.
12. Hewitt Associates, “Health Care Costs Continue Double-Digit Pace, but May Start Moderating in 2004,” Press Release, 13 October 2003, based on data from the Hewitt Health Value Initiative, was4.hewitt.com/hewitt/resource/newsroom/pressrel/2003/10-13-03_hc.htm (15 December 2003).
13. Direct subsidy projections are from the CBO, letter to Sen. Don Nickles, 20 November 2003, and the projections of tax benefits are from the Joint Committee on Taxation, “Estimated Revenue Effects of Certain Provisions Contained in the Conference Agreement for H.R. 1,” 21 November 2003.
14. Congress remains very interested in this subject and has charged the U.S. General Accounting Office with conducting two new studies to examine trends in employment-based retiree health coverage and the options and incentives available under the legislation that may affect the provision of coverage.

Frank McArdle is manager of the Washington, D.C., research office of Hewitt Associates. Patricia Neuman (tneuman{at}kff.org) is vice president and director, Medicare Policy Project, at the Henry J. Kaiser Family Foundation in Washington, D.C. Michelle Kitchman is a senior policy analyst at the Kaiser Family Foundation. Kerry Kirland is a research consultant for Hewitt Associates in Lincolnshire, Illinois, where Dale Yamamoto is chief health care actuary.


DOI: 10.1377/hlthaff.W4.7
©2004 Project HOPE–The People-to-People Health Foundation, Inc.