Managed Care Contracting -- Reimbursement Models

This is the third article in the Managed Care Contracting "Signature Series" by Managed Care Resources, Inc. -- articles on topics in managed care written by experts in the field. The authors of this article are Ira H. Rosenberg and  Michael S. Backus.


Today, consumers are flooded with a host of choices for medical insurance. Traditional indemnity, managed indemnity, Preferred Provider Organization (PPO), Point-of Service (POS) plan, and staff-model, IPA-model, and individual provider-model Health Maintenance Organizations (HMO), are all insurance products offered or administered by a host of payors including employers, trusts, insurance companies, HMOs, and TPAs. At the same time, providers are being approached by these organizations wanting to contract for their multiple products. The result can be a morass of difficult to understand terms and agreements, which is too often left for billing and collections to figure out. This article will explore the various payer-provider relationships, and offer some contracting guidelines to hopefully lessen the confusion.

Let's begin by establishing the list of participants, and their motivations for contracting. On the payer side, there are three basic groups: HMOs (including POS), PPOs (generally including self-funded employers), and IPAs (including PHOs and large multispecialty groups). These groups have varying degrees of risk for medical costs for a group of enrollees, and are seeking to minimize those medical costs. This can be done either by passing on a portion of their risk to another party, or by taking the risk but attempting to limit the amount of services used and the prices paid, and thus the cost. A fairly typical example is an HMO contracting for professional services to an IPA through a capitation agreement, after which the IPA attempts to negotiate favorable rates with its individual PCP and specialist members. Here, the HMO has effectively passed much of its risk to the IPA, while the IPA has minimized its price risk through contracting and will attempt to manage its utilization risk.

On the provider side, there are also three basic groups: hospitals, IPAs, and individual practitioners (including ancillary service companies). These groups are willing to contract with payors at discounted rates to obtain a flow of patients they would not otherwise receive. This implies that there is little if any motivation for a provider to contract with a payer at discounted rates if the payer is unwilling or unable to "steer" patients through financial or other incentives. This logic holds not only for traditional indemnity payors, but also for PPOs, employers, and workman's compensation firms that do not offer their members an incentive for using an in-network provider.

The Transactions

Based on product structure and participant characteristics, there are 6 basic payer-provider relationships to be examined:

Hospital 1 2 3
Individual Practitioner 6 5 6

1. HMO-Hospital Transactions:

In these agreements, the HMO is typically seeking an aggressive contracted rate (either per diems or a steep percentage discount), but is offering aggressive patient steerage (limited benefits for out-of-network utilization). On the surface, this is a relatively equal trade, and if the HMO has significant membership and a limited network, it may truly be that. If however, the HMO has limited membership, or is including every hospital in a market, then aggressive steerage does not really exist. Hospitals should offer per diems and discounts relative to the volume the HMO brings in the door. It is not the hospital's responsibility to make a start-up or small HMO price competitive for employers. As long as a hospital is a strong market presence in its service area, an HMO will need that hospital in its provider network to attract employers and enrollees.

For POS products, a hospital should request higher reimbursement for three reasons. First, the patient steerage is not as strong because of the out-of-network benefit. Second, the HMO receives a higher premium for the POS product, and thus can afford to pay more. Finally, from an economic theory perspective, the patient has shown a willingness to pay extra for choice, and that premium should go to the organization which has created the demand.

2. PPO-Hospital Transactions:

In these agreements, a PPO is typically seeking a 15%-30% discount from charges in exchange for placing a hospital in its preferred network. Unfortunately for the hospital, it is often unclear as to exactly what being in that preferred network means. Unless the PPO offers enrollees a specific incentive (e.g. a lower copay or deductible) to select an in-network provider, there is no real steerage of volume, and thus no reason for the hospital to offer a discount. A "true" PPO will not have a problem agreeing to contract language to that effect, and in those cases the hospital is making a reasonable trade. In addition, there should not be a problem with contractual assurances that patients will identify themselves as a member of that PPO at the time of admission through identification on their insurance card. This will help prevent later victimization of the hospital by so-called "silent PPOs."

3. IPA-Hospital Transactions:

Contracts between an IPA and a hospital often take into account special conditions and considerations that may exist between a hospital and its medical staff. Typically, the IPA has taken financial responsibility for a set of services that the hospital provides, and it is now seeking a discounted rate for those services. The hospital needs to understand that the physicians may control not only the IPA patient volume, but also volume from non-managed care patients. At the same time, the physicians must understand that an IPA is not economically viable in the absence of a hospital contract. IPAs typically seek steep discounts for outpatient services, and may also want the hospital to offer steep discounts to HMOs. As the IPAs become larger and more experienced, they often look to capitate the hospital, and thereby pass on some of the price and utilization risk previously mentioned. When executing these agreements, the following items should be kept in mind:

  • Discounts to the IPA go directly to the hospital's physicians, discounts to the HMO are shared
  • The division-of-responsibilities varies by HMO-IPA contract, and thus rates may vary by HMO in the IPA-hospital contract
  • Because of the complexity of hospital billing for outpatient services, only execute contracts with easily "implementable" terms

4. HMO-IPA/PHO Transactions:

In these agreements the HMO is typically seeking to pass on risk to a group of physicians or a PHO through capitation. This may include risk for professional services, (sometimes called a Part-B cap) or risk for virtually all services (often called a full-risk contract). The type of contract is usually a function of the relative strength of the HMO and the physician group. The greater the relative strength of the IPA/PHO, the more risk they can demand, and the higher percentage of premium they can receive.

The HMO-IPA/PHO agreements are some of the most complex and difficult to administer because of the use of different funding pools for different services. Often, the contracts will be silent on the classification of some services, and different HMOs may classify the same services differently. For example, a contract may not specify which funding pool lithotripsy services go into. The difficulty may be compounded by one HMO classifying it as an outpatient surgical procedure, and another considering it a simple outpatient treatment. Thus, it is imperative that both sides have a detailed picture of the division of responsibilities between the pools, knowledge of the circumstances that cause a service to move between pools, and agreement between their respective information systems.

5. PPO-IPA and Individual Practitioner Transactions:

For these agreements, IPAs and Individual Practitioners are grouped together because the IPA is typically just executing the agreement for its members, and is not involved in the claims submission and payment process (there are exceptions where an IPA may become involved in claims repricing.) As in the PPO-Hospital agreements, the PPO is typically seeking either a 15%-30% discount, or offering physicians a set fee schedule. Most fee schedules are a derivative of either Medicare's RBRVS system or the McGraw Hill system. For an individual practitioner, these are generally "take-it or leave-it" type discussions. If the fee schedule is appropriate, there is an element of patient steerage, and the PPO has a strong local presence, then the contract is probably acceptable. Physicians should have questions, however, about groups that "broker" their provider lists or about the value of being in a "national" PPO. After all, how many enrollees living in California are looking for a physician in North Carolina?

For the IPA/PHO, there are additional considerations. Often, because the IPA represents a large group of physicians and because it can streamline administrative processes such as credentialing, the IPA may be able to negotiate a non-standard fee schedule. Or, if the physicians are well organized and the IPA is used to managing utilization, it may be able to receive either a monthly utilization management fee or qualify for an annual utilization incentive payment.

6. HMO and IPA-Individual Practitioner Transactions:

These agreements are usually either discounted fee-for-service or capitation arrangements. Primary care physicians (PCPs) are typically offered a capitation payment to provide all of a members basic care, and for management of their specialty care. Capitation rates are age/sex adjusted, and may also be adjusted for copayments. When dealing directly with an HMO, a PCP can expect to receive an average cap payment of approximately $12-13 per member per month (PMPM) for a commercial member, and slightly over $20 PMPM for a Medicare member. In most IPAs the PCPs have a stronger voice over reimbursement, and thus capitation rates tend to be $1-2 PMPM higher. Capitation "works" for a PCP when their panel size approaches 100 members. Many HMOs and IPAs will provide a PCP with a fee-for-service equivalency guarantee if their panel is smaller than that. In addition, because the PCP is taking utilization risk, they should be eligible for a utilization bonus at the end of the year.

For specialists, the predominant reimbursement methodology is still discounted fee-for-service. Most HMOs and IPAs have standard fee schedules with rates similar to Medicare's, or slightly higher for tertiary services. Because the specialist is not taking utilization risk, they are generally not eligible for a utilization bonus.

Capitation for specialists is more difficult than for PCPs. The IPA or HMO desires capitation agreements because they successfully pass on all cost risk to another party. With the proper economic incentives established, the need for extensive utilization management is lessened, as is the need for claims processing and the monitoring of claims coding. There is a price to be paid for capitation's 15%-20% savings. Capitation forces the PCPs to agree on using only one group or one provider which can disrupt traditional referral patterns and lead to splits within a hospital's medical staff.

For capitation to be economically viable for a specialist, there should be between 15,000 and 25,000 commercial members or more than 5,000 Medicare members, depending upon the specialty. Many of the small IPAs simply do not have that many members. In addition, there is no guarantee that if a specialist receives a capitation contract, they will also receive fee-for-service referrals from those same PCPs. On a long term basis, specialists, indeed almost all practitioners, will probably need to change their economic model so that they can operate profitably on capitation-level reimbursement.

When executing a specialty capitation agreement, a specialist should look for a few key items:

  • Rates will be adjusted if the division of responsibilities changes
  • Annual utilization data will be considered in negotiation of the next contract
  • Utilization incentives exist because the specialist is bearing utilization risk
  • The IPA is responsible for out-of-network usage within that specialty, not the specialist


Successful contracting depends upon understanding each party's motivations, strengths, and operational limitations. Then, work towards an agreement that meets your particular requirements while allowing for adjustments in the future. If negotiations are conducted in a mutually respectful manner, the result will be an agreement everyone can live with.

For more information on Managed Care Contracting please contact us at (630) 325-6543 or by email at .

I hope that you will join us as we explore all of the elements of managed care contracting in the coming months. In addition, we also offer a "Signature Series" on "Medical Management Under Managed Care". We hope that the two series combined will lessen the mystery of managed care and help level the playing field between providers and payers.

Ira H. Rosenberg

Ira H. Rosenberg

President, Managed Care Resources, Inc.

The Managed Care Resources, Inc. team has over 150 years of combined experience in the development and implementation of managed care services. Please visit our home page to learn more about how we can assist you with your managed care needs. We also invite you to contact us with questions or comments.

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