What Is Health Insurance and How Does It Work?
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Health insurance is a contract that lowers the cost of medical services in exchange for a regular premium (usually monthly) to the insurance company. This arrangement helps individuals access the medical treatments they need that would otherwise be unaffordable. Several types of health insurance plans exist, which vary in cost and coverage.
Health insurance can get complicated. Keep reading to learn about different healthcare plans, costs and more.
Health Insurance Definition
A health insurance policy is a legal agreement between you and a health insurance company in which you pay regular premiums in exchange for them to cover your medical expenses, such as the cost of doctor visits, hospital services, prescription drugs, vaccinations and more.
How Does Health Insurance Work?
Health insurance reduces the financial burden of medical services by sharing the costs between the insured and the health insurance company. Generally, the insured will subscribe to the health insurance plan and pay a regular premium — typically each month. In exchange, the insured pays lower costs when receiving medical services.
On top of the premium, the healthcare plan may also require you to pay a health insurance deductible and coinsurance payment or copayment.
- Deductible: The amount you must pay before your health insurance coverage kicks in. If your medical bill is $2,000 and you have a $500 deductible, then you must pay the $500 before your insurance company covers the remaining balance.
- Copayment: A flat fee you must pay generally when you visit the doctor or fill a prescription. For example, visiting the doctor twice this month may incur a $20 copay for each visit and a prescribed medication may have an $8 copay.
- Coinsurance: A percentage of the remaining balance after meeting your deductible that you must pay. Using our earlier deductible example, your coinsurance payment toward the remaining balance of $1,500 is 20% ($300). After paying your $500 deductible and $300 coinsurance payment, your insurance company covers the remaining $1,200.
Keep in mind that your healthcare plan may have an annual limit, or a maximum cap, on out-of-pocket costs. You may not need to pay future copays or coinsurance payments once you hit your annual limit until your healthcare plan renews for the following year. Be sure to confirm with your healthcare provider.
In addition, your insurance company may only cover costs when you see a provider that’s within your plan’s network and may also require you to get a referral from your primary care physician before you see a specialist. These requirements will vary based on the type of plan you choose, with EPOs, PPOs and HMOs being common types.
Preferred Provider Organizations (PPOs)
A PPO is a health plan with a network of healthcare providers that you can use at a reduced cost. You also have the option of going out of network but it typically comes at an additional cost. PPO plans typically have higher monthly premiums than an HMO or EPO health plan but the benefit is the flexibility of choosing your primary physician and the ability to go outside the network.
Health Maintenance Organizations (HMOs)
An HMO is a health plan with a network of local medical providers for you to choose from. You generally will not be covered when you receive services outside the HMO network unless you have pre-approval from your healthcare provider. Otherwise, you will need to pay for out-of-network services out-of-pocket. HMO plans will require that you select a primary care provider (within the HMO network). HMO plans typically carry lower monthly premiums than a PPO or EPO plan.
Exclusive Provider Organization (EPOs)
An EPO health plan has a network of local doctors and hospitals you will need to use to receive coverage. Going to an out-of-network provider typically will not be covered, with emergencies being the only exception. The cost of an EPO plan is generally lower than a PPO plan. The tradeoff is that you will need to pay out-of-pocket whenever you receive services outside the EPO network.
What Is Covered by Health Insurance?
All health insurance plans that are compliant with the Affordable Care Act (ACA) guidelines must cover at least the below 10 essential health benefits:
- Outpatient care
- Emergency services
- Overnight stays in a hospital
- Services related to pregnancy and newborn care
- Certain treatments related to a mental health or substance use disorder
- Prescription drugs
- Rehabilitative and habilitative devices and services
- Laboratory services
- Chronic disease management and preventive and wellness services
- Dental and vision insurance for children plus other pediatric services
In addition to the above doctor and hospital services, health insurance can cover some preventative care services, such as:
- Blood pressure, diabetes, and cholesterol tests
- Birth control
- Cancer screenings
- Flu shots
- Obesity counseling
- Pediatrician visits
- Routine vaccines
Under the Affordable Care Act, the above preventative care services will be offered without any out-of-pocket cost to you if you have health insurance. You will not need to make a copay or coinsurance payment to receive services, like blood pressure tests or routine vaccines.
What Isn’t Covered?
- Dental services
- Vision services
- Hearing aids
- Uncovered prescription drugs
- Weight loss programs and drugs
- Cosmetic surgery
- Infertility treatment
- Sterilization reversal
What Are the Most Common Types of Health Insurance?
Below, we outline some common types of health insurance plans you can buy, including those purchased through the federal marketplace or from your employer’s group plan.
Outside of insurance through your job, you will likely be buying a marketplace plan, as these plans are regulated by federal law and must cover specific benefits. Each year, you can buy an individual or family health insurance plan through the federal government’s health insurance marketplace (or your state’s marketplace if it has its own). Depending on the type of policy you buy, your household income and other factors, it may be possible to qualify for a subsidy that can lower your overall health insurance costs for the tax year.
Employer Group Policies
Employer group policies are health plans purchased through your employer and are quite popular, as over half of Americans were insured through a job-based plan in 2022. The primary benefit of joining an group health insurance plan is that costs are often lower than what you would spend on the ACA marketplace since the employer pays a portion of the premium.
The federal government offers healthcare insurance programs to U.S. citizens that meet a certain age, have a medical condition or fall below a specified income threshold.
Medicare is a federal health insurance program for those ages 65 years and older, who have a certain condition, like End-Stage Renal Disease. Hospital insurance is free if you've been paying Medicare taxes for at least 10 years and coverage for doctor services and prescription drugs are available at an additional cost.
Medicaid is a public health insurance program for low-income families and individuals. Health insurance can be costly and a Medicaid plan can help Americans access the healthcare services they need at a relatively affordable rate. Some coverage may be free for those who qualify.
Supplemental Health Insurance
It is possible to have multiple policies by buying supplemental health insurance plans, which can provide coverage for benefits that are otherwise excluded in an ACA-compliant health plan. Common examples of this are vision insurance and dental insurance. Most primary plans will not cover teeth cleaning, braces, vision exams and prescription glasses unless you buy this specific type of coverage.
What Are the Benefits of Health Insurance?
The main benefit of health insurance is that it can provide financial access to unexpected, often costly health procedures. According to the U.S. Department of Health & Human Services (HHS), treating a broken leg can cost up to $7,500, staying in a hospital for three days can rack up a $30,000 hospital bill and having a long-term condition like cancer can rack up thousands of dollars in treatments in a short amount of time.
Do I Have To Renew My Health Insurance Policy Every Year?
Generally, your health insurance policy will auto-renew for the following year if you do not make any changes, although your should always double-check with your health insurance provider.
What Is the Average Cost of Health Insurance?
The average cost of health insurance can vary based on which type of policy you buy. For example, In 2022, those who were insured through their jobs paid $659.25 per month on average for an individual plan or $1,872.92 for a family plan. On the other hand, Original Medicare has fixed monthly rates: zero dollars to $594 depending on how long you and your spouse have been paying for Medicare taxes and $174.70 per month for Part B.
How Are Health Insurance Rates Determined?
For ACA-compliant plans, health insurance carriers are only allowed to calculate your rates based on five factors:
- Age: Older people generally have higher premiums and more coverage needs than younger people. The older you are, the more likely you are to have certain conditions and need continued medical services and prescription drugs.
- Location: Where you live can have certain healthcare regulations and costs of living that can influence how much you pay for health insurance.
- Tobacco use: Engaging in tobacco use will likely lead to higher health insurance premiums — sometimes up to 50% higher than those who do not smoke according to HHS.
- Number of insureds: Adding more people, like your spouse and children (also called dependents) to your healthcare policy will increase the cost of coverage.
- Plan category or health insurance tier: A plan’s tier will dictate your out-of-pocket costs and plans will commonly fall into one of four tiers: bronze, silver, gold or platinum. Bronze plans have the lowest premiums but the highest out-of-pocket costs, while platinum plans have the opposite.
Since underwriters can only use these five factors, that means that your health, medical history and gender have no direct impact on how much you pay for health insurance.
How To Get Health Insurance
To buy health insurance from the ACA marketplace, you will need to do so during open enrollment, which runs from November 1 to January 15 in most states, although it may be possible to enroll another time if you qualify for a special enrollment period. The open enrollment period for Medicare Advantage plans starts October 15 and ends December 7 and Medicaid enrollment is open all year round.
If you want to quickly compare rates from multiple healthcare providers, SmartFinancial can help. Just type your zip code below and then answer a quick questionnaire about your coverage needs nad budget and we can help match you with an insurance agent who can find the best policy for you.