Current Situation and Introduction

Healthcare and the cost of delivering healthcare, is once again front and center in the news, as our elected officials continue to debate various versions of healthcare reform. Five minutes in front of the news media of your choice quickly shows how volatile and split our country’s population is on this crucial topic. There are high stakes for all affected parties of the healthcare system: providers, facilities, insurers, and consumers.

Most of the debate has revolved around how healthcare will be funded, consumed, and provided for individuals looking to purchase health insurance. If we take a step back and look at how healthcare is consumed in our country, it is evident that the vast majority of healthcare is obtained through an individual’s place of employment, second in volume would be Medicare and Medicaid, and finally the smallest percentage is represented by the individual market.

The Henry J. Kaiser Family Foundation provides the following statistics ( Health Insurance Coverage of the Total Population – 2015) around how consumers access their health insurance coverage:

  • Medicare: 14%
  • Medicaid: 20%
  • Employer/Group: 49%
  • Other/Public: 2%
  • Individual: 7%
  • Uninsured: 9%

Cost Control Mechanisms

The Affordable Care Act, recently debated healthcare bills in the Senate, and previous efforts on reform have focused much of their attention on the health insurance market, placing a significant amount of the burden on health insurance companies to lower cost through plan design and narrow networks. The result has been a substantial reduction in the benefit level of health insurance plans purchased by consumers through their employer and/or the individual marketplace.

Not only have consumers felt a significant increase in their costs for purchasing stripped-down plans, but healthcare providers have experienced a drain on their pocketbooks as well.

There are only a few ways for insurance companies/payers to reduce healthcare cost. We already mentioned stripped down plan designs, and the shifting of cost/risk to the consumer. Another option is for insurance companies to renegotiate their reimbursements with healthcare providers, resulting most often in narrow networks.

Insurance companies also make an effort to reduce healthcare spend through more in-depth disease management, resulting from intensified managed care. Finally, wellness initiatives designed to keep the healthy stable and encourage more proactive healthcare behavior is another tactic employed to help manage long term cost control.

The two strategies that create the quickest … but most temporary … reduction in cost are plan design and network/reimbursement reductions. Self-insured employers have historically based their purchasing decisions on carriers/third-party administrators (TPAs) that provide the greatest discount on negotiated provider reimbursements.

However, a new trend is gaining traction in the employer segment, as TPAs and employers are beginning to better understand the negotiations between insurance companies and healthcare providers. Employers are starting to pay more and more attention to value-based payments. Unlike value-based payment initiatives implemented by healthcare systems, this type of value-based payment reimbursement is a form of reference-based pricing (RBP).


Reference-Based Pricing

In general, reference-based pricing uses Medicare as the foundation, or starting point, for the amount a provider and/or facility is reimbursed for a claim or procedure. In contrast, an insurance company uses a discount off billed charges.

This is the key: in RBP, an employer’s plan document, which is administered by a TPA, bases the reimbursement for claims as a percentage of Medicare. Often, the consensus is to use 140 percent of what the Medicare reimbursement would have been for the same claim. This is much more consistent and provides a level playing field for the provider, facility, and the payor of the claim (in these situations, the consumer and self-insured employer).

With a reference-based pricing approach, there is no network for hospitals or outpatient procedures – the consumer can go to the hospital of their choice. TPA’s who administer this type of plan well utilize claims data from CMS to pre-certify procedures. When the provider pre-certifies the procedure with the TPA, the TPA explains that the plan will reimburse (in this example 140 percent of Medicare) for the procedure. The provider may negotiate with the TPA on this amount, but the TPA also is able to determine what the average reimbursement for the same procedure was for that provider or facility in the previous year, using CMS data.

TPA’s utilizing a pro-active, pre-certification approach can come to an agreement on the reimbursement rate with the provider in the initial pre-certification call with a more than a 95 percent success rate. The following table provides a comparison of a traditional PPO network reimbursement to a value-based payment (pre-certification version of RBP).


Sample Procedure Traditional PPO Value Based Payment
Billed Price: $75,000 (before network discounts) $15,000 (Medicare allowed charge)
Plan Price: $37,500 (Network discount of 50%) $22,500 (Hospital and TPA agree to 150% of Medicare)
Coinsurance: Patient pays 20% after satisfying deductible Patient Pays 20% after satisfying deductible
Patient Billed: $7,500 $4,500

Outside of the obvious savings to the consumer and self-insured employer, the above table provides some interesting considerations. One consideration revolves around carrier network discounts. Traditionally, carriers and employers focused on how deep of a discount a network provided.

A 50 percent discount, as displayed in the above table, is a strong discount. However, the discount can quickly be muted, when the billed price or starting point for the discount is exaggerated. With reference-based pricing, the biggest key is the starting point, and the simplest and most consistent starting point is what Medicare would pay for a procedure. Regardless of the provider and facility, Medicare is a universal billed amount. Outside of Medicare, the billed amount can and will vary drastically per facility.

The lowest hanging fruit for savings is not found at the provider (physician/surgeon) level – it is realized at the facility level. As a result, most reference-based pricing programs do provide a traditional PPO-type of network for physician services. Often, the reimbursement rate can be higher for physicians in this type of arrangement than a typical carrier-based program. The largest cost for an employer and its members is not from physician visits – it is from inpatient and outpatient procedures. This explains the reason why reference-based pricing programs focus on facility-related charges and not physician-related charges.



Generally, the cost of providing healthcare is measured as a trend, and although said trend may vary by source, the average trend by category can be compared below (following trend data represents a summary/overview from numerous carrier, actuary, and CMS data points and may vary depending on source):

Category Annual increase in cost of providing care
Fully-Insured Group Health 9%
Self-Insured Group Health 3.5%
Medicare 1.5%

Reference-based pricing provides a lower starting point of billed and paid charges but also tracks the annual trend of Medicare. The potential savings for employers, who have historically seen the cost of providing healthcare outpace their ability to grow revenue, has no doubt begun to turn heads. However, there are still some very important considerations before an employer considers a reference-based pricing approach. Just like any other service, not all service providers or reference-based pricing programs are equal.

Due to the paradigm shift, there is a strong likelihood for disruption for both the consumers and healthcare provider on how claims are paid. It is extremely important to have an open line of communication between all parties involved: employer, TPA, patient, and provider/facility.

Some reference-based pricing administrators do not take a proactive pre-certification approach, rather they wait until the procedure takes place and then take a combative, hard negotiating approach with the healthcare facility. As you can imagine, everyone loses in this type of approach, and legal action is threatened and sometimes taken. All parties lose when this scenario unfolds.

A sound strategy with the appropriate administrator creates a tremendous amount of transparency, and it is also imperative that there is transparency in how the administrator is compensated. Some RBP administrators are compensated as a percentage of savings of billed charges and others by a flat monthly per-employee fee.

There are pros and cons to both, but the most important thing is that there is an understanding on openness with all parties on this topic. Finally, without in-network and out-of-network providers, there is a potential for a plan member to be balance billed if the facility and TPA do not come to an agreement on the allowed charges prior to the procedure.

It is extremely important that there is staunch support, advocacy, and education for employees and dependents on reference based programs. The patient should be protected as much as possible from issues resulting for poor communication.



In the current healthcare environment, no one is immune from change and the need to reduce cost, while providing quality care. There are a lot of potential solutions, and in my humble opinion, no perfect solution is available. Healthcare providers and facilities have been familiar with value-based-payments and incentives for some time now – based on quality, efficacy, and cost of care.

Some of these factors are controllable by providers, but many are not. Providers continue to feel the pressure to see more and more patients for less amount of time and money, but at the same time are required to lessen their rate of error.

Insurance companies are under the microscope regarding profitability and ability to lower costs. Employers and consumers are backed into a corner with how to afford escalating costs and weakened benefits.

The only constant in this environment is change. There are many parties trying to solve the same, large problem: the cost of providing care. Reference-based pricing is by no means the silver bullet to all these challenges, but it is a resource that addresses a part of the growing financial obstacle, and it is getting the attention (good and bad) of all parties involved in the healthcare environment.

Anyone who says they know what healthcare will look like in five or 10 years is ripe for disappointment. There is a strong chance, however, that reference-based pricing will continue to grow in impact and influence, which will result in carriers, providers, consumers, and employers hopefully meeting in the middle on a better solution. Until all parties can come to the table and agree on a solution, the death spiral of healthcare as we know it will continue.


Austin MadisonAustin Madison is senior vice president with The Crichton Group, and independent insurance and risk management firm. Madison joined Crichton in 2007 and has been in the insurance industry since 2005. He has served on numerous industry boards and advisory councils within the insurance and employee benefits arena. For more information, go to or email Austin at