Solutions for Medicare Sustainability

Medicare is one of the largest federal programs and provides health insurance for people age 65 and older in addition to people under age 65 who qualify with long-term disabilities. In 2023, nearly 67 million Americans relied on the program for health insurance and net Medicare spending totaled $839 billion, or 13.7 percent of the federal budget. As part of Solutions Initiative 2024, seven leading organizations with policy expertise — the American Action Forum (AAF), the American Enterprise Institute (AEI), the Bipartisan Policy Center (BPC), the Center for American Progress (CAP), the Economic Policy Institute (EPI), the Manhattan Institute (MI), and the Progressive Policy Institute (PPI) — proposed recommendations to strengthen Medicare while maintaining quality of care.

The Cost of Medicare is Rising

Medicare spending totaled 3.1 percent of gross domestic product (GDP) in 2023 and is projected to climb to 5.4 percent of GDP by 2054. The rise in spending is broadly influenced by two factors — increasing enrollment and steady growth in costs. The share of the U.S. population age 65 and older has been growing rapidly for more than a decade and thereby has increased enrollment in Medicare. As prices of healthcare services rise, inefficiency in the system persists, and healthcare markets consolidate, spending on Medicare will continue to grow.

How is Medicare Financed?

Medicare is financed by two trust funds: the Hospital Insurance (HI) Trust Fund and the Supplementary Medical Insurance (SMI) Trust Fund. The HI Trust Fund covers Medicare Part A (hospital care) and collects its income primarily through a payroll tax. The SMI Trust Fund supports both Part B (medical insurance for physician and clinical services) and Part D (prescription drugs) and receives around one-quarter of its funding from premiums paid by beneficiaries with much of the remainder coming from the federal government’s general fund. Part C, also known as Medicare Advantage (MA), allows for beneficiaries to enroll in private health plans to receive benefits for Parts A, B, and oftentimes D, and is financed by both the HI and SMI trust funds; its income derives from a combination of the general fund, payroll taxes, premiums paid by beneficiaries, and out-of-pocket charges.

All told, payroll taxes and premiums only cover about half of the program’s cost. The Medicare payroll tax rate of 2.9 percent, paid by both employers and employees, has remained the same since 1986. Premiums are based on income; the standard premium in 2024 for Part B is $174.70 for individuals with a Modified Adjusted Gross Income (MAGI) of $103,000 or less ($206,000 or less for married couples). Greater levels of MAGI result in higher premiums, with the maximum premium totaling $594. Without reform, the HI Trust Fund is projected to become depleted by 2036 as current revenues will not keep pace with rising healthcare costs. While the SMI Trust Fund solvency is not in question, growing SMI spending will require increases in premiums paid by beneficiaries’ premiums and general revenue contributions, thereby putting pressure on both households and the federal budget.

Reforms to Medicare Spending

Participants in Solutions Initiative 2024 offer a wide range of options to reduce Medicare spending — from retaining the basic structure of Medicare and attempting to make it more efficient to substantially altering operations of the program.

Modify Coverage Provisions

In its initial creation, Medicare only included Part A and Part B. Congress authorized Parts C and D later (in 1997 and 2003, respectively) to provide beneficiaries more options for their healthcare and to protect seniors from high drug expenses they might not be able to afford. Elements of Medicare are not well understood by the public and interactions among the various parts of Medicare can be complex. For example, beneficiaries enrolled in Part A must meet a deductible for inpatient hospitalizations and are subject to cost sharing for some hospitalizations and qualifying skilled nursing stays. Beneficiaries enrolled in Part B typically pay a monthly premium that is income-adjusted, along with an annual deductible and coinsurance rates on services under the program. Part D is an optional drug benefit that beneficiaries can enroll in, and the plans vary in terms of premiums, deductibles and cost sharing. Many traditional Medicare beneficiaries purchase Medigap insurance, a supplemental product that helps them afford the care they need since the program does not have an out-of-pocket cap.

As part of Solutions Initiative 2024, AEI, PPI, and CAP propose new benefit designs to consolidate, change, and simplify the structure of the program for older Americans. AEI would combine benefits under Parts A, B, and D while capping out-of-pocket costs at $8,500 and simplifying cost-sharing arrangements. Under PPI’s “Medicare One” proposal, Parts A, B, and D would also be streamlined — with one premium, annual deductible, copayment rate, and an out-of-pocket cap that covers hospitals, physicians, and prescription drugs. CAP similarly proposes a “Medicare 2.0” program that would cover those parts of Medicare as well as adding dental, vision, and hearing benefits as well as long-term services (specifically home- and community-based services), which PPI would only cover if fully financed by increasing income-based premiums. CAP’s plan also limits out-of-pocket expenses for enrollees (at $0 for those with low incomes and $5,000 otherwise). EPI proposes to universalize access to basic health insurance. Because EPI’s proposal seeks to make health insurance for every citizen the responsibility of the federal government, it would have implications beyond Medicare and into the commercial and Medicaid markets. Changing premium and cost-sharing rules for Medicare could allow providers to operate more efficiently, which could lead to higher quality of care or reduced costs, but lawmakers would need to consider how they want to restructure the trust funds since different parts of Medicare are currently financed through different means.

Change How Traditional Medicare and Medicare Advantage Compete

Many beneficiaries choose to enroll in Medicare Advantage, in which private health insurance plans submit bids to Medicare for the right to offer benefits to enrollees using various approaches to premiums, cost-sharing, out-of-pocket liabilities, and provider networks. MA plans must cover the benefits available under traditional Medicare, but also frequently offer extra benefits such as vision, dental, and hearing coverage to their enrollees. Under traditional Medicare, the government pays participating providers fee-for-service (FFS) payments when a beneficiary uses services; under MA, a plan receives payment from the government to provide care for beneficiaries they enroll, and they then turn around and pay their network providers payments for care consumed by those beneficiaries.

In Solutions Initiative 2024, several of the organizations put forward proposals that set up a different financing structure than exists today to increase cost-consciousness by beneficiaries and providers while encouraging greater competition between traditional Medicare and Medicare Advantage (and among MA plans). AAF, AEI, and MI propose converting Medicare to a “premium support” model where Medicare beneficiaries receive subsidies to select their coverage from competing private health plans and traditional Medicare. The intent behind such a change is twofold: to give Medicare beneficiaries a financial incentive in their coverage selection to be cost-conscious; and to make traditional Medicare and private plans compete for selection to stimulate competition in the market. AEI and MI propose similar plans that would set the regional premium benchmark at the weighted average of all bids, including the traditional FFS bid, with weights equal to the proportion of beneficiaries enrolled in that plan in the preceding year. AEI would use the second lowest bid and MI would use the local midpoint bid to determine the premium. AAF would take a different approach and charge Medicare beneficiaries a premium equal to the difference between the average cost of Medicare fee-for-service and the 25th percentile of MA bids. BPC and PPI also include a nod to stimulate competition between traditional Medicare and MA, though such proposals are less specific and are not combined with a premium support model. Policies that increase competition among plans should incentivize them to keep premiums low and restrain cost growth over time; critics of premium support models argue that such designs could increase costs for beneficiaries if the annual subsidy amount does not adequately reflect or keep up with underlying Medicare cost growth.

Address Medicare Advantage Payments

Enrollment in MA has steadily increased over the last two decades to the point where more than half of eligible Medicare beneficiaries are enrolled in an MA plan. Today, MA is more expensive for the government than traditional Medicare because of the formula that the Center for Medicare and Medicaid Services (CMS) currently uses to pay plans and because the cost-saving areas of MA predominately benefit the private plans rather than the government. BPC and CAP would reduce overpayments for MA plans by benchmarking spending closer to traditional Medicare. For example, both organizations suggest modifying CMS’s risk-adjustment methodology within MA (which is used to calculate how much to pay MA organizations for each beneficiary enrolled in a MA plan based on differences in health status and expected utilization of services). The intent of doing so is to minimize the financial incentive for providers to upcode, which is when a healthcare provider submits a code that inflates the seriousness of a service rendered in order to receive a greater reimbursement from insurance.

Reform Medicare Provider Payments

In general, treatments performed at a hospital outpatient department (HOPD) are paid at a higher rate than the same treatment at a physician’s office or ambulatory surgical center (ASC). Expanding the use of site-neutral payments, where healthcare services are reimbursed at comparable rates for delivering treatment regardless of site of care, is also a popular Medicare reform option from Solutions Initiative 2024 participants (AEI, BPC, and PPI). AEI would pay all hospital-owned physician offices located off-campus at the physician office rate and pay HOPDs at the physician office rate for certain services. BPC recommends implementing a site-neutral policy similar to MedPAC’s 2023 proposal that would align payment rates across on- and off-campus HOPDs, ASCs, and physician offices for a subset of services. PPI’s site neutrality plan would do three things — certain services performed at on-campus HOPDs would be paid at rates equivalent to those paid under the Medicare physician fee schedule (MPFS) that applies to physicians’ offices, Medicare payments for all off-campus HOPD services would be set at the MPFS-equivalent rate, and select procedures performed at ASCs would be subject to site-neutral payment rates. Bipartisan support exists for site-neutral payments as there is little to no evidence that the quality of care is better when provided in a hospital setting compared to other facilities. Site-neutral payments would also affect out-of-pocket costs and cost sharing for Medicare patients, in addition to savings for people covered by private insurance.

However, reductions to payment rates for a wider range of services could negatively impact the balance sheet of many hospitals. MedPAC’s most recent report found that hospitals’ aggregate all-payer operating margin in 2023 (which measures how much net revenue a hospital makes on each dollar of sales after paying for operating expenses) remained below pre-pandemic levels. There is considerable variation in margins (-5 percent to positive 10 percent), which are dependent upon trends in patient volumes, higher labor and supply costs, as well as the end of federal COVID-19 funds. For-profit hospitals tended to fare better in terms of recouping costs compared to non-profit hospitals.

Raise Eligibility Age

Since the program debuted, the Medicare eligibility age has been 65 years old. When Medicare was first established in 1965, a 65-year-old man could expect to live another 12.9 years and a 65-year-old woman another 16.3 years, on average. As of 2023, average life expectancy has risen by five years for men and four years for women (17.9 years for men and 20.5 years for women). AEI proposes to gradually increase the Medicare eligibility age to 67 to reflect improved life expectancy and match the retirement age for Social Security. An increase in the eligibility age would mean a prolonged reliance on other forms of health insurance, such as from one’s employer or direct purchase.

Reforms to Medicare Revenues

The participating organizations also address revenues dedicated to Medicare through the HI payroll tax. One organization, MI, proposes increasing the HI payroll tax rate by one percentage point to a total rate of 3.9 percent. MI notes that an increase in the payroll tax “is necessary because Medicare faces a 30-year cash shortfall of $49 trillion ($87 trillion including interest costs) that cannot be addressed on the spending side alone.” CAP proposes increasing the Additional Medicare Tax (an additional 0.9 percent tax levied on married households filing jointly making above $250,000); AAF, in the other direction, advocates for a repeal of that tax. PPI would take a different approach and repeal all payroll taxes over 5 years, including both the HI tax and Additional Medicare Tax, and instead rely on more progressive taxes on consumption. Increasing the payroll tax could be simple to administer and is unlikely to cause financial strain for a majority of Americans, but there is a chance that it could disproportionately affect lower-income households whose income is mostly wage earnings.

Conclusion

Medicare is a core entitlement program that faces financial uncertainty without reform. As costs continue to climb and the population ages, it is even more urgent for lawmakers to take action to ensure Medicare’s security while maintaining quality of care. The good news is that there are many policy options available, and all seven organizations that participated in Solutions Initiative 2024 propose ideas to strengthen Medicare while also improving America’s overall fiscal outlook. For more information about Solutions Initiative 2024, check out the plans and see how the organizations propose putting the United States on a more fiscally responsible path.

Related: Budget Basics: Medicare

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