United States General Accounting Office

GAO Report to the Honorable

Jerry Kleczka, House of Representatives

July 1997 RETIREE HEALTH

INSURANCE

Erosion in

Employer-Based

Health Benefits for

Early Retirees

GAO/HEHS-97-150

GAO United States

General Accounting Office

Washington, D.C. 20548

Health, Education, and

Human Services Division

B-276540 

July 11, 1997

The Honorable Jerry Kleczka

House of Representatives

Dear Mr. Kleczka:

In August 1996, the Pabst Brewing Company notified about 750 retirees of

its Milwaukee plant that it planned to terminate their health benefits

within a month. Concerned about this abrupt cancellation, especially for

early retirees—those who are not yet eligible for Medicare, you asked us

to examine a number of issues related to the private sector’s provision of

health benefits to retirees:

• Has the number of private sector early retirees with health coverage

declined since the late 1980s?

• How are retirees affected by an employer’s decision to terminate health

benefits?

• Do federal laws (1) prevent employers from reducing or terminating

retirees’ health benefits or (2) provide for continued group health

coverage for retirees under age 65 years whose health plans are

terminated?

Beyond the specific questions raised by Pabst’s termination of retiree

health benefits, you expressed concern about the fragility of the current

system for providing retiree health coverage. Several factors suggest that

retiree coverage is becoming an important national issue. These factors

include the downward drift in employers’ commitment to retiree coverage,

the need to trim Medicare cost growth, and the dramatic near-term

increase in the number of retirees as millions of baby-boomers approach

retirement age.

To address your specific questions, we reviewed (1) available private

sector and government surveys of changes in retiree access to and

participation in employer-based health coverage; (2) the Pabst health

benefit plan in effect during 1996; (3) data from health insurance carriers

on the cost of alternative sources of coverage for early retirees in

Wisconsin, where Pabst is located, and other selected states;

(4) applicable federal and state laws and legal precedents; and (5) earlier

GAO work. Appendix I contains a discussion of the sources of data on

employer-sponsored coverage, the patchwork nature of the evidence on

retiree health care trends, and a cautionary note on the strict

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comparability of the data. We performed our work during April and

May 1997 in accordance with generally accepted government auditing

standards.

Results in Brief The available data on employer-based retiree health benefits paints a

limited but consistent picture of eroding coverage. The data, primarily

from employer or retiree surveys, demonstrate a steady decline in the

number of retirees with coverage through a former employer—both for

early retirees and those who are Medicare eligible. Foster Higgins, a

benefit consulting firm, reported in 1996 that only 40 percent of large

employers with more than 500 employees offered health benefits to early

retirees—a 6 percentage point decline since 1993. Even fewer small and

medium-sized firms offered retiree coverage. Earlier employer survey data

suggest that since 1988 the decline in the number of large employers who

offer retiree coverage has been significant. It is important to point out that

the decline in the availability of employer-based coverage has not resulted

in as large an increase in early retirees without private health insurance.

Among the reasons are that (1) the decision to retire is often predicated on

the availability of health coverage and (2) access to other sources of

private coverage appear to be filling a significant portion of the gap

created by fewer employers offering retiree health benefits. For example,

if employer-based coverage is not available, early retirees may purchase

coverage themselves or obtain insurance through a working or retired

spouse.

Retiree surveys provide another important perspective on the erosion in

retiree health coverage. Comparing 1988 and 1994 data for all retirees aged

55 and older, the Labor Department reported that the number of

individuals who continued to receive employer-based health benefits into

retirement declined by 8 percentage points; in addition, the number still

covered sometime after retirement dropped by 10 percentage points.

There are several explanations for the erosion in coverage during

retirement. First, some employers, much like Pabst, have ceased to offer

retiree health benefits. Escalating health care costs have spurred

employers to look for ways to control their benefit expenditures. Among

the cost-control techniques adopted by employers are eliminating retiree

coverage, increasing cost sharing, and requiring those covered to choose

more cost-effective delivery systems. In addition, a new financial

accounting standard developed in the late 1980s has changed employers’

perceptions of retiree health benefits and may have acted as a catalyst for

reductions in retiree coverage. The new rule makes employers much more

Page 2 GAO/HEHS-97-150 Retiree Health Benefits
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aware of the future liability inherent in retiree health benefits by requiring

them to account for its estimated value as a cost against earnings. A

second contributor to the erosion in employer-based health coverage

during retirement is retirees’ responses to changes in their coverage.

According to the Labor Department, fewer retirees are choosing to

participate in employer-based coverage when offered because firms are

asking them to shoulder more of the costs. At the same time, retirees who

decline employer-based benefits may have access to less expensive

coverage through a working or retired spouse.

Losing access to employer-based coverage poses three major challenges

for retirees: (1) higher costs in purchasing individual coverage on their

own; (2) a related problem, the potential for less comprehensive coverage

because of higher premiums; and (3) until recently, the possibility that

coverage will be denied or restricted by a preexisting medical condition.

The impact of the termination of health benefits on retirees varies from

state to state, depending on the nature of state laws governing the

purchase of insurance by individuals. The cost impact is starkly illustrated

for affected Pabst early retirees by the nearly $8,200 annual cost of

purchasing standard family coverage in the individual insurance

market—an enormous increase given that the former Pabst plan required

no contribution on the part of the retiree for most plan options. Beginning

July 1, 1997, the implementation of the Health Insurance Portability and

Accountability Act (HIPAA) will provide uniform federal standards to

ensure that individuals leaving employer-based group plans can purchase

insurance on their own if they can afford to do so.

A key characteristic of America’s voluntary, employer-based system of

health insurance is an employer’s freedom to modify the conditions of

coverage or to terminate benefits. While federal law (the Employee

Retirement Income Security Act of 1974 or ERISA) requires that the terms of

an employee’s health benefits be in writing, the intent was not to prevent

an employer from changing or terminating those benefits for either active

workers or retirees. In cases involving the termination of health benefits

by an employer, federal courts have turned to the nature of the written

agreements and extrinsic evidence covering the provision of retiree

benefits. In essence, the issues before the court often come down to a

matter of contract interpretation. If the employer has explicitly reserved

the right in plan documents to modify health benefits, the courts have

generally upheld the termination of coverage. On the other hand, if the

contract leaves some doubt, courts will look to evidence such as collective

bargaining agreements and other written and oral representations to

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determine the rights and obligations of the parties. Today, most companies

have reserved the right in plan documents to modify health benefits for

current and future retirees. Finally, the right to purchase continuation

coverage from an employer is only guaranteed to workers in certain

circumstances, for example, if an employee is fired, laid off, quits, or

retires. Individuals who are already retired when an employer terminates

coverage are not eligible to continue that firm’s health plan at their own

expense.

Background Although some Americans purchase health insurance individually for

themselves or their dependents, most receive coverage as a benefit

through their employer. The former is commonly referred to as individual

coverage and the latter as employer-based group coverage.

Complementing these two types of private insurance1

 are public programs

including Medicaid for the poor and Medicare for the elderly and disabled.2

With the exception of the long-term disabled, Medicare is only available to

individuals aged 65 and older. The lack of affordable health insurance for

older Americans—either employer based or purchased individually—was

a key factor leading to the establishment of Medicare in 1965.3

The availability of employer-based health benefits is of particular concern

to older Americans approaching or at retirement age—individuals who

consume a higher level of medical services and whose health care costs

are commensurately more expensive. For those under age 65 and not yet

eligible for Medicare, the decision to retire may turn on the continuation of

health benefits by an employer. For those 65 or older living on a fixed

income, employer-based benefits may help fill coverage gaps in Medicare

such as deductibles and copayments or the lack of a prescription drug

benefit. (See app. II for a description of Medicare benefits and how they

differ from employer-based coverage.) In 1994, about 75 percent of retirees

were over age 65 and thus employer-based coverage supplemented

Medicare benefits; the remaining 25 percent were ineligible for Medicare

1

A significant portion of employer-based private insurance is provided by the public sector. The federal

government covers civilian workers through its Federal Employees Health Benefit Program, while the

Department of Defense operates a health care system for military personnel. Similarly, state and local

governments also provide employee health benefits. About 17 percent of workers aged 18 to 64 have

coverage provided though a public sector employer.

2

Other public sources of health services include the Indian Health Service, the Department of Veterans

Affairs, and public clinics and hospitals.

3

Insurance coverage as part of a retirement benefit was the exception, not the rule, and private

insurance companies had shown a reluctance to offer coverage to older persons even when these

individuals could afford it. See Marilyn Moon, Medicare Now and in the Future (Washington, D.C.:

Urban Institute Press, 1993), p. 25.

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B-276540 

because they were between ages 55 and 65. For the latter group,

employer-based benefits were a particularly critical source of coverage.

Overall, about one-third of retirees 55 years and older received health

benefits from a former employer. While Bureau of the Census data show

that the number of retirees increased from 18.5 million to 23.4 million

between 1988 and 1994, the first members of the baby boom generation

are age 51 and poised to enter retirement, an event that will begin to

dramatically increase the number of retirees.

Before 1980, most employers that provided retiree health coverage did so

on a lifetime basis. The trend, especially for firms with labor unions, was

to continue to improve retiree health benefits with each successive labor

contract. Beginning in the 1980s, however, sharply rising medical costs,

heightened foreign competition, corporate takeovers, the declining

bargaining power of labor, and a change in accounting standards gave rise

to attempts by some employers to modify or even eliminate retirees’ health

benefits. New accounting standards announced in 1990 changed

employers’ perception of retiree coverage by making them more aware of

the magnitude of their liabilities.

ERISA established safeguards governing the creation, operation, and

administration of most employer-based health benefits.4

 In addition, ERISA

requires group health plans covering 20 or more workers to offer 18 to 36

months of continued health coverage in certain circumstances, such as

when an employee is fired, laid off, or quits.5

 The mandate to offer such

continuation coverage does not oblige employers to share in its cost.

Finally, HIPAA has an impact on those who are seeking to transition from

employer-based group benefits to individual coverage. Effective after

June 30, 1997, the law provides uniform federal safeguards to ensure that

individuals who lose group health benefits and can afford to purchase

individual coverage have the right to do so.6

4

P.L. 93-406, 29 U.S.C. 1001 et seq.

5

This provision was added to ERISA by the Consolidated Omnibus Budget Reconciliation Act of 1986

(COBRA), 29 U.S.C. 1161 et seq. For this reason, continuation coverage is known by the acronym

COBRA.

6

P.L. 104-191.

Page 5 GAO/HEHS-97-150 Retiree Health Benefits
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Decline in Access to

and Participation in

Employer-Based

Retiree Coverage

Since the late 1980s, retiree access to and participation in private

insurance through an employer has declined. The drop in coverage—both

for those who retire early (before they are eligible for Medicare) and to

individuals who are Medicare eligible—has been reported in periodic

surveys sponsored by benefit consulting firms and by the federal

government. The erosion in coverage has been influenced not only by the

discontinuation of employer-based health benefits but also by the trend to

require greater retiree cost sharing—a factor contributing to lower

participation rates. Survey data indicate that employers are more likely to

offer coverage to early retirees than to those who are Medicare eligible.

Fewer Employers Offering

Retiree Coverage

Data from an annual survey conducted by Foster Higgins suggest a

significant decline between 1988 and 1996 in the availability of retiree

coverage from large employers with over 500 workers.7

 The data appear to

be consistent across the entire period, but the pre-1993 data should not be

viewed as authoritative because of a change in the survey methodology,

described in appendix I. The data distinguish between early retirees and

those who are Medicare eligible. Since 1993, coverage for both groups has

declined by 6 to 7 percentage points, a continuation of a trend evident

since 1988. As shown by figure 1, early retirees at large firms are more

likely than those who are Medicare eligible to be offered health benefits by

a former employer. In 1996, for example, only 33 percent of

Medicare-eligible retirees were offered health benefits compared with

40 percent of early retirees.

7

National Survey of Employer Sponsored Health Plans 1996 (New York: Foster Higgins, 1997). The

Foster Higgins survey included both public and private employers but only reported aggregated data

on the two sectors.

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Figure 1: Percentage of Large

Employers Offering Retiree Medical

Coverage, 1988 and 1992-96

Percentage of Covered Retirees

0

10

20

30

40

50

60

70

80

90

100

1988 1992 1993 1994 1995 1996

Years

Retirees Under Age 65

Medicare-Eligible Retirees

Note: Data from 1988 and 1992 are not strictly comparable with data collected after 1992.

The two primary reasons cited for the decline in employer-based retiree

health coverage are (1) new accounting standards, which highlight the

magnitude of this liability over time; and (2) rapidly rising benefit costs.

Since employers typically cover retiree health costs as they are incurred,

the liability represented by a commitment to provide benefits to current

and future retirees is largely unfunded. In 1990, the Financial Accounting

Standards Board announced the introduction of a new rule, referred to as

FAS 106, regarding these unfunded obligations. Beginning in 1993,

employers were required to include the present value of future costs for

retiree health benefits as a liability on their balance sheets. The new

standard does not require that employers set aside funds to pay for these

future costs and thus it does not affect their cash flow. However, many

financial experts are concerned because these long-term liabilities erode

equity positions and will become current obligations in future years.8

 On

the other hand, by dropping retiree coverage, a company can immediately

8

For additional information on the impact of FAS 106, see Retiree Health Plans: Health Benefits Not

Secure Under Employer-Based System (GAO/HRD-93-125, July 9, 1993).

Page 7 GAO/HEHS-97-150 Retiree Health Benefits
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improve its balance sheet. As shown in figure 1, a sharp drop in

employer-based retiree coverage occurred between 1992 and 1993. It is

difficult to determine the extent to which this 6 percent decline in a single

year stems from the expected response to the FAS 106 rule or from the

change in the survey methodology. In responding to benefit consultant

surveys, many companies cited the fact that FAS 106 results in reductions

in reported income and shareholder equity as a reason for modifying

retiree health benefits, including the phasing out of such coverage.

The late 1980s was also a period of double-digit health care inflation.

Although the growth in premiums has slowed dramatically in the past few

years, the percentage of large firms offering retiree health benefits has

continued to drop. The decline between 1994 and 1996 was especially

sharp for Medicare-eligible retirees. Among the reasons cited by Foster

Higgins for the slowdown in the growth of employers’ health care costs are

that more workers moved into managed care plans—including

retirees—and the fact that some employers dropped retiree coverage. The

Medicare program is also facing cost pressures. In 1997, the Congress and

the President reached a tentative agreement to cut about $115 billion from

the program over a 5-year period in order to reduce the program’s rate of

growth. The effect on those eligible for the program will become clearer as

legislation is debated and signed into law. Although higher beneficiary

premiums have been discussed, they may be balanced by a wider variety

of managed care plans and increased preventive care benefits.

There are several potential explanations for higher levels of employer

coverage among early retirees. First, individuals are not as likely to seek

early retirement unless they are able to continue employer-based health

benefits. A RAND study of the effect of access to post-retirement health

insurance found that the offer of continued coverage had a positive effect

on the likelihood of retirement for men aged 55 to 62.9

 Second, those who

retired early through buyouts may have been guaranteed health benefits as

an enticement to do so. Third, COBRA provides 18 months of coverage,

allowing individuals to retire at age 63-1/2 and continue with

employer-based group coverage until Medicare eligibility kicks in at age

65. Fourth, because of higher managed care enrollment among early

retirees, cost may be a less important factor in an employer’s decision to

offer or withdraw health benefits to this group. While just over one-half of

early retirees are enrolled in a managed care plan, the corresponding

figure for Medicare-eligible retirees is only 29 percent. Finally, employers

9

Lynn Karoly and Jeannette Rugowski, The Effect of Access to Post-Retirement Health Insurance on

the Decision to Retire Early, RAND Reprints: 94-13E (Santa Monica, Calif.: 1995).

Page 8 GAO/HEHS-97-150 Retiree Health Benefits
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know that coverage is available to retirees aged 65 and older through

Medicare, an option not open to younger retirees.

Other sources of private insurance appear to be filling a significant portion

of the gap created by the fact that fewer employers offer retiree health

benefits. If employer-based coverage is not available, early retirees may

purchase coverage themselves or obtain insurance through a working

spouse. Thus, between 1989 and 1995, the percentage of early retirees with

private coverage fell by only 7 percentage points compared with a much

larger drop in the number of employers offering retiree coverage.10

Coverage Influenced by

Factors Other Than

Availability

While Foster Higgins surveys employers about the health benefits they

offer, CPS data emanate from interviews with individuals, in this instance,

retired workers. As with the Foster Higgins survey, CPS data include both

the private and public sectors. Analysis of CPS data by the Labor

Department’s Pension and Welfare Benefits Administration revealed a

significant erosion between 1988 and 1994 in the number of individuals

who retain employer-based health coverage upon retirement.11 As shown

in table 1, only 42 percent of retirees aged 55 and older continued such

coverage into retirement in 1994, a decline of 8 percentage points since

1988. Moreover, the percentage of individuals with employer-based

coverage continued to decrease throughout retirement. Only 34 percent

still retained coverage several years after retirement, and an even smaller

percentage believed that their employer-based health benefits would be

available until they die. Although a smaller percentage of retirees from the

private sector have employer-based benefits at or sometime after

retirement, the decline in coverage between 1988 and 1994 can be seen in

both the public and private sectors in a roughly proportional manner.

Appendix III replicates the data in tables 1 and 2 for the private sector

only.

10GAO estimate based on Current Population Survey (CPS) data from the Bureau of the Census. See

Private Health Insurance: Continued Erosion of Coverage Linked to Cost Pressures

(GAO/HEHS-97-122, July 1997).

11U.S. Department of Labor, Pension and Welfare Benefits Administration, Retirement Benefits of

American Workers: New Findings from the September 1994 Current Population Survey (Washington,

D.C.: Department of Labor, Sept. 1995), p. 25.

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Table 1: Percentage of Retirees With

Employer-Based Coverage, 1988 and

1994

All retirees (aged 55

and older)

1988 1994

Active employees with coverage at time of retirement 69% 65%

Workers who continued coverage into retirement 50 42

Retirees currently covered by employer’s plan 44 34

Retirees who believed their employer-based coverage could

be continued for life 32 30

Source: Department of Labor, Pension and Welfare Benefits Administration.

Factors other than the actual availability of coverage are responsible for

an undetermined portion of the decline in retirees with employer-based

health benefits. According to the Labor Department, the propensity for

retirees to enroll in employer-based plans when they are offered has

dropped because of the increased costs retirees are being asked to

shoulder by employers. In both the 1988 and 1994 surveys, individuals who

declined employer-based coverage at retirement were asked to articulate

the reasons for their decision. Of the approximately 5.3 million retirees

who discontinued employer-based benefits in 1994, 27 percent cited the

expense as a factor—an increase from 21 percent in the earlier survey.

Moreover, there was a 6 percentage point increase over the same time

period in the number of such retirees who indicated that they still had

health insurance through a plan other than that of their former employer.

For example, a retiree may have access to health benefits through a

working or retired spouse.

Table 2 summarizes changes in employer/employee cost sharing for retiree

coverage. Compared with 1988, in 1994, more employers were requiring

retirees to share in the cost of coverage, a fact reflected in (1) the drop in

the percentage of firms paying the entire premium and (2) the increase in

those sharing some of the premium costs. Overall, the employee’s

contribution to premiums rose about 10 percent faster than the inflation

rate over that 6-year period. While this amount reflects the cost increase

for both single and family coverage, there was considerable variation

between the two. The inflation-adjusted employee share for family

coverage increased by almost 23 percent, while the share for single

coverage decreased by about 9 percent. Employers appear to be

encouraging retired employees to sign up for single coverage while hoping

that spouses will choose alternative sources of coverage if they are

available, for example, single coverage from their own former employer.

Page 10 GAO/HEHS-97-150 Retiree Health Benefits
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Appendix IV summarizes changes from 1988 to 1994 in costs paid by

retirees for both single and family coverage from a former employer.

Table 2: Costs Paid by Retirees for

Employer-Based Coverage, 1988 and

1994 (Includes Both Single and Family

Coverage)

1988 1994

Employee pays nothing 42% 37%

Employee pays some costs 33% 42%

Employee pays all costs 21% 19%

Don’t know/no response 4% 2%

Median annual cost to retirees (1994 dollars adjusted for

inflation) $874 $960

Source: Department of Labor, Pension and Welfare Benefits Administration.

CPS data also contain insights on the characteristics of individuals more

and less likely to have employer-based coverage. Those characteristics are

summarized in table 3.

Table 3: Characteristics of Retirees

More and Less Likely to Have

Employer-Based Health Benefits

MORE likely to have coverage LESS likely to have coverage

Work for larger firms Work for smaller firms

Have higher preretirement earnings Have lower preretirement earnings

Belong to union Are nonunion

Work in manufacturing or

communications/public utilities

Work in retail sector or service industries

Work for public sector Work for private sector

Are men Are women

Are white Are black or other race

Source: Department of Labor, Pension and Welfare Benefits Administration.

Employers’ Decisions

to Terminate

Coverage Subjects

Retirees to New Costs

and Risks

If available, employer-based group health insurance provides two

important advantages to retirees: (1) more affordable health benefits and

(2) access to benefits for those retirees whose health status might

otherwise impinge on their ability to obtain coverage in the individual

insurance market. Such insurance is affordable because many employers

continue to finance all or a significant amount of their retirees’ health

insurance costs, even though over the last decade retirees have been

required to pay an increasing share of these costs. In addition, the overall

premiums for employer-based health plans are generally lower than those

in the individual insurance market because the premiums charged to

Page 11 GAO/HEHS-97-150 Retiree Health Benefits
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employers are based on risks spread over an entire group of workers. In

contrast, premiums in the individual insurance market reflect the risk

characteristics of each applicant. These characteristics include not only

age and coverage type but also gender, health status, and geographic

differences in health care costs.12 Unless there is a state law prohibiting

price differences by age, most carriers charge higher premiums to older

applicants.

Consequently, retirees no longer covered by their former employer’s group

health plan are likely to encounter higher premiums to obtain similar

coverage in the individual insurance market. For example, before its 1996

decision to terminate health benefits to retired employees at its Milwaukee

plant, Pabst financed the total cost of practically all of the health plans it

offered to its retired workers. With the elimination of these benefits,

affected Pabst retirees who want to obtain health coverage must now

absorb its full cost, which can be a significant amount of money.

Individual retirees may be affected differently by the varying methods

insurance companies use to determine price and eligibility. Table 4

provides an example of the premiums Pabst retirees might face if they

purchase comprehensive coverage from a Wisconsin carrier to replace the

benefits terminated by Pabst.

Table 4: Comparison of Costs to

Retiree Under Age 65 Before and After

Pabst’s Termination of Health Benefits

in 1996

Annual cost to

retiree for Pabst

health benefitsa

Potential annual

cost to retiree for

individual coverage

Family coverage (retiree and spouse) $0-$1,444 $8,186.96b

Single (male applicant) $0 $4,502.76

aPabst offered its workers eight different plans and paid their full cost with the exception of one of

four plans that provided family coverage. Few employees selected the family option requiring

cost sharing. The workers who did only had to pay the difference between what Pabst paid for the

other family plans and the cost of this particular plan. This difference was about $1,444 a year.

bPremium rate charged by one carrier in Milwaukee, Wisconsin, for a standard plan for a

nonsmoker with a $250 deductible. Covering an additional dependent would bring the cost to

about $9,300. A retiree who smokes and also covers a spouse would pay about $11,000 for

coverage.

Premiums in other states could be higher or lower given the high

geographic variability of health insurance rates in the individual market.

For example, in 1996, a major carrier in New Jersey offered family

12For details on the individual health insurance market, including its structure, premium prices, the

effect of demographic characteristics, and health plans offered, see Private Health Insurance: Millions

Relying on Individual Market Face Cost and Coverage Trade-Offs (GAO/HEHS-97-8, Nov. 25, 1996).

Page 12 GAO/HEHS-97-150 Retiree Health Benefits
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coverage with a $250 deductible at an annual price of $11,825.13 The price

of similar family coverage in Maricopa County, Arizona, was only $6,264 in

1996. However, retirees in Arizona with preexisting conditions can be

denied coverage altogether, be charged a premium much higher than the

standard, or have a condition excluded from coverage.

Before the July 1, 1997, implementation of HIPAA, consumers, including

retirees entering the individual insurance market, often discovered that

they were not eligible for insurance or that their coverage was conditioned

upon the permanent exclusion of an existing health problem. Many with

specific health problems found coverage only at prohibitive prices. For

example, health insurance carriers often declined coverage for Acquired

Immune Deficiency Syndrome (AIDS) and diabetes; offered coverage but

excluded conditions such as asthma, ulcers, and glaucoma; and charged

higher premiums for plans that covered problems like anemia and

arteriosclerosis.14 Although HIPAA does not address the cost of health

insurance, it will help guarantee access to the individual market by those

with qualifying coverage from a former employer—regardless of their

health status—and will provide for the renewability of individual coverage.

Although HIPAA offers no protection to Pabst retirees whose health benefits

were terminated in 1996 or to any retiree who lost employer-based health

benefits before July 1, 1997, it will protect future retirees. Wisconsin law

requires insurers to accept individual applicants who previously had

employer-based insurance if such insurance is not self-funded,15 but it

does not apply to Pabst retirees because the firm self-funded its health

benefits.

Many states, including Wisconsin, offer a high-risk program, or “pool,” for

people who have been denied coverage or have one of a number of

specified health conditions. However, this safety net option often has very

limited coverage and lower lifetime limits. The cost of a high-risk pool can

be 50 percent more than the average or standard rate charged in the

individual insurance market for a comparable plan. The annual premium

for a single male aged 55 to 59 in Wisconsin’s high-risk pool averaged

$5,122 in 1996—over $500 more than the cost in the individual insurance

13This amount is for nonsmokers aged 55 to 59 with one child. Moreover, New Jersey restricts carriers’

premium rating practices and generally requires all carriers to set the same rate for all plan

participants within a community.

14See GAO/HEHS-97-8, Nov. 25, 1996, for a discussion of the evaluation process that health insurance

companies have used in providing access to the individual insurance market.

15Self-funded plans are those in which employers bear much of the financial risk for health claims.

Employers that self-fund are not subject to state insurance regulation. See Health Insurance

Regulation: Varying State Requirements Affect Cost of Insurance (GAO/HEHS-96-161, Aug. 19, 1996).

Page 13 GAO/HEHS-97-150 Retiree Health Benefits
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market, as shown in table 4. Wisconsin offers subsidies to families with

incomes of less than $20,000.

Limited Federal

Protection of

Employer-Based

Retiree Health

Benefits

ERISA covers both the pension and health benefits of most private sector

workers. The voluntary nature of these employer-based benefits as well as

the manner in which coverage is funded have important regulatory

implications. Consistent with the lack of any mandate to provide health

benefits, nothing in federal law requires an employer to offer coverage or

prevents cutting or eliminating those benefits. In fact, an employer’s

freedom to modify the conditions of coverage or to terminate benefits is a

defining characteristic of America’s voluntary, employer-based system of

health insurance.16 Moreover, employer-based health benefits are funded

on a pay-as-you-go basis. In contrast, the sheer magnitude of accumulated

employer-employee contributions to retirement funds necessitates a

greater degree of regulation of pension benefits. Thus, ERISA not only

requires employers to fund their pension plans but gives employees vested

rights upon meeting certain service requirements. Health benefits, on the

other hand, were excluded from such funding and vesting requirements.17

Although ERISA was passed in response to concerns about the solvency and

security of pension plans, some of its provisions, including federal

preemption of state regulations, also apply to employer-sponsored health

coverage. The preemption effectively blocks states from directly

regulating most employer-based health plans, while allowing states to

oversee the operation of health insurers.18 ERISA, however, does impose

some federal requirements on employer-based health plans. For example,

employers must

16The demise of traditional fee-for-service indemnity coverage and the growth in managed care

enrollment exemplifies the ability of employers to modify their health benefit programs. Between 1987

and 1996, employer-based managed care enrollment rose from 27 percent to 74 percent as employers

(1) altered the type and mix of health plans offered, sometimes eliminating the traditional

fee-for-service indemnity option; (2) changed employee financial incentives; and (3) used the

information provided to employees to influence their selection of health plans. See Health Insurance:

Management Strategies Used by Large Employers to Control Costs (GAO/HEHS-97-71, May 6, 1997) for

a discussion of the flexibility of large employers as well as the constraints they face in modifying their

health benefit purchasing strategies.

17GAO/HRD-93-125, July 9, 1993.

18Federal preemption is valued by employers who self-fund their health benefit plans because they can

avoid taxes, are exempt from mandated state benefits, and can offer a uniform benefit plan to

company employees located in different states. Because of the sometimes obscure distinction between

prohibiting states from directly regulating employer health coverage but allowing them to set rules for

health insurers, the courts have had to determine many of the actual implications of ERISA

preemption. See Employer-Based Health Plans: Issues, Trends, and Challenges Posed by ERISA

(GAO/HEHS-95-167, July 25, 1995).

Page 14 GAO/HEHS-97-150 Retiree Health Benefits
B-276540 

• file annual Summary Plan Descriptions (SPD) with the Department of

Labor,

• provide participants and beneficiaries access to information about the

plans,

• have a process for appealing claim denials,

• make available temporary continuation coverage for former employees

and dependents, and

• meet specific fiduciary obligations.

While ERISA protected the pension benefits of retired workers at the Pabst

Brewing Company, it offered only limited federal safeguards to retirees

participating in the firm’s health benefit plan. ERISA requires companies

such as Pabst to make an SPD available to health plan participants within

90 days of enrolling. For retirees, the SPD that was in effect at the time of

retirement is the controlling document. The SPD must clearly set out

employee rights, including “. . . information concerning the provisions of

the plan which govern the circumstances under which the plan may be

terminated.” Employers must file these documents with the Department of

Labor, the agency responsible for enforcing ERISA. According to Labor,

unless employers have made a clear promise of specific health benefits for

a definite period of time or for life and have not reserved the right to

change those benefits, they are free to cut or terminate health care

coverage. Appendix V contains an excerpt from a Labor brochure outlining

employer responsibilities/employee protections under ERISA.

Because of the federal preemption of state regulation, the rights of active

and retired employees under ERISA are determined in federal courts. In

reviewing cases involving changes to health benefit plans by employers,

several federal courts have focused on the actual language used in plan

documents and, if applicable, in collective bargaining agreements.

Virtually all employers have reserved the right to modify health benefits

for current and future retirees in such documents. However, if the

language leaves some doubt as to the nature or duration of benefits, or if

there are conflicts in the plan documents, the courts have examined

significant written and oral representations made to employees to

determine whether the employer has the right to modify retiree health

benefits.

The temporary availability of health care coverage guaranteed by COBRA to

an individual who is fired, laid off, or leaves a job is not available to

retirees whose employer terminates their health care coverage. However,

COBRA does allow covered individuals, upon retirement, to continue

Page 15 GAO/HEHS-97-150 Retiree Health Benefits
B-276540 

employer-based coverage for 18 months if their company does not offer

health benefits to retirees. Those eligible for COBRA coverage may have to

pay the entire premium plus an additional 2 percent. For many individuals,

the cost of COBRA coverage represents a rude awakening, considering that

under employer-based coverage large companies typically pay 70 to

80 percent of the premium.

Retirees whose former employers terminate coverage are ineligible for

COBRA and they also may be too late to purchase a supplemental Medigap

policy to replace any lost employer coverage. In 1994 and again in 1996, we

brought this “catch 22” situation to the attention of the Congress. An

individual turning 65 has a 6-month open-enrollment window in which to

buy supplemental Medigap insurance to cover Medicare deductibles and

coinsurance and certain uncovered services. (See app. II for a description

of Medicare benefits.) Medicare enrollees who seek a Medigap policy after

this 6-month period may be denied coverage because of a preexisting

condition. For example, a diabetic might not be able to buy supplemental

prescription drug coverage, a benefit not available under Medicare.

Similarly, if termination of employer coverage occurs after the

open-enrollment period, a retiree may be unable to obtain alternative

Medigap coverage. We suggested that the Congress may wish to consider

amending the law to provide a mechanism for retirees to obtain Medigap

insurance under these circumstances.19

Agency Comments We sought comments on a draft of this report from private sector experts

and the Department of Labor’s Pension and Welfare Benefits

Administration. The reviewers generally agreed with our presentation of

the information but provided technical suggestions that we included

where appropriate.

As agreed with your office, we will make no further distribution of this

report until 30 days after the date of this letter. At that time, we will make

copies of this report available to interested parties who request them.

19Health Insurance for the Elderly: Owning Duplicate Policies Is Costly and Unnecessary

(GAO/HEHS-94-185, Aug. 3, 1994). See also Medigap Insurance: Alternatives for Medicare Beneficiaries

to Avoid Medical Underwriting (GAO/HEHS-96-180, Sept. 10, 1996).

Page 16 GAO/HEHS-97-150 Retiree Health Benefits
B-276540 

Please call either Michael Gutowski, Assistant Director, at (202) 512-7128

or me at (202) 512-7029 if you or your staff have any questions concerning

this report. Major contributors to this report included John Dicken,

Carmen Rivera-Lowitt, and Walter Ochinko.

Sincerely yours,

Jonathan Ratner

Associate Director, Health Financing and

 Systems Issues

Page 17 GAO/HEHS-97-150 Retiree Health Benefits
Contents

Letter 1

Appendix I 

Limited but

Consistent Data on

Trends in

Employer-Based

Retiree Health Care

Coverage

20

Appendix II 

Comparison of

Medicare Benefits and

Employer-Based

Group Coverage by

Large Firms

22

Appendix III 

CPS Data on Private

Sector Retiree

Coverage and Cost

Sharing

23

Appendix IV 

CPS Data on Costs to

Retirees for Single

and Family Coverage

Through a Former

Employer

24

Page 18 GAO/HEHS-97-150 Retiree Health Benefits
Contents

Appendix V 

Excerpt From

Department of Labor

Brochure on

Employer

Responsibilities

Under ERISA

25

Tables Table 1: Percentage of Retirees With Employer-Based Coverage,

1988 and 1994

10

Table 2: Costs Paid by Retirees for Employer-Based Coverage,

1988 and 1994

11

 Table 3: Characteristics of Retirees More and Less Likely to Have

Employer-Based Health Benefits

11

Table 4: Comparison of Costs to Retiree Under Age 65 Before and

After Pabst’s Termination of Health Benefits in 1996

12

Table III.1: Percentage of Private Sector Retirees With

Employer-Based Coverage, 1988 and 1994

23

Table III.2: Costs Paid by Retirees for Private Sector

Employer-Based Coverage, 1988 and 1994

23

Table IV.1: Single Coverage—Costs to Retirees for

Employer-Based Health Benefits, 1988 and 1994

24

Table IV.2: Family Coverage—Costs to Retirees for

Employer-Based Health Benefits, 1988 and 1994

24

Figure Figure 1: Percentage of Large Employers Offering Retiree

Medical Coverage, 1988 and 1992-96

7

Abbreviations

AIDS Acquired Immune Deficiency Syndrome

COBRA Consolidated Omnibus Budget Reconciliation Act of 1986

CPS current population survey

ERISA Employee Retirement Income Security Act of 1974

FAS Financial Accounting Standards

HIPAA Health Insurance Portability and Accountability Act of 1996

HMO health maintenance organization

SPD Summary Plan Description

Page 19 GAO/HEHS-97-150 Retiree Health Benefits
Appendix I 

Limited but Consistent Data on Trends in

Employer-Based Retiree Health Care

Coverage

Despite the existence of a number of public and private surveys that touch

on the issue of employer-based retiree health coverage, only limited trend

data are available. Two surveys that include data from the late 1980s

through the mid-1990s both demonstrate a downward trend in such

coverage, but the evidence was collected from different vantage points

and the survey methodologies were not consistent across the entire time

period. The results are not strictly comparable since one survey focused

on employers, while the other was based on retiree responses. The former

asks employers if they offer coverage to retirees; the latter focuses on the

decisions of individual retirees, who may choose not to participate even

when employer-based insurance is available because of cost or the

availability of alternative coverage. In addition, changes in the

methodologies used to conduct the surveys suggest that individual

numbers should be used cautiously even though the trends appear to be

consistent.

Employer Survey by Foster Higgins. Although the Foster Higgins survey

dates from 1986, the survey methodology was changed in 1993 so that the

results could be representative of all U.S. employers rather than just those

who responded. In addition, the survey was expanded to include smaller

employers with between 10 and 500 employees, an important group that

provides health insurance to about one-third of Americans with

employer-based coverage and a group on which there were little or no

credible data. As a result of the revamped methodology, pre- and post-1993

data are not strictly comparable even though the resulting trend line

appears to be consistent. According to a Foster Higgins official, the earlier

data are not as “authoritative” as that collected after 1992. Foster Higgins

focuses on large public and private sector employers, that is, those with

more than 500 workers. Such large employers are more likely than smaller

firms to offer health benefits. While Foster Higgins reports separately with

respect to early retirees versus those who are Medicare eligible, it does not

(1) provide an overall estimate of the extent to which large employers

provide retiree coverage or (2) differentiate between the extent to which

public versus private sector employers provide benefits. Finally, the Foster

Higgins data are considered proprietary, and only the data it chooses to

release in summary form are generally available.

Retiree Survey Analyzed by Department of Labor. In contrast to the annual

Foster Higgins surveys, data from public sources are more sporadic and

not as up to date. In 1995, the Pension and Welfare Benefits Administration

in the Department of Labor released a comparison of 1988 and 1994

Current Population Survey (CPS) data on retirees. The report is based on

Page 20 GAO/HEHS-97-150 Retiree Health Benefits
Appendix I 

Limited but Consistent Data on Trends in

Employer-Based Retiree Health Care

Coverage

special supplements, sponsored by the Labor Department, to the

August 1988 and September 1994 CPS surveys. These supplements focused

on retiree health benefits. The resulting data only provide a limited picture

of employer trends because (1) they are based on interviews with retired

workers and (2) they do not always clearly distinguish between the

availability of coverage and a worker’s decision not to participate in

employer-based retiree coverage. In addition, no 1988 to 1994 trend data

were reported on an important subset of workers—early retirees. Finally,

questions about reasons for discontinuing coverage were expanded in the

1994 survey, making a precise comparison across the period difficult.

Page 21 GAO/HEHS-97-150 Retiree Health Benefits
Appendix II 

Comparison of Medicare Benefits and

Employer-Based Group Coverage by Large

Firms

Medicare benefits are more convoluted and contain more gaps than those

generally offered by large employers. For example, standard

(fee-for-service) Medicare has separate benefits for hospitalization (part

A) and physician/outpatient services (part B), with different copayments

and deductibles. Those eligible for Medicare are automatically enrolled in

part A but must pay a premium to elect part B coverage. Part A has a

relatively high deductible for each hospitalization and requires

copayments for stays longer than 60 days;20 part B has a separate

deductible, requires 20 percent coinsurance for physicians’ bills, and does

not cover prescription drugs. Neither part A nor part B has a limit on

out-of-pocket costs. In order to cover some of the gaps in Medicare

coverage, beneficiaries may purchase so-called Medigap supplementary

insurance or may enroll in a health maintenance organization (HMO)

offered through Medicare if one is available in their area. In contrast to

Medigap, some HMOs do not even charge a premium for the benefits

otherwise not covered by Medicare, but generally require beneficiaries to

use plan doctors and hospitals. Large employer coverage, on the other

hand, generally offers a single, comprehensive benefit with an associated

deductible and copayment. Normally, annual out-of-pocket costs are

capped, and health services beyond that point are reimbursed at

100 percent. In addition, benefits provided by large employers typically

include prescription drugs.

20The current deductible is $760. The copayment of $190 per day for more than 60 but fewer than 91

days of hospitalization rises to $380 per day for the 91st though the 150th days.

Page 22 GAO/HEHS-97-150 Retiree Health Benefits
Appendix III 

CPS Data on Private Sector Retiree

Coverage and Cost Sharing

Table III.1: Percentage of Private

Sector Retirees With Employer-Based

Coverage, 1988 and 1994

All retirees (55 and

older)

1988 1994

Active employees with coverage at time of retirement 65% 60%

Workers who continued coverage into retirement 42 35

Retirees currently covered by employer’s plan 37 27

Retirees who believed their employer-based coverage could

be continued for life 27 24

Source: Department of Labor, Pension and Welfare Benefits Administration.

Table III.2: Costs Paid by Retirees for

Private Sector Employer-Based

Coverage, 1988 and 1994 (Includes

Both Single and Family Coverage)

1988 1994

Employee pays nothing 50% 42%

Employee pays some costs 28% 36%

Employee pays all costs 22% 21%

Don’t know/no response 0% 1%

Median annual cost to retirees (1994 dollars adjusted for

inflation) $778 $840

Source: Department of Labor, Pension and Welfare Benefits Administration.

Page 23 GAO/HEHS-97-150 Retiree Health Benefits
Appendix IV 

CPS Data on Costs to Retirees for Single and

Family Coverage Through a Former

Employer

Table IV.1: Single Coverage—Costs to

Retirees for Employer-Based Health

Benefits, 1988 and 1994

1988 1994

Employee pays nothing 42% 34%

Employee pays some costs 37% 39%

Employee pays all costs 27% 25%

Don’t know/no response 4% 2%

Median annual cost to retirees (1994 dollars adjusted for

inflation) $753 $684

Source: Department of Labor, Pension and Welfare Benefits Administration.

Table IV.2: Family Coverage—Costs to

Retirees for Employer-Based Health

Benefits, 1988 and 1994

1988 1994

Employee pays nothing 42% 40%

Employee pays some costs 38% 44%

Employee pays all costs 17% 14%

Don’t know/no response 3% 2%

Median annual cost to retirees (1994 dollars adjusted for

inflation) $979 $1,200

Source: Department of Labor, Pension and Welfare Benefits Administration.

Page 24 GAO/HEHS-97-150 Retiree Health Benefits
Appendix V 

Excerpt From Department of Labor

Brochure on Employer Responsibilities

Under ERISA

“Can the Retiree Health Benefits Provided by Your Employer Be Cut?

“You should know—coverage can change.

“If your employer has reserved the right in the SPD and controlling plan document to change

the terms of the plan, you may lose coverage at any time during your retirement. If your

employer made a clear promise that you will have specific health care benefits for a

definite period of time or for life, and did not reserve the right to change the plan, you

should be covered.

[Text omitted.]

“—Do the SPD or other plan documents promise that health benefits after retirement will

continue at a specified level for a certain period of time?

“—If there is no specific language describing retiree health benefits in your plan

documents, it is unlikely that you have coverage.

“—If there is such language, how specific is it?

“Sometimes language covering retiree health benefits is included in the documents, but it is

too vague to stand up to a test in the courts. Conversely, there is language on employee

health benefits that has held up in court. Here is an example:

“ ‘Basic health care coverage will be provided at the company’s expense for your lifetime.’

“—Even if a specific promise is made, is there also language that gives your former

employer the right to change or terminate that specific promise or to amend or terminate

the entire plan?

“Typical language giving the employer that right might read:

“ ‘The company reserves the right to modify, revoke, suspend, terminate, or change the

program, in whole or in part, at any time.’

“This is an actual example, but other similar language may be found anywhere in the plan

documents.

“If you are an employee reviewing the current plan, it is important to remember that it can

change in the future. The documents in effect when you retire are the ones that will

determine your health benefits, if any, in your retirement.”21

(101553)

21U.S. Department of Labor, Pension and Welfare Benefits Administration, Division of Technical

Assistance and Inquiries.

Page 25 GAO/HEHS-97-150 Retiree Health Benefits
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