Fact sheet



Background: Nearly all Americans over the age of 65 or disabled Americans under 65 are eligible for the Medicare program and most of them receive care through traditional, fee-for-service Medicare. Of the nearly 41 million Americans in Medicare, almost 60 percent live in an area where they can enroll in a Medicare managed care plan, an alternative to traditional Medicare.  About 20 percent of beneficiaries who have a managed care option have chosen to enroll in a plan.  They comprise about 11 percent of the total Medicare population. 


Medicare managed health care options have been available to some Medicare beneficiaries since 1982 and Medicare has paid health plans a monthly per person county rate.   Since 1997, when it first created the Medicare+Choice program, Congress has passed legislation building on that methodology to ensure that health plans are able to administer and expand their programs to guarantee health plan choices for Medicare beneficiaries.


Most recently, in the Medicare Prescription Drug, Improvement and Modernization Act (MMA) of 2003, Congress changed Medicare+Choice into the Medicare Advantage program that will begin in 2004 and provided for additional funding to stabilize and strengthen the Medicare health plan program to further benefit people with Medicare.


Payments to Medicare Health Plans

Medicare uses monthly per person, or “per capita” (capitated), county rates to determine payments to managed care plans.   In the last decade, Congress has made several changes to how CMS must calculate these county rates.  The old methodology was based on the Adjusted Average Per Capita Cost methodology, or “AAPCC.”  Under AAPCC, CMS projected average county-level fee-for-service spending for the coming year to set the reimbursement rates for Medicare health plans  at 95 percent of the full AAPCC amount. 


Under the old AAPCC system, payment rates per county varied widely.  For example, the 1997 capitation rate for beneficiaries 65 and older for Part A and Part B services ranged from a low of $220.92 in Arthur County, Nebraska to a high of $767.35 in Richmond County, New York (Staten Island). Some states saw differences of more than 20 percent between adjacent counties.  Since county fee-for-service costs were used to estimate county managed care capitation rates, the rates reflected differences among counties and regions in fee-for-service utilization patterns and cost structures.


In the Balanced Budget Act of 1997 (BBA), Congress created a new rate-setting methodology, eliminating the direct link in the AAPCC method between managed care rates and local fee-for-service costs.  Congress broke the direct link by requiring that each year a county rate was the highest of three types of rates, each calculated differently than the old AAPCC rate.  As a result, the wide disparities in county capitation rates were reduced by bringing both high and low payment rates closer to the national average. For example, in 1998 the payment rate for Arthur, Nebraska was $367 and Richmond County, New York was $782.70 and in 2003, those rates are:  Arthur, NE, $510.38 and Richmond County, NY, $872.63).


Setting the Medicare Health Plan Payment Rates

The Balanced Budget Act mandated that the Medicare+Choice county capitation rate must be the largest of three amounts:  the minimum update amount, the floor amount, or the blend amount:


  • Minimum 2 percent increase over the prior year's rate, to protect historically high payment areas as the medical education reductions and reductions in geographic disparities took effect.


  • Minimum or "floor" amount, to   increase rates in historically lower-rate counties where Medicare managed care plans generally have not been offered. Beginning in 1998, the BBA set the floor rate at $367, and required that it increase   annually by the rate of growth of the overall Medicare program. In 2001, Congress reset the floor amount by creating two floor amounts:  a “high” floor of $525 for counties in metropolitan areas of more than 250,000 people and a “low” floor of $475 for all other counties which are adjusted annually by the rate of growth of the overall Medicare program.


  • Blended amount blending local (county) and national average per capita expenditures, to bring county rates closer to the national average. Each year, from 1998 to 2003, a greater percentage of the blend rate was based on the national rate, until a 50/50 blend was reached in 2003. Before determining the final rates, a budget neutrality adjustment is applied to the blend amounts to ensure that total managed care payments are no higher than they would be if plans were paid using only the local expenditure rates. 


The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 (MMA) returned to the idea of linking managed care rates and local fee-for-service costs.   The MMA mandated that for 2004, a fourth amount of 100 percent of projected fee-for-service Medicare (with adjustments to exclude direct medical education and include a VA/DOD adjustment) be added to the payment methodology.  For the years after 2004, the Secretary is required to recalculate 100 percent of the fee-for-service Medicare costs at least every 3 years, so at least every three years the MA capitation rate will be the higher of the fee-for-service rate and the minimum increase rate.


In addition, for 2004 and succeeding years, the MMA modifies the minimum increase (2 percent in 2003) to be the larger of:

  1. 102 percent of the previous year’s rate, or
  2. An increase by the Medicare growth percentage over the previous year’s rate, with no adjustment to this rate for over- or under-projection for years before 2004.


Under the new MMA rate setting methodology for MA organizations, in 2004 the payment rate for Arthur, Nebraska is $555.42 and Richmond County, New York is $927.63.


Charges and Benefits in Medicare Advantage Plans

Medicare Advantage plans may charge beneficiaries monthly premiums and other charges, such as copayments, for Medicare-covered services.  A plan’s average monthly charge for premiums and copayments may not exceed the national average fee-for-service beneficiary liability. For 2004, that amount is $113.07 per month.  Prior to 2006, Medicare Advantage plans may also offer additional benefits such as prescription drugs or a reduced monthly premium, and plans also may charge premiums and other copayments for certain extra benefits.  Beginning in 2006, Medicare beneficiaries will have a prescription drug benefit, and most MA plans must offer that benefit as part of the basic plan.


Risk Adjustment Takes into Account the Health Status of Beneficiaries

The purpose of risk adjustment is to use health status indicators to improve the accuracy of payments and establish incentives for plans to enroll and treat less healthy Medicare beneficiaries.  The BBA required CMS to implement a risk adjustment payment system for Medicare health plans by January 2000.  CMS initially phased-in risk adjustment with a risk adjustment model that based payment on principal hospital inpatient diagnoses, as well as demographic factors such as gender, age, and Medicaid eligibility.  From 2000 to 2003, risk adjusted payment has accounted for only 10 percent of Medicare health plans payment, with the remaining 90 percent being based on demographic factors used before the BBA was enacted (described above).


Pursuant to the Benefits and Improvements Protection Act of 2000 (BIPA), CMS implemented a new risk adjustment model that uses additional diagnosis data from ambulatory treatment settings (hospital outpatient department and physician visits).   CMS has also redesigned its data collection and processing system to further reduce administrative data burden on Medicare health plans.  In 2004, the portion of risk adjusted payment was increased to 30 percent, from 10 percent in 2003.  The 100% phase-in of risk adjusted payment will be completed in 2007; the portion of risk adjusted payment will increase to 50 percent in 2005 and 75 percent in 2006.  In addition, the “frailty adjuster” has been applied to adjust payment for frail elderly enrolled in the Program for All-inclusive Care for the Elderly (PACE) and certain demonstrations.