IRS Issues Medical Loss Ratio Computation Rules

The Internal Revenue Service has released final regulations that provide guidance to Blue Cross and Blue Shield organizations, and certain other qualifying health care organizations, on computing and applying the medical loss ratio (MLR) under Code Sec. 833(c)(5). These regulations are effective on Jan. 7, 2014, and apply to tax years beginning after Dec. 31, 2013. These rules adopt the provisions as originally proposed with some modifications, and were published in the January 7 Federal Register.

For purposes of Sec. 833, an organization’s MLR is its percentage of total premium revenue expended on reimbursement for clinical services provided to enrollees under its policies during the year. The MLR numerator is the organization’s total premium revenue expended on reimbursement for clinical services provided to enrollees and the MLR denominator is the organization’s total premium revenue for the tax year, after excluding federal and state taxes and licensing or regulatory fees and after accounting for payments or receipts for risk adjustment, risk corridors, and reinsurance. The MLR numerator does not include costs for activities that improve health care quality.

For purposes of Sec. 833(c)(5), the amounts used are based on those reported under Public Health Service Act (PHSA) Sec. 2718 for the current and two preceding tax years, subject to the same adjustments that apply for purposes of PHSA Sec. 2718. However, the final regulations contain transition rules to phase in the three-year period for tax years beginning in 2014 and 2015. Thus, for the first tax year beginning after Dec. 31, 2013, an organization’s MLR is computed based on its total premium revenue expended on reimbursement for clinical services provided to enrollees and its total premium revenue for that year.

The final regulations also provide that a change in an organization’s eligibility for treatment under Sec. 833 solely because it fails to have an MLR of at least 85 percent will not be treated as a material change in the organization’s operations or in its structure for purposes of Sec. 833(c)(2)(C). Finally, Notice 2011-4, and Rev. Proc. 2011-14, which provide procedures for an organization to obtain automatic consent to change its method of accounting for unearned premiums to apply Sec. 833(c)(5) continue to apply and are not superseded by the final regulations.

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