(September 1, 2006 ) The Myth of Objective Health Insurance Advice |
“It may be better to be wrong at the right time than right at the wrong time.”
Recently the Finance Director of a Northeastern city contacted us regarding the city’s pension. She had read our articles about pension consultant abuses and suspected that the consultant her city’s pension had hired was providing conflicted advice. “The Board doesn’t care,” she said, “but I’m the one who has to sign off on the documents. I’m the one who will be held responsible if the harm related to these conflicts ever comes to light. What am I suppose to do? Can you give me some guidance?”
Our response is quoted above. We gave her some very realistic advice. In many situations, especially politics, it may well be better to be wrong at the “right time” and receive the support and admiration of those around you, as well as any related financial or psychic compensation than to be right. To have a correct answer to a question at a time when no one wants to hear it can be tragic. We do not want to encourage anyone to be a hero, championing potentially hopeless causes and angering those around them, without being fully aware of the dangers. As children in school, we are taught that those who are right, are rewarded. It is human nature to want to please others and most of us have grown up believing that if we are “right,” we will please our teachers and employers, be promoted and receive bonus payments, as well as be respected in our community. Unfortunately, there is no assurance that having the correct answer or doing the right thing will result in any consequence, good or bad. If anything, a rigorous search for the truth will inevitably place the individual in conflict with the community at some point in time. Most people, given the choice between being correct and hated versus wrong and loved, will choose the latter– even if that results in significant harm to his community before the error is exposed. Thus, it is the rare individual who takes a principled stand and (in the appropriate circumstance) finds himself applauded for doing nothing more than... the right thing. To do the right thing at a point in time when it is difficult is the definition of a hero. It also defines failure.
In summary, we encourage those involved in pension decision-making to do the right thing but we are ever mindful that anyone who does so must not expect to be rewarded in the here-and-now. Over time, those who have courage (and most important, staying power), may live to see their reward here on earth. That’s the good news we have to offer. What’s this got to do with health insurance kick-backs?
The September 18, 2006 Wall Street Journal included a lead article regarding healthcare consultant conflicts of interest. It seems Journal reporters have discovered that parties paid to provide objective advice regarding health insurance to companies are, in fact, conflicted. These intermediaries are also receiving compensation from the health insurers. Some of these intermediaries also provide conflicted advice to pensions and that’s how the issue came before us.
When we wrote about health insurance kick-backs in a May 2005 article entitled, The Next Insurance Scandal: Health Insurance Kick-backs, we received a lot of critical comments from the health insurance industry. As always, companies involved in the matters we are investigating (and exposing) advise us: (1) we do not know what we’re talking about; (2) we’re exaggerating the extent of the wrongdoing; (3) all the conflicts have been adequately disclosed and, most importantly, (4) the client is never harmed.
In hopes of this time being right at the right time, we are reprinting the 2005 article below. Judge for yourself our ability to predict future regulatory concerns. We can tell you that the information included in the 2005 article was based upon a preliminary investigation we undertook on behalf of a pension sponsor, assisted by an health insurance industry insider familiar with law enforcement subpoenas received by health insurers at that time. Finally it seems the hidden financial dealings are coming to light and, we believe, the implications to the health insurance industry are profound.
The Next Insurance Scandal: Health Insurance Kick-backs
We have endured the research analyst, mutual fund, and property and casualty insurance bidding scandals. We are awaiting the release of an SEC investigation into conflicts of interest involving gatekeepers to the nation’s pensions. All of these scandals involve similar business practices: companies that purport to be acting in the best interests of their clients (for a fee) are secretly profiting from ripping them off. Once the industry-wide scamming or skimming is revealed, the economics of the industry involved are radically altered. What’s this have to do with health insurance?
A company uses an insurance agent, broker or benefits consultant to locate the best health insurance for its employee group. In some instances the company may pay the broker a fee for his service; in other cases, the company understands the broker will be compensated by the health insurer. Regardless of how the broker is compensated, the company expects to receive competitive bids from the insurers and broker input regarding the best coverage available. Consistent with industry practice, the broker never discloses to the company the full extent of his compensation arrangements with insurers. Sound familiar? As we now know, there are large insurance brokerages that have for years pretended to serve the best interests of clients who hire them, even as they steer clients to property and casualty insurers that provide the greatest kick-backs or commissions. The hidden financial arrangements these insurance brokers have with health insurance companies also are pervasive throughout the industry, add significantly to the cost of such coverage, and are easily concealed from customers.
In the health insurance arena, the commission paid to the broker is built into the premium the insurer quotes. Since premiums are based upon numerous factors considered by the underwriter related to the composition of the company’s employee group, it’s relatively easy to manipulate premiums quoted to conceal commissions. And since all the insurers pay these commissions, all quotes are inflated to some degree.
How sizable are these commissions? Commissions generally range between 3%-5% (but can be higher) and are paid monthly to the broker, out of employer/employee premiums. These are not one-time finder’s fees but are paid annually as the insurance contract is renewed. Additional substantial bonus money may be paid to brokers who write certain amounts of premium. These are referred to in the industry as “broker-bonus program” payments. While employers may have limited knowledge regarding the commissions brokers are paid by insurers, the “broker-bonus program” payments are an industry secret. As a result of the bonus payments, many employers may not be made aware of more competitive bids from other heath insurers, especially the closer the broker is to earning his annual retention bonus from the incumbent insurer. (This sounds awfully similar to mutual fund marketing where, until recently, the investor only knew he was paying the broker a commission but didn’t know about additional forms of compensation such as shelf-space payments, revenue-sharing arrangements and directed brokerage, which may have caused the broker to recommend the fund.) Back to health insurance. For example, a company with 1,000 employees paying $1,900 a month each for family coverage would earn a broker (assuming a 5% commission) $95,000 a month in commissions or over a million yearly ($1,140,000). To this amount add the “broker bonus” payments. Still believe medical malpractice claims are the cause of escalating health insurance coverage?
For many Americans, their greatest monthly expenses are their mortgage and health insurance. Mortgage payments are either fixed or adjust within predictable ranges. Health insurance costs, however, can increase 30% a year. Family coverage can easily cost between $1200 and $1900 a month. An employee earning $10 an hour (a rate significantly above the minimum wage), working 40 hours a week for a month or $20,000 annually, cannot earn enough before taxes and any other living expenses, to pay for family health insurance coverage—if he can get coverage. We as a nation simply cannot afford this massive scamming.
In Massachusetts and New York law enforcement and regulators have been investigating these payments for quite some time. The major health insurers have been contacted for information. By now industry practices presumably are known to these officials. Health insurers are bracing themselves for upcoming public disclosure of these kick-backs. Some health insurance insiders unhappy about being forced to make these payments to brokers over the years were eager to blow the whistle and are disappointed with the delay in meaningful action. We believe this could be the greatest blow ever to the insurance brokers, given that health insurance premiums (and related kick-backs) are substantially greater than those related to property and casualty insurance.
Expect litigation, settlements and agreements to forego receipt of such future payments by the insurance brokers. How much will shares of the large insurance brokers be worth once they have sworn off all their ill-gotten gains?
Limits on Firms' Donations to California Pension Panel Eyed The California teacher fund's board may restrict gifts to the governor, treasurer and controller. By Evan Halper, Times Staff Writer September 8, 2006 SACRAMENTO — The board that oversees California's teacher pension fund is poised to ban financial firms that it does business with from making large political contributions to its members and the governor. Implementation of such a ban, which could cost candidates for governor and other statewide offices millions of dollars in campaign cash, was set in motion Thursday with a unanimous vote of the board's corporate governance committee. Over the next two months, staff attorneys will craft statutes, subject to board approval, that would put the new rule into effect. The move, instigated by proxies for Gov. Arnold Schwarzenegger, would prohibit companies or their employees who are seeking business from the pension fund from donating more than $250 to Schwarzenegger, the state treasurer or the state controller, all of whom control seats on the board.
The development follows revelations in The Times that Treasurer Phil Angelides and Controller Steve Westly, rivals in the June primary election, steered the pension boards they sit on, including the teacher fund panel, to invest in firms that contributed to their campaigns. Both men have collected millions of dollars from companies seeking pension-system cash. But both quickly endorsed the new plan. "The treasurer wholeheartedly supports the proposal," Angelides spokesman Nick Papas said. Joy Higa, the controller's representative on the board, said Westly also backs the measure.
The push comes as pension boards nationwide have been tainted by "pay to play" scandals. Investigations into the awarding of investment contracts to political patrons of pension board members have been launched in several states. "There should not be a perception out there that one pays to play, in terms of making campaign contributions to officials in California and as a reward you have access to the nation's second-largest pension fund," Peter Reinke, a campaign finance reform advocate whom Schwarzenegger recently appointed to the board of the California State Teachers' Retirement System, said at the board's meeting. The spirited discussion on political giving stretched across 2 1/2 hours.
During President Clinton's years in office, the Securities and Exchange Commission launched an effort to put such a ban in place. But it unraveled amid intense opposition from financial firms. The same fate still could befall the teacher pension fund proposal; opponents have not yet had time to mobilize against the plan. Even some of the board members who voted to move forward said there could be unintended consequences. Board member Dana Dillon, a teacher from Weed, warned that multinational investment firms could lose their contracts with the state because a low-level employee made a $500 contribution to a gubernatorial candidate. Other teachers on the board expressed concern that they would not be able to attend lunch events held by financial firms.
But supporters praised Thursday's action. "This move is of tremendous importance to pension funds nationwide," said Edward Siedle, a former SEC investigator who runs a private firm that helps pension boards root out corruption. "Pension plans are under attack. The public fund community is trying to defend them. But they are realizing that trying to defend their most corrupt practices becomes a losing battle."
Westly's support for the measure comes after the controller's aggressive pursuit of pension fund cash became a focal point of last spring's primary campaign. Westly intervened at the California Public Employee Retirement System on behalf of a politically connected venture capital firm that held multiple fundraisers for him — and in which CalPERS' outside advisors had opted not to invest. After Westly's intervention, the staff at CalPERS put $5 million into the fund. And the controller's desk calendars, obtained through a request for public records, are filled with private meetings with donors linked to financial firms doing business with California pension systems.
The Angelides campaign aired a commercial that accused Westly of corruption. But Angelides' own campaign coffers have received a huge boost from companies with business before the pension funds, and his advocacy on their behalf was frowned on by ethicists. Angelides' representative at the teacher pension fund, Dennis Trujillo, tried Thursday to get the board to adopt policies that appeared aimed at embarrassing the governor. One would have changed the oath that board members make on taking their seats to include a pledge of independence underscoring the dangers of "political 'packing' of retirement boards."
Trujillo said the pledge was needed because the governor removed four board members who opposed his plan last year to replace pensions with 401(k)-style retirement plans for new government employees. "We have a governor who terminated four members because they didn't walk lockstep with him," Trujillo said. But the committee said the treasurer's proposal was incomplete because it did not include the actual language that would be added to the oath. The measure will be reconsidered at a later date.
Angelides also sought to impose a policy that would force the governor and his staff to report on the nature of any communications he has with his representatives on the pension board.
Committee members objected to the proposal, which would not have applied to any other state officials who have representatives on the pension board. It lost in a 3-6 vote.
Fighting fraud: Deterring fraud and abuse may be the more challenging battle in pension reform By: Kelley M. Butler
As the debate continues on how to reform the laws governing pension plans, two federal lawmakers are calling for an investigation of the agencies that oversee the plans, claiming the government could do more to ensure pension plans operate lawfully.
Last winter, Reps. Edward Markey (D-Mass.) and George Miller (D-Calif.) asked the Government Accountability Office to investigate whether the government effectively is regulating the activities of pension funds and the firms that advise them. They also think lawmakers could be more vigilant in detecting and deterring fraud, conflicts of interest and other unlawful activities in the pension industry.
Referencing a May 2005 report from the Securities and Exchange Commission that showed "pension consultants may steer clients to hire certain money managers and other vendors based on the pension consultant's other business relationships," Markey said, "More needs to be done to ensure that workers' pensions are not put at risk by advisors offering conflicted recommendations masquerading as objective advice." Said Miller: "The SEC report raises grave concerns that some pension consultants and money managers may be choosing investments or other deals to enrich themselves and their associates while putting workers' retirement nest eggs in jeopardy. That is unacceptable, and it must stop."
The congressmen specifically site the SEC, Department of Labor, and the Pension Benefit Guaranty Corporation as agencies responsible for taking the necessary steps to root out fraud. "Clearly, a thorough, comprehensive examination is needed to determine whether the federal government is taking the actions necessary to protect workers and their pensions from advisors more interested in padding their own profit margins than providing impartial advice," Markey said.
However, there currently is no such General Accounting Office investigation being conducted, nor is one planned. Catch me if you can Although Miller and Markey have not yet made headway on Capitol Hill, they've got an ally in Edward Siedle, a former SEC attorney who now investigates money management abuse and fraud with his firm Benchmark Financial Solutions in Ocean Ridge, Fla.
Speaking in March at the an annual benefits conference for a police union, Siedle recalled meeting former corporate thief Frank Abagnale, who chronicled his crimes in the book, "Catch Me If You Can." The two men had met at another conference while speaking about deterring fraud.
Abagnale's account of how he easily stole millions from various companies led Siedle to warn a client, "I could steal millions from you, and you'd never know it happened." Siedle went on to say that through an investigation, he found his client had already "lost tens of millions [the client] was utterly unaware of." Defined benefit plans stand to lose millions from kick-backs to corrupt consultants, misrepresented assets under management by money managers, and excessive commission costs and influence peddling by brokers, just to name a few situations, according to Siedle.
"From our investigations, we have observed that corrupt practices can easily cost a pension 10% of its value over time," Siedle said. "In an environment where market returns are limited, the cost of this corruption is unacceptable. If funds do not proactively attack pension wrongdoing, every instance of wrongdoing that has been neglected will be another nail in the coffin" of the DB system.
Siedle advocates federal forensic investigations of failed plans to learn more about rooting out fraud and abuse. "The PBGC has taken over 4,000 failed pensions and never once conducted a forensic investigation," he said. "For some reason, when S&Ls fail[ed], we look for wrongdoing, but when pensions fail, it's no one's fault - ever."
He holds out hope, however, that "as more plans fail, the demand for investigations will grow." - K.M.B.
Copyright 2006 Thomson Financial, All Rights Reserved
----------------------------------------------------------------------- GAO Investigating Whether Investment-Related Conflicts Are Root Cause of Pension Plan Crisis
IM Insight, Sept, 18 2006
------------------------------------------------------------------------ Investors Pull $120Million From Century City Venture Capital Firm Harvard and public pension funds in California, Colorado and New Mexico are concerned that International Technology University sought political contributions from start-ups. By Evan Halper and Dan Morain, Times Staff Writers September 12, 2006
For a time, the 30-something venture capitalists were flying high, backed by tens of millions of dollars from Harvard, Boeing and other big-league investors, and consulting with such disparate advisors as the Columbia University business school dean and KISS singer Gene Simmons. Calling themselves International Technology University, the sneaker-clad partners with the Century City address scoured top engineering schools, seeking new technologies to turn into profitable businesses.
Over the last six years, the duo, friends since their student days at Tulane University in the 1990s, persuaded investors to entrust them with $250 million to use as seed money. The two funded 36 start-ups, several of which turned healthy profits. But last month, their fortunes turned. Their most prestigious investors — Harvard University and public pension funds in California, Colorado and New Mexico — pulled $120 million out of the firm, cutting off much of the company's cash supply. A big reason: The investors were troubled that the two partners, Chad Brownstein and Jonah Schnel, solicited political contributions from the fledgling firms they financed, and several obliged.
Start-ups in Colorado, New Mexico and California gave about $68,000 to California Controller Steve Westly, an influential member of the state's public pension board who was running for governor at the time. State and federal laws prohibit venture capitalists from requiring political giving by the companies they finance. Political contributions from fledgling companies to politicians in other states raise a red flag, said Edward Siedle, an expert on pension malfeasance and a former attorney with the U.S. Securities and Exchange Commission.
"When we investigate these things, that is one of the telltale signs that there may be a quid pro quo going on," Siedle said. In July, officials in two states took the unusual step of calling on ITU to repay the pension funds, or reimburse the start-ups the money that was donated — a sign of pension boards' increasing sensitivity to perceptions of cronyism. Corruption has tarnished several retirement systems in recent years, bruising boards in San Diego, Chicago, and Philadelphia.
Brownstein and Schnel say the start-up firms' political giving has no connection to ITU's business. Although ITU suggested that the start-ups make political donations, Brownstein and Schnel put no pressure on them to do so, the pair said. They feel victimized. "There is nothing illegal here. There is nothing illicit," said Brownstein. "This has been a huge disruption to who we are and what we do."
The states asking that the money be returned are Colorado and New Mexico, both of which had also made earlier investments in ITU. One start-up in Colorado and one in New Mexico each donated $20,000 to Westly's failed gubernatorial bid. Three ITU-funded start-ups in California gave the controller a combined $28,000. Brownstein and Schnel say they cannot cover the cost of donations made by other companies, because doing so would mask the true source of the money. Stephen J. Kaufman, an attorney hired by the men, said that what Colorado and New Mexico are asking them to do "is completely illegal."
Brownstein and Schnel say their investors' main concern was the departure of several key ITU employees, and questions about the political contributions — made before the big leaguers put their $120 million into ITU — aggravated matters.
"The fact that this political stuff got brought into the conversation threw gas on the fire," Schnel said. Officials at Harvard and in the three states refused to discuss their decision, but public records show that they began dissolving their partnership with ITU in July. Executives at the start-ups that gave to Westly either did not return phone calls or declined to discuss the issue for the record.
Kaufman, the ITU attorney, said he contacted nearly all the companies that gave money and concluded they were "not pressured into making any contribution." The contributions at issue were among many that ITU has given to, or solicited for, elected officials connected to government pension funds. Many such funds place large amounts of cash in venture capital firms in hopes of reaping sizable returns.
ITU's principals and associates have given $19,500 to Westly and $20,000 to state Treasurer Phil Angelides, who defeated Westly in the June gubernatorial primary. These donations are not in dispute. Westly spokesman Russ Lopez said the controller has met with Brownstein privately — including meetings in New York, where Brownstein introduced the controller to other potential donors — but Westly never intervened on ITU's behalf at the California Public Employees' Retirement system.
Since founding their firm in 2000, Brownstein and Schnel have helped launch several small technology companies from the laboratories of UCLA, UC Berkeley and other universities. The companies were ultimately bought by such corporations as Nokia and Advanced Micro Devices. Such sales netted millions of dollars for ITU and its investors. Along the way, the two struck up relationships with Columbia Business School Dean R. Glenn Hubbard, the former chairman of President George W. Bush's White House Council of Economic Advisors. In addition to relying on Hubbard's advice, they hired rocker Simmons to help the start-up companies develop marketing plans for entertainment-related products.
Brownstein is the son of Denver attorney Norman Brownstein, a major donor to pro-Israel political candidates and causes. Another of the early principals at ITU was Adam Winnick, a childhood friend of Brownstein's. Winnick's father, Gary, founded the now-bankrupt telecommunications network provider Global Crossing Ltd. and was once described as the richest man in Los Angeles.
Gary Winnick was one of ITU's initial investors, giving millions of dollars to help launch the company. In 2005, ITU proposed that the Los Angeles fire and police pension board invest $5 million in the company. The board rejected the bid, saying ITU's management fees were too high.
In August 2005, Mayor Antonio Villaraigosa appointed United Food & Commercial Workers union leader Sean Harrigan to the police and fire board. That month, ITU donated $3,000 to a political action committee controlled by Harrigan's union. In October 2005, Harrigan joined other board members in voting to approve the $5 million investment in ITU. Harrigan did not return phone calls from The Times. Brownstein, a longtime supporter of Jewish causes, said his company gave money to Harrigan and others, mostly because they were "strong supporters of the state of Israel."
Westly, Brownstein said, "is a guy who is incredible on the state of Israel. And he is a founder of EBay. And if this guy were governor, the environment for technology would be amazing. That is all we think about." In July and early August, Brownstein and Schnel tried to persuade their big investors not to pull out, meeting with them and obtaining letters from several of the companies they funded attesting to the pair's business and ethical standards. They also sent investors letters describing political giving as normal in the tech world. "Federal and state funding is critical to many venture-capital backed companies, particularly early stage technology investments, and political contributions are a common business practice."
Contracts between ITU and its investors do not address campaign donations. But they contain a clause that permits investors to pull out for "no reason or for any reason," and the $120 million was withdrawn despite the men's entreaties. The pullout, they wrote to their investors, "may destroy the ITU brand that we have created so carefully."