Trump Administration Leverages Medical Loss Ratio Requirements to Help Address Problem of Drug “Spread Pricing” in Medicaid Managed Care

In a welcome move, the Centers for Medicare and Medicaid Services (CMS) issued highly technical guidance on May 15, 2019 which could help address the inappropriate use of “spread pricing” by pharmacy benefit managers (PBMs) in Medicaid managed care.

Many managed care plans contract with PBMs to administer the pharmacy benefit for their enrollees.  But as Ohio, Pennsylvania and Kentucky have found, PBMs in their states have been charging Medicaid managed care plans for pharmacy claims costs well in excess of the actual costs of reimbursing pharmacies for drugs dispensed to beneficiaries, net of any supplemental rebates the PBMs obtain from drug manufacturers.  The PBMs retain the difference, known as the “spread,” as profit.  That, in turn, artificially inflates the capitation payments that states must pay managed care plans, resulting in higher overall federal and state Medicaid costs.

Under Medicaid managed care regulations finalized in 2016, CMS required states to set capitation payment rates for managed care plans at levels projected to result in a Medical Loss Ratio (MLR) of 85 percent.  (CMS did not require states to set a minimum MLR or to collect remittances if plans fail to meet a state’s minimum MLR requirement although states could choose to do so.)  The MLR is the share of plan payments that goes to enrollees’ claim costs, rather than for administrative costs and profit.  The new guidance reiterates that the Medicaid managed care regulations require that any prescription drug rebates received and accrued (whether by the plan itself or by a contracted PBM) must be deducted from incurred pharmacy claims for purposes of the MLR calculation.  The guidance states that PBMs must report to managed care plans all revenue and expenditure information necessary for the plans to calculate its MLR, including accurate reporting of amounts paid to pharmacies minus any rebates.  In addition, CMS indicates it will begin working with states to conduct audits of Medicaid managed care plans in order to ensure that net PBM costs are accurately incorporated into MLR calculations.

This guidance would better ensure that managed care plans’ MLR calculations reflect their net pharmacy costs even if the prescription drug benefit is administered by a contracted PBM.  By leveraging the MLR requirement to promote greater transparency in this manner, the CMS guidance could make it less likely that PBMs spread pricing occurs and that capitation payments to managed care plans are inflated.

States, however, can take their own steps to more directly address the problem of spread pricing.  As we have recommended, states could periodically audit both their Medicaid managed care plans and their contracted PBMs to ensure that states are effectively receiving the full benefit of any rebates (and other cost savings) in the form of lower net pharmacy costs and reduced monthly capitation rates.  Moreover, as Ohio has done, states could also include explicit provisions in their managed care contracts that prohibit PBM spread pricing and require full pass-through of any supplemental rebates from contracted PBMs to plans (and in turn, to state Medicaid programs).

Edwin Park is a Research Professor at the Georgetown University McCourt School of Public Policy’s Center for Children and Families.