Health insurance provides protection against the financial risks associated with illness or injury. Consumers who enroll in health insurance plans pay premiums for a specified set of benefits. When insurers set premiums they include the cost of a set package of medical benefits as well as other costs such as overhead. In broad terms, a medical loss ratio (MLR) measures the share of enrollee premiums that health insurance companies spend on medical claims, as opposed to other non-claims expenses such as administration or profits. Many states, as the primary regulators of health insurance, have their own MLR requirements, which they use to evaluate companies and compare health plans. (See Appendix B for data on state MLRs.) Private entities, such as stock and bond analysts and lenders, also use various MLR data when assessing the financial performance of health insurers. In general, the higher the MLR, the more value a consumer receives for each dollar of paid premium. For example, an 85% MLR means that 85% of premium dollars paid into a plan are paid out in the form of benefits. A 75% MLR means that just 75% of premium dollars are used for benefits. The MLR is an aggregate measure. Because the ratio is based on a health plan's overall performance, some enrollees may pay more in premiums during the course of a year than they receive in benefits, while others may receive benefits that far exceed their premium payments. Section 1001 of the Patient Protection and Affordable Care Act (ACA, P.L. 111-148 , as amended) imposes a federal, minimum MLR requirement on fully funded health plans, which are plans where insurance companies assume the full risk for medical expenses incurred. Beginning with calendar year 2011, covered insurers have been required to submit reports to the Department of Health and Human Services (HHS) detailing the share of premium dollars spent for medical benefits (which may include certain quality improvements), and the share allocated to administrative expenses and profits (minus certain taxes, fees, and other expenses). The MLR requirement is intended to provide "greater transparency and accountability around the expenditures made by health insurers and to help bring down the cost of health care." Insurance companies must issue rebates to policyholders each year that they do not meet ACA MLR standards for individual, small group, and large group policies. The HHS in July 2014 announced that, based on 2013 performance, insurers would be required to issue $332 million in rebates to 6.8 million consumers. That compares to $504 million in rebates to 8.5 million individuals for 2012, and $1.1 billion in rebates to 12.8 million individuals for 2011 plan performance. This report provides a detailed description of the ACA requirements for MLR reporting and rebates as specified in regulations, including MLR reporting requirements under ACA, components of the MLR formula, state flexibility and waivers, and the nature of rebates to policyholders. The report also addresses issues that have been raised about the MLR provisions since the ACA was enacted, namely the treatment of insurance commissions paid to brokers and agents. The ACA MLR standards require that covered insurers in the individual and small group markets meet a minimum MLR of 80%. For insurers that sell large group plans, the minimum MLR is 85%. The higher MLR requirement for the large group market accounts for economies of scale; in other words, it is more efficient to sell insurance to a large company that will offer coverage for many individuals and families than it is to have to market a product to one individual at a time, or to firms that cover a smaller group of individuals. Thus, the higher MLR standard for large companies reflects their assumed lower administrative costs. For purposes of calculating the MLR, the ACA defines large group policies as policies sold to employers with more than 100 workers, and small group policies as those of up to and including 100 workers. Individual policies can be policies bought through an insurance agent or broker, or through an association that is not part of a larger group policy. An individual plan can also be purchased through a state health exchange established under the ACA. In addition, MLR reporting requirements exclude premiums and claims experience of newly introduced health insurance offerings, under certain circumstances. The ACA required health insurers to provide their first MLR reports to the HHS by June 1, 2012, detailing financial activity for 2011. Likewise, MLR reports for 2012 and 2013 were due by June 1 of the following year. Beginning with the 2014 benefit year, insurers must provide MLR reports to HHS by the following July 31. Each insurer covered by the law must report aggregated activity within each state for the three market segments: large group, small group, and individual policies. If a group policy covers workers in more than one state, the activity is recorded in the state where the policy is issued. HHS rules allow penalties to be imposed on companies that do not comply with reporting, auditing, rebate, or other requirements, equal to $100 per entity per affected individual each day the insurer is out of compliance. The ACA generally requires fully funded health insurers offering coverage (including grandfathered health plans) to report their MLRs. For-profit, fully funded insurers provided their first MLR reports to HHS by June 1, 2012. The ACA imposes separate MLR standards for Medicare Part D prescription drug plans and Medicare Advantage Plans (MA), which are plans that provide private insurance options, such as managed care, to Medicare beneficiaries who are enrolled in both Medicare Parts A and B. Effective in 2014, the ACA requires coverage sold through these programs, with some exceptions, to achieve a minimum 85% MLR. MA and Part D contracts that do not meet this standard will have to pay HHS an amount equal to their total revenue multiplied by the difference between the 85% goal and their actual MLR. If MA and Part D contracts have an MLR below 85% for three consecutive years, enrollment will be restricted. If a contract is out of compliance for five consecutive years, the contract will be terminated. (See " Medicare Advantage and Part D Drug Plans .") The HHS provided additional adjustments to the MLR formula for two less common types of health insurance: expatriate and mini-medical policies. Expatriate plans are group policies that can cover employees working outside their home country or non-U.S. citizens working for American firms in their home country. Mini-medical plans subject to the additional adjustments have total annual benefit limits of $250,000 or less. Because of the unique characteristics of these plans, HHS determined that insurers would have difficulty meeting minimum MLR requirements. (See Appendix C .) Congress included language in the Consolidated and Further Continuing Appropriations Act of 2015 ( H.R. 83 , P.L. 113-235 ) exempting expatriate insurance plans from MLR reporting requirements, beginning with plans issued or renewed after July 2015. The MLR requirement does not apply to self-funded plans, which are health care plans offered by businesses in which the employer assumes the financial risk for medical care. During 2012, 58.6% of private sector insurance enrollees obtained health coverage through self-funded plans. Medigap plans, which are supplemental policies that Medicare beneficiaries can purchase to fill gaps in Medicare coverage, are not covered by the ACA MLR provisions. Medigap plans are subject to their own separate MLR requirements, found in Title 18 of the Social Security Act; the MLR requirements are 65% in the individual marketplace and 75% in the group market. The HHS defines expatriate plans as group policies that provide coverage to employees, substantially all of whom are working outside their country of citizenship, working outside of their country of citizenship and outside the employer's country of domicile, or non U.S. citizens working in their home country. Finally, the ACA's MLR requirements do not apply to long-term care, dental, vision, or retiree health insurance. The federal MLR represents the percentage of premium dollars spent on medical claims and quality improvement activities. Mathematically, the formula for calculating the MLR is displayed in the text box below. The numerator is the sum of medical claims plus quality improvement expenditures. (This differs from the general approach of state insurance regulators, where the numerator is only medical claims.) The federal MLR denominator is earned premiums minus taxes, licensing, and regulatory fees. Specific details about how each of these components is defined and measured are important in deriving the MLR for each insurer and, thus, the potential rebate to policyholders. The ACA directed the National Association of Insurance Commissioners (NAIC) to recommend the factors that should go into each component of the MLR formula. In December 2010, HHS published interim final regulations to implement the MLR provisions, based largely on a model regulation drafted by the NAIC. Since then, HHS has issued corrections and amplifications to the rule, including a final regulation on May 16, 2012. The following sections provide greater detail on each of the components of the MLR formula, as described in the HHS regulations. As illustrated in Figure 1 , increases in either medical claims or quality improvement expenditures (holding other factors constant) will increase the MLR and reduce the likelihood of premium rebates to policyholders. Conversely, reductions in medical claims and/or quality improvement expenditures (holding other factors constant) will decrease the MLR and increase the likelihood that insurers will have to provide rebates to policyholders. The definition of medical claims (also called health care benefits or clinical services) is based on direct claims incurred (prior to reinsurance) during the applicable MLR reporting year, with adjustments for reserves. In addition, MLR rebates to policyholders are excluded from the medical claims measure. This prevents insurers from passing on the costs of any rebates to policyholders in subsequent years.