State Legislatures Consider What
to Do about HMO Insolvencies

By Barbara J. Williams, J.D., LL.M. candidate

HMO insolvencies continue to be a problem throughout the country. This year, the Texas Department of Insurance ("TDI") placed San Antonio-based Comprehensive Health Services of Texas Inc. (d/b/a "Wellchoice") under supervision and took control of the company, placing it in conservatorship. Thereafter, State District Judge Paul Davis of Austin granted TDI's request to place Wellchoice in temporary receivership. (TDI seeks receivership only after determining a company cannot be rehabilitated by means of supervision or conservatorship). All WellChoice patients were transferred to Pacificare of Texas.

At the same time, the State of New Jersey announced it was liquidating the insolvent Health Insurance Plan of New Jersey ("H.I.P."). The liquidation affected 194,000 patients, and doctors were required to continue treating them at 75% of their usual H.I.P. fees and to accept 30 cents on the dollar for past claims. H.I.P., a long-standing non-profit plan, had merged with a for-profit HMO, Pinacle Health Enterprises, which used H.I.P.'s cash to start Medicaid HMOs in other states. In December of 1998, New Jersey also seized American Preferred Provider Plan Inc., with outstanding claims to doctors and hospitals of $45 million. The company had been started as a family-run business by a neurologist who mortgaged his home, life insurance policy and a building to be used as the company headquarters to acquire the $1.5 million dollar cash reserve required by the State of New Jersey.

In July of 1998, the Allegheny Health System, which over the last 10 years had built up an integrated hospital system of 10 hospitals, Hahnemann School of Medicine, three professional schools and more than 200 doctor practices declared bankruptcy citing debts of $1.3 billion. On November 10, 1998, it sold its hospitals and physician practices to California-based Tenet Healthcare Corp. for $345 million and gave away its professional schools to Drexel University.

These and other recent HMO insolvencies have raised the question of what additional protections may be provided to protect against HMO failures. The 1997 Balanced Budget Act ("BBA") established financial standards to qualify hospitals and participating groups as Medicare provider service organizations (PSO's). The Health Care Financing Administration's financial requirements issued in April 1998 under the BBA also require an initial $1.5 million dollar net worth.

State legislatures are becoming active in considering innovative approaches to preventing HMO insolvencies. For instance, Texas Representative John Smithlee introduced H.B. 3023, which passed the Texas House of Representatives on April 22, 1999 and the Texas Senate on May 13, 1999. H.B. 3023 requires that HMOs authorized to offer basic health care services maintain a net worth of $1.5 million and HMOs offering only a single health care service plan maintain a minimum net worth of $500,000. These amounts will be phased in on a graduated basis through the year 2002. Similar legislation is pending in Colorado. (H.B. 1275, 1999).

Rhode Island has taken a different approach by proposing a requirement that new HMOs deposit the greater of 5% of its estimated expenditures for its first year of operation, twice monthly uncovered expenditures for its first year of operation, or $100,000. Each year thereafter, the HMO is required to deposit 4% of its estimated expenditures. HMOs already in existence have lower qualifications. (R.I. S.B. 512, 1999).

Are the reserve amounts proposed sufficient? If the American Preferred situation is any indication, $1.5 million may not be enough given the high level of premiums and costs associated with an HMO. On the other hand, a percentage approach similar to Rhode Island provides the advantage of tailoring the reserve amount to the level of expenditures.

An additional response proposed in New Jersey by Assembly Bill No. 2735 on December 17, 1998 is the creation of an HMO Guarantee Association. If an HMO is insolvent or not able to promptly pay its claims, the Association would guarantee the policies and contracts of the HMO. The Association would also be empowered to lend money to impaired HMOs. Any premiums paid after the entry of an Order of Liquidation would become the property of the Guarantee Association. In order to fund the Guarantee Association, each HMO would be assessed a surcharge on a per-enrollee basis each year. Currently, the estimates are that the HMOs would each be taxed 3% this year and 2% in succeeding years to sustain the Guarantee Association. This cost will likely be reflected in higher premiums.

The New Jersey legislation will also prevent state-licensed HMOs from transferring assets to unlicensed contractors from other states to prevent a reoccurrence of the situation that led to the demise of H.I.P. Will increased reserves and guarantee funds prevent or lessen the effects of HMO insolvencies? Only time will tell if one or more of these proposals will reduce the likelihood of financially floundering health care entities.