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Trends In The Small Case Market

By: Mike McClenahan

With more than one million small and mid-sized businesses operating in Canada,1 small business is often described as the engine driving the Canadian economy. Small and medium sized businesses provide jobs to more than 3.75 million Canadians.2

These workers are beginning to demand the same quality of benefit coverage that employees of large companies have enjoyed for some time. In the past few years, a number of trends have impacted on the ability of small business owners to provide this coverage:

Working with insurers, small business owners have responded to these challenges by finding innovative ways to deliver group benefits to their employees.

Consolidation In The Insurance Industry

In the past decade, the number of insurance companies in Canada has declined considerably. Former industry giants such as Zurich and Canada Life have disappeared. Industry consolidation has been widespread. This has reduced the range of options available to companies seeking benefit coverage for their employees. In addition, some of the remaining insurers have raised the minimum group size they cover and limited the kinds of benefits they provide to small and mid-sized groups. These factors have combined to impact the small group market in particular.

With fewer insurance companies left to compete for their business, a matter of special concern to small groups is ‘Experience Rating.’ When a group insurance plan comes up for renewal, the insurer looks at the claims experience of that group to determine premium rates for the following year. If a group has made an exorbitant amount of claims then their rates will rise. In a small group, if one plan member is responsible for most of the claims costs then the affordability of the plan can be jeopardized. This can make it challenging for an employer to find affordable benefit coverage.

A number of insurers have responded to this problem by introducing Large Claim Individual Pooling Levels. Put simply, this is a way of insuring a group insurance policy. A small premium is added to all of the insurer’s policies to cover the one-in-1,000 catastrophic claim. With Large Claim Individual Pooling Levels in place, each plan member is given a maximum dollar amount for claims. If a plan member’s claims exceed that amount, the excess is covered by the Large Claim Individual Pool Insurance and the extra claim amount is removed from consideration when premium rates are determined for the following year. For example, for a group of five employees, the insurer might assign a maximum of $5,000 per plan member, for a group total of $25,000. If one plan member puts in claims for $20,000, then the additional $15,000 would be covered by the Large Claim Individual Pool Insurance. In this way, small businesses are able to have continued access to insurance coverage even if one plan member has incurred large claim expenses.

Another outcome of industry consolidation has been that many small business owners have had to look outside of traditional large insurers when seeking coverage for their employees. Third Party Administrators (TPAs) have emerged as an alternate to the traditional sourcing of all benefits from a single insurance provider. In the past five to 10 years, the number of TPAs operating in Canada has increased appreciably. TPAs build benefit packages by sourcing different group insurance products from a variety of large insurers. Some TPAs cater specifically to the small group market. By pooling all of their small group clients into a single block of business, TPAs reduce administrative expenses for the insurer. In this way, small groups have been able to share in the advantages that large groups have by receiving a volume discount.

Increased Healthcare Costs

Like all employers, small business owners have been affected by Canada’s current healthcare woes. As a result of escalating healthcare expenses, governments have had to review publicly insured healthcare services. In British Columbia, the provincial government stopped covering eye examinations in 2001. In 2002, it removed coverage for chiropractors, physiotherapists, massage therapists, naturopaths, and podiatrists. Similar measures have been introduced in other provinces, nationwide. Cost-shifting of healthcare costs to the private sector has become the norm and a greater demand has been placed on employers to fill the gap left by government cut-backs.

Government down-loading of healthcare costs has not been the only reason for increases in the cost of providing healthcare benefits in the past decade. The cost of prescription drugs and their increased utilization have also contributed to everincreasing benefit costs. According to the Canadian Institute of Health Information (CIHI), the amount spent on prescription drugs in Canada rose from approximately $3 billion in 1985 to more than $12 billion in the year 2000.3 In the report, Drugs Expenditure in Canada, 1985-2002, Lynn Brousseau, CIHI’s manager of drug utilization and mental health, asserts that “increased drug spending in Canada relates primarily to the entry of new drugs (typically introduced at higher cost) and higher volume of drug use.” Because of this, insurers have experienced a significant rise in drug claim costs. Research shows that the average drug cost per claim went from $32.71 in 1997 to $43.60 in 2001.4 This change represents a 33.3 per cent increase in only four years.

In response to pressures from employers to keep drug plan costs under control, insurers have begun to introduce Managed Formularies. Under a managed formulary, drugs new to the Canadian marketplace are evaluated to determine if they will be eligible for benefit coverage. A new drug must have a recognized therapeutic advantage over drugs already covered in order to be included in the insurer’s drug formulary. Jim Bates, director of sales and marketing for Green Shield Canada, says “Continued high utilization rates, combined with advancements in research technology, will lead prudent drug plan managers to adopt quality assurance and cost containment features like those found in managed formularies.” Employers have been enthusiastic in their reception of this cost containment strategy.

Changing Demographics

Changing population demographics have also impacted business owners. The oldest baby boomers have started to retire. Over the course of the next 15 years, 5.5 million Canadians will leave the workforce.5 There will not be enough young people to replace them. As this generational shift in the workplace continues, employees will have greater choice when deciding where they want to work and whom they want to work for. A recent survey found that more than half of Canadian group insurance plan members say that their benefits package is a reason to stay with their current employer.6 In this increasingly competitive atmosphere, small business owners have recognized that they need to provide the same incentives as their larger rivals if they are to attract and retain high calibre employees. Fortunately, the insurance industry has recognized the value of creating new products to fill the need of this significant client base.

One such product recently introduced to the group insurance market is critical illness insurance. The concept of critical illness insurance was developed in the 1980s as a response to increased survival rates following a serious illness. It was noted that patients suffered a decline in their quality of life due to financial strain during recovery time. Critical illness insurance has emerged to fill the gap between life and disability insurance. Upon diagnosis of a covered critical illness, the insurer pays a one-time, lump-sum benefit to the insured individual. This tax-free payment can be used to cover out-of-country medical expenses, convalescence, private nursing, child care, debt payment, home adaptation, or any other expense the plan member chooses. Although this product has a 20- year history, it has only recently been introduced as a group insurance benefit.

Nicole Morton, an account executive with Industrial Alliance Pacific, notes: “Critical illness insurance is rapidly becoming one of the most popular additions to a standard group benefits package. Over the last year, I have seen substantial increases in the number of employers adding this type of insurance to their benefits package. Given the fact that critical illness insurance is not considered a taxable benefit, an employer can add and pay for this benefit with no tax consequences to the employee. At the rate of current sales, I anticipate that within the next five years, most employer and association groups will offer critical illness insurance as part of their standard employee benefits package.”

Another new product that is becoming popular with small business owners is the Health Spending Account (HSA). A unique challenge to small business owners has been how to respond to the varied needs of their employees while maintaining the affordability of providing benefits. One employee may place a high value on a vision care plan, while another would prefer to have additional dental coverage in the form of orthodontics. For a small business owner, providing all of these benefits is often beyond their economic capability.

Insurers have recently developed the HSA as a solution to this problem. An HSA operates like a bank account. The employer designates a certain dollar amount to each employee and the employee has that amount to spend on whichever health and dental benefits he/she chooses within CCRA guidelines. An HSA provides increased flexibility to employees and allows employers to budget the exact amount they want to spend on benefits.

Looking Ahead

Small business owners and the insurance industry will have to continue to work together to adapt to future challenges. On January 1, 2004, federal privacy legislation known as the Personal Information Protection and Electronic Documents Act (PIPEDA) comes into effect for insurance companies. Although the full ramifications of this legislation are not yet known, it is certain that the extra costs of additional administration and increased security measures will be shared with insurers’ clients.

Insurance industry consolidation, increased healthcare costs, and changing demographics will continue to be the primary forces shaping change in the small case market. Employers will have to keep finding new ways to control benefit costs while still meeting the needs of their employees. Their ability to do so will determine how effective they are in attracting quality employees and growing their businesses.

Mike McClenahan is CEO of Benefits by Design Inc.

1. Establishments by Industry, Statistics Canada, October, 2003

2. Insights on … FAQs on Small Business, Vol. #4 Number 1, Statistics Canada

3. Drugs Expenditure in Canada, 1985-2002 by Canadian Institute for Health Information

4. 2002 Analysis of Drug Claim Costs by Green Shield Canada

5. Help Wanted: Projections of Canada’s Labour Force Over the Next Four Decades, Urban Futures Institute Report 38, 2001

6. The Aventis Healthcare Survey, 2003

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