Implicit Rate Subsidy – What is it?

Key Benefit Concepts Actuarial

Implicit Rate Subsidy, or “IRS” for short, is the difference between individuals’ actual incurred costs for medical coverage (i.e., incurred medical claims paid by the insurer, in the case of a fully-insured health plan) and the individuals’ total premiums charged for such coverage. In essence, premium rates are determined for a group medical plan based on the total expected medical costs of all participants covered in the group. While each participant is then charged the same premium rate, not every participant will experience the same level of actual medical costs. Since some participants will have higher medical costs than others while paying the same premium rate, some of their medical costs are being “subsidized” by the premiums paid by others with lower medical costs.  

On average, medical costs tend to be higher for older individuals (i.e., those age 55+). In terms of a medical plan consisting of both retirees and active employees, one would expect retiree medical costs to be higher than those of active employees. GASB guidelines require that the OPEB be based upon the value of the health care benefit.  Thus, when benefits are provided through a fully-insured health plan, the value above the premium cost of the benefits received must be determined and included in your OPEB valuation. Any OPEB provided to retirees that provides continued coverage on the group medical plan or allows for retirees to extend the duration of time spent on a group medical plan post-retirement (e.g., percentage contributions towards continued coverage, offering the ability to self-pay to continue coverage, providing premium only HRAs for use towards continued coverage on the plan etc.) wherein the premiums charged are the same for all participants will result in an Implicit Rate Subsidy that requires valuation. While IRS resulting from participants continued medical coverage due to OPEB is considered a benefit that requires valuation and inclusion in your OPEB valuation, in and of itself, it isn’t an actual ‘payment’ received by those retired individuals so it can be a bit confusing at first glance.  Rather, this IRS amount is, in essence, being ‘baked’ into the premiums paid on behalf of active employees.  In other words, if active employees and retirees were rated separately, on would expect the plan premiums on behalf of active employees to be less than those for retirees.