Managed Care Plans: MMO Insurance and PPO Insurance

The 1980s saw rapid increases in health insurance premiums, driven by new medical technology and cost-based reimbursement systems used by insurers and the Medicare program. In 1983 Congress changed the system Medicare used to pay hospitals. Rather than paying based on allowable costs, it introduced the prospective payment system, in which hospitals were paid a fixed price based on the diagnosis of admitted patients.

At about the same time, and for the same reasons, the private health insurance industry was changing as well. Prepaid group practice plans, now called health maintenance organizations (HMOs), were beginning to enroll more subscribers, and new forms of managed care, preferred provider organizations, and point-of-service plans were developing.

There are three general forms of managed care plans. The first are HMO insurances. These are insurance companies, meaning that they bear claims or “underwriting” risk. Like a conventional insurance plan, they are responsible for the cost of covered medical care provided to a subscriber. If these costs exceed the premium collected, they are still obligated to provide the care. A conventional insurance plan typically allows the policyholder to receive care from any licensed provider. In contrast, an HMO has a panel of providers, and the HMO is only responsible for the cost of the care from these providers.

Traditionally, there have been four HMO models. Staff model HMOs hire their physicians and usually own their own hospitals. The original Group Health Cooperative in Seattle is an example of a staff model HMO. Such models are rare. Group models are somewhat more common. In this form, the HMO-insurer contracts with a single physician group that provides all the clinical services rendered to the HMO subscribers and typically provides care only to the HMO’s subscribers. Kaiser-Permanente is the classic example. Kaiser is the health insurer. It contracts exclusively with the Permanente medical group. Third is the network model HMO. In this case, the HMO- insurer contracts with several physician groups in the local market. Each physician group sees a significant number of the HMO’s subscribers, but the group also sees patients from other insurers. Network model HMOs are the most common. The fourth HMO model is the independent practice association (IPA). This model emerged as a response by local medical societies to the growth of HMO insurances. Under this model, the HMO-insurer provides services through a large panel of physicians throughout the community. These community physicians typically only see a small number of the HMO’s subscribers.

Note that none of this discussion has focused on the form of physician payment. At one time, it was argued that physicians in HMOs were salaried employees or that they were “capitated”—that is, paid a monthly fee per patient. In fact, the payment arrangements between the HMO-insurer and the participating physicians vary enormously.

Preferred provider organizations (PPOs) developed in the 1980s, partly in response to ERISA and the shift to self-insured employer-sponsored health plans. PPO insurances are often not health insurers because they frequently do not bear underwriting risk. Instead, they are coordinators of contracts. In principle, a PPO is easy to establish. One approaches a local hospital and negotiates a price below hospital billed charges in exchange for encouraging (future) subscribers to use this hospital. One similarly obtains agreements from physicians who have privileges at this hospital. These are “preferred providers.” One then goes to self-insured employers and asks them if they would like to pay less for hospital and physician services. They, of course, would like to do so. The employers agree to allow their employees to use the preferred providers for a smaller out-of-pocket payment per visit than is required for other providers. One then executes a contract between the employer and the participating providers and manages the set of contracts for a per-member-per-month fee. This is a stereotypic PPO.

Many insurers, of course, also offer a PPO product. In some cases, these are simply contracting vehicles, and the insurers bear no underwriting risk. In other cases, the PPO may bear such risk as it contracts with networks of providers and sells coverage to employer groups and individuals.