Beyond the subsidies

Imbedded in the Medicare Modernization Act (MMA) that ushered in Medicare Part D are significant subsidies few employers have had the time to fully consider since last year’s implementation deadline. As the dust settles, public sector employers should re-examine the legislation’s subsidies to uncover additional financial advantages.

In 2006, most employers offering prescription drug coverage for their Medicare-eligible retirees took the direct employer subsidy — one of two subsidies offered — because, on the surface, the option seemed easier to implement and its tax incentives were appealing to corporate employers. For cities and counties that pay little or no taxes, however, the prescription drug plan (PDP) subsidy can amount to twice as much as the direct employer subsidy. For public-sector employers, the PDP subsidy has added advantages under recently proposed accounting guidelines from the Government Accounting Standards Board (GASB).

Under the direct subsidy option, employers generally can expect a subsidy of 28 percent of actual gross participant claims between $250 and $5,000, or about $600 for each Medicare-eligible participant. The PDP subsidy, however, is linked to the employer’s prescription drug plan and is designed to cover 74.5 percent of the cost to provide standard Part D benefits — not of the employer’s actual costs. Because employers’ costs usually are higher, the subsidy often will be less than 74.5 percent of their actual costs.

Ironically, government employers offering less generous benefits will see greater subsidies when choosing the PDP option. That is because a portion of the subsidy is based on the cost of claims covered after individual plan participants’ out-of-pocket costs exceed a certain threshold. The more an employer’s drug plan covers, the less likely that participants will spend enough to exceed their out-of-pocket maximum and trigger that portion of the PDP subsidy.

All in all, the PDP subsidy will pay employers about $800 to $1,100 per participant — 30 to 80 percent less than the direct subsidy would pay for most public-sector employers. But, the PDP advantages increase when coupled with GASB accounting.

Under the new GASB 43 and 45 standards, plan sponsors need to record an annual expense for post-retirement medical benefits while their employees are working rather than as the benefits are paid. That shifts expenses from the future to the present and can be 20 times the cost of current retiree medical expenses.

Both the direct subsidy and the PDP subsidy will offset the future value of post-employment benefits, but by choosing the PDP option, employers are likely to see 20 to 40 percent lower GASB liability for their prescription drug benefits. Under proposed GASB guidelines, the direct subsidy is not treated as an up-front reduction in an employer’s post-retirement costs but rather is considered revenue in the year in which it is received. As a result, the benefit for receiving the subsidy is usually seen many years later, but employers account for expected future benefits up front.

The PDP subsidy, however, is counted as a reduction in an employer’s post-retirement costs. Public sector employers can use the amount to directly reduce the expense of future benefit obligations, which nets real current savings.

The authors are actuaries and principals for Chicago-based CCA Strategies.