A Guide to Measuring the Value of Medicare Advantage

Holding down the cost of government health programs like Medicare is key to maintaining their future viability. An important question for this task is quantifying how much traditional fee-for-service Medicare (FFS) and Medicare Advantage (MA) cost relative to each other given Medicare’s outsized fiscal footprint. The question is simple, but the answer is not. In this Prognosis, I unpack what complicates this issue and highlight conclusions researchers have drawn.

The Different Designs in Medicare

FFS enrollees receive hospital coverage from Part A and other medical coverage through Part B, with separate cost-sharing for each and generally only a premium for Part B. They must purchase Part D prescription drug coverage and supplemental coverage separately, including to cap out-of-pocket expenses. MA offers Part A and B coverage, and usually Part D and supplemental benefits, through an integrated insurance plan. MA plans receive fixed payments, which incentivize plans to keep down health care costs. However, they must spend at least 85 percent of their revenue on care (as opposed to administrative costs and profits) and cap enrollees’ out-of-pocket expenses.

MA payments are based on plan bids (their estimated cost of providing Part A and B coverage), bidding targets called benchmarks that incorporate FFS costs, and other payment adjustments. MA plan bids suggest they can cover basic Medicare benefits at roughly 80 percent of FFS costs on average, according to bid data analyzed by the Medicare Payment Advisory Commission (MedPAC). This would mean that their health care spending is lower for the same set of benefits. But other factors increase their payments above the bid amount:

1. Plans that bid below the benchmark receive 50 to 75 percent of the difference as a “rebate” that they must spend on lowering premiums, reducing cost-sharing, or providing extra benefits such as dental, vision, hearing, or gym memberships. The federal government retains the rest of the difference.
2. Plans with high “star ratings” on quality metrics receive higher benchmarks and larger rebates.
3. Plans with enrollees who have higher estimated health care costs get higher payments through “risk adjustment.”

Using MA’s payment formulas, it’s relatively simple to compare MA payments with FFS spending in total or on average. But this still isn’t an apples-to-apples estimate.

How Do Researchers Compare Costs?

Spending differences could potentially be due to differences in the enrollee population for each program. Estimating the cost of MA relative to FFS in a meaningful way therefore requires comparing how much the government spends on each MA enrollee with how much it would spend if that same enrollee was in FFS instead. Numerous studies have compared the ratio of total MA payments with total FFS spending, but different approaches yield different results.

A few major factors that impact estimates of relative MA costs are:

1. Coding intensity. Comparing costs requires accounting for the health risk of enrollees in each program. Medicare quantifies this with a “risk score” for each enrollee based on demographics and medical diagnoses. However, since MA plans get paid more for patients with higher risk scores, which is generally not the case in FFS, they have more incentive to report medical diagnosis codes more thoroughly. An MA enrollee might therefore appear healthier if he were enrolled in FFS because his MA plan reports more diagnoses, not necessarily due to differences in his underlying health. Current law requires a reduction in MA risk scores of at least 5.9 percent to account for this, but if actual coding intensity is higher (as most studies suggest it is on average), then researchers need to account for it in their estimates.
2. Favorable selection. MA payments are based on the average level of spending for an enrollee with a particular risk score. But research suggests that MA tends to attract enrollees with lower health care spending than average, which would mean MA payments may be higher than if the same patient was enrolled in FFS, even after accounting for coding intensity.
3. Benchmark population. Comparing per enrollee spending in MA and FFS assumes that an enrollee is eligible for both programs. However, MA benchmarks incorporate total FFS spending, including cost data from enrollees who are ineligible for MA because they lack both Part A and B coverage. This factor suggests that MA payments would be higher if they were based on the comparable, MA-eligible population.
4. Spillover effects. Lower MA spending on health care benefits may partly be due to favorable selection but also may be because MA plans manage coverage differently to reduce low-value utilization. One example is prior authorization of services, which is rare in FFS. Increased MA enrollment requires more providers to adapt their care delivery practices, which may lead to systemic cost savings and lower FFS spending in ways that a direct comparison cannot capture.

What the Evidence Says

So, how much does MA cost relative to FFS? Several studies find that MA costs more than FFS for comparable enrollees, but none looks at every factor above.

Medicare researchers tend to closely watch MedPAC estimates, since it is a congressionally sanctioned body. Their 2024 estimates find that MA payments are roughly equal to FFS spending, but that adjusting for coding intensity and favorable selection brings it to 122 percent of FFS spending. Even MedPAC’s estimate has shifted over time – their previous methodology estimated coding intensity differently and excluded favorable selection. Under this approach, in 2023 MedPAC estimated MA payments at 106 percent of FFS costs. In neither figure does MedPAC directly adjust for differences in the benchmark population or spillover effects.

Some studies adopt aspects of MedPAC’s analysis into their own work. A 2021 KFF analysis adopted MedPAC’s coding intensity estimate but also adjusted for differences in the benchmark population, although not spillover effects. It found MA payments were 103 percent of FFS costs.

Other studies criticize MedPAC’s approach. The consulting group Wakely, in a report commissioned by the insurance trade group AHIP, argues that MedPAC excluding the benchmark population prevents a proper comparison, and estimates that doing so reduces the spending ratio by about 6 percent. The actuarial firm Milliman, in a report commissioned by the insurance company UnitedHealth Group, found similar numbers from adjusting for the benchmark population and estimated that MA payments were about 96 percent of FFS costs.  Finally, the consulting group BRG argues that MedPAC does not properly account for changes to Medicare’s risk score calculations, which they estimate reduces the MA spending ratio by about 2 percent in 2024 and 7 percent by 2026. However, none of these studies estimate coding intensity, favorable selection, or spillover effects.

It is noteworthy that no study estimating relative MA and FFS costs factors in spillovers. A recent study by the health plan Elevance finds that every 10-percentage point increase in MA market penetration is associated with a 0.8 to 1.5 percent decrease in per capita Medicare spending (accounting for coding intensity). Another study estimates that each percentage point increase in MA enrollment is associated with a 0.7 percent reduction in standardized per-enrollee spending. Finally, a third study finds that decreased hospital spending resulting from increased MA enrollment potentially offsets over 10 percent of increased MA payments. The takeaway is that FFS spending doesn’t exist in a vacuum – it is affected by MA.

From Research to Policy

The exact degree of comparable cost differences in MA and FFS is uncertain given that no study is truly comprehensive.

This debate informs the question of how much value MA provides. Integrated coverage, including more benefits and out-of-pocket protections, clearly offer greater value than FFS. Some think that this justifies extra spending in the program (according to one study, about three-quarters of the excess MA spending estimated by MedPAC go to lower out-of-pocket costs for MA enrollees). Others want MA to cost taxpayers the same as or less than FFS on a per-enrollee basis.

Regardless of the amount of relative MA and FFS spending, there is room to make Medicare more cost effective and provide better quality. We know there is excessive spending in both parts of Medicare that doesn’t improve the program – and sometimes harms the rest of the health sector. Given MA’s efficiencies on benefit spending, it seems clear that savings are possible without forgoing MA’s extra benefits or beneficiaries’ access to MA coverage. Earlier this year, I released a set of proposals that aim to accomplish this.

Quantifying the comparable costs between MA and FFS is a helpful way to inform this debate. But it is important to understand the components of these estimates and how they differ – including both what they do and do not consider.