Are Health Insurance Companies Making Unreasonable Profits?

Understanding the Profit Margin of Private Health Insurers

People in suits throw money into the air and gather it from the ground
Are the profits may by private healthcare insurance companies unreasonable?. Michael Blann/DigitalVision/Getty Images

One of the common criticisms leveled at private health insurance companies is that they are profiting at the expense of sick people. But let's take a closer look at the data and see where it takes us. Do private health insurance companies really make unreasonable profits?

How Common is Private Health Insurance?

Before addressing the question about profits, it's important to look at how common having private health insurance really is in the United States. In other words, how many people might be affected by this question.

According to Kaiser Family Foundation data, roughly a third of Americans had public health insurance in 2016 (mostly Medicare and Medicaid). Another 9 percent were uninsured, but the rest had private health insurance that they either purchased on their own in the individual market (7 percent) or coverage provided by an employer (49 percent). Nearly half of Americans have coverage provided by an employer, although 60 percent of them have coverage that's partially or fully self-funded by the employer (that means the employer has its own fund for covering medical costs, rather than purchasing coverage from a health insurance carrier; in most cases, the employer contracts with a commercial insurance company to administer the benefits—so the enrollees might have plan ID cards that say Humana or Anthem, for example—but it's the employer's money that's being used to pay the claims, as opposed to the insurance company's money).

But many Medicare and Medicaid beneficiaries also have coverage that's provided via a private health insurance company, despite the fact that they are enrolled in publicly-funded healthcare plans. 33 percent of Medicare beneficiaries are enrolled in Medicare Advantage plans run by private health insurance carriers, and 39 states have Medicaid managed care contracts with private carriers to cover some or all of their Medicaid enrollees. Even among Original Medicare beneficiaries, a quarter have Medigap plans purchased from private health insurance carriers and this number is increasing (it increased 6 percent from 2013 to 2015 alone).

When we put all that together, it's clear that a significant number of Americans have health coverage that's provided or managed by a private health insurance company. And private health insurance companies tend to get a bad rap when it comes to healthcare costs.

Are Insurer Profits Unreasonable?

Numerous articles have been written by people attempting to find coverage during periods of open enrollment. Some of these appear to conflate revenue with profits which adds to the confusion. Of course, major health insurance carriers have significant revenue, given that they're collecting premiums from so many insureds.

But regardless of how much revenue carriers collect in premiums, they're required to spend most of it on medical claims and healthcare quality improvements. And although a common criticism is that health insurance companies pay their CEOs too much, that's more reflective of the fact that CEO salary growth, in general, has far outpaced overall wage growth over the past several decades. There are no health insurance carriers represented among the 40 firms with the highest-paid CEOs, although there are several pharmaceutical companies.

So while a seven or eight-figure CEO salary seems absurd to the average worker, it's certainly in line with the corporate norm. And health insurance company CEOs are not among the highest paid CEOs of large companies. The fact remains that salaries are part of the administrative costs that health insurance companies are required to limit under the Affordable Care Act's medical loss ratio (MLR) rules. And so are profits.

Under the MLR rules, insurers that sell individual and small group health insurance coverage must spend at least 80 percent of premiums on medical claims and quality improvements for members. No more than 20 percent of premium revenue can be spent on total administrative costs, including profits and salaries. And for insurers that sell large group coverage, the minimum MLR threshold is 85 percent. Insurers that fail to meet these guidelines (ie, they spend more than the allowed percentage on administrative costs, for whatever reason) are required to send rebates to their members. In the first six years of the MLR rule implementation, insurers rebated $3.24 billion to consumers.

How Much Do Health Insurers Profit?

If we look at average profit margins by industry, health insurance companies are in the single digits. For perspective, the legal, real estate, and bookkeeping industries have average profit margins in excess of 17 percent. As far as health care goes, there are certainly some very profitable sectors, including medical and diagnostic laboratories and the pharmaceutical industry.

But health insurance doesn't have the sort of profitability those industry segments are able to generate—partly because health insurance is much more regulated. As described above, the ACA effectively limits the profits insurers can generate, by capping total administrative costs (including profit) as a percentage of revenue. But there's no similar requirement for hospitals, device manufacturers, or drug manufacturers.

However, profits in the health insurance industry have been growing in recent years, fueled in large part by growth in the Medicare Advantage and Medicaid managed care markets. The ACA's medical loss ratio rules don't apply to the private plans that participate in the Medicare and Medicaid markets, although those plans have to win contracts with the governments (state governments for Medicaid managed care contracts, and the federal government for Medicare Advantage plans). So they have to provide a net value to the government in order to win those contracts.

Bottom Line on Profits for Private Insurance Companies: Reasonable or Unreasonable?

Healthcare costs are the driving factor behind health insurance premiums. It's true that private health insurance companies pay their CEOs competitive salaries and they must remain profitable in order to stay in business. But their profits are modest when compared with many other industries.

There is certainly a valid argument in favor of removing the profit motive from health care altogether, which is fueling the surge in support for single payer in the U.S. Proponents of a single payer system generally contend that health care is inherently different from other industries, and should not be profit-driven. On the other hand, supporters of a profit-based health care system believe that profit is essential for encouraging innovation and quality improvements.

Currently, health insurers is the only segment of the health care industry in which profits are directly curtailed. In the rest of the industry (ie, hospitals, device manufacturers, pharmaceuticals, etc.), a more free-market approach is taken. There is certainly an argument to be made for eliminating or further curtailing the profits generated in the health insurance industry, but there is a similar argument for reducing or eliminating profits in health care in general.

If you have further questions after reading about profits, learn about the best resources for finding information about health insurance and health policy.

Was this page helpful?
Article Sources