On December 31, 2019, in New Mexico Health Connections v. U.S. Dep’t of Health and Human Services, the U.S. Court of Appeals for the Tenth Circuit upheld the methodology adopted by the U.S. Department of Health and Human Services (“HHS”) to administer the Risk Adjustment Program under the Affordable Care Act (“ACA”). In doing so, the panel, led by Judge Scott M. Matheson, Jr., overturned the decision of the U.S. District Court for the District of New Mexico that the use of statewide average premiums in the methodology was arbitrary and capricious.

The Risk Adjustment Program is a “premium stabilization” program created by the ACA to make premiums in the individual and small group markets more predictable. In essence, to limit incentives for health insurers to try to attract healthier enrollees, the Risk Adjustment Program transfers funds from health plans with healthier enrollees to those with less healthy enrollees. As with similar efforts under Medicare Advantage and some states’ Medicaid managed care programs, the Risk Adjustment Program was intended to mitigate potential adverse selection by targeting the impact of enrollee health status. Section 1343 of the ACA required that HHS create standards for the program through regulations, which have included the annual issuance of a risk adjustment formula for the payment transfers. Among other challenges to the program, insurers have challenged this formula, particularly the decision to base payment transfers on statewide average premiums instead of each plan’s actual premiums.

In 2018, in response to a challenge brought by New Mexico Health Connections, a New Mexico non-profit health plan, Judge James O. Browning of the U.S. District Court for the District of New Mexico found that the use of a statewide average premium in the risk adjustment formula was arbitrary and capricious on the basis that the agency failed to justify its reasoning in the notice-and-comment rulemaking process. This decision came one month after the U.S. District Court of Massachusetts upheld the same risk adjustment formula in a similar challenge. Judge Browning denied a request from the federal government to reconsider his decision in October 2018, and the federal government appealed to the Tenth Circuit.

In the opinion published on December 31, the Tenth Circuit reversed the district court, concluding that the use of a statewide average premium and adoption of a budget-neutral program were appropriate and reasonable. While the appeal was pending at the Tenth Circuit, HHS issued new rules for the 2017 and 2018 methodologies that rendered the case moot for those years. For the methodologies used in 2014 through 2016, the court determined that HHS appropriately justified its use of the statewide average premium in the risk adjustment methodology, including that HHS explained that it chose the statewide average premium to reduce the impact of risk selection, achieve a straightforward and predictable benchmark, promote risk neutral payments, avoid causing unintended distortions in transfers, and avoid disproportionately distributing costs to certain insurers. Further, the court determined that the budget-neutral design for the program was not improper because the ACA did not speak to budget neutrality and budget neutrality was necessary due to funding constraints.

Following this decision, New Mexico Health Connections may seek rehearing of the case en banc by the entirety of the Tenth Circuit or request review by the Supreme Court.