Pharmacy Benefit Managers (“PBMs”) are at the center of the discussion about the causes of high pharmaceutical prices and efforts to reduce the nations pharmaceutical spending. Currently over 80% of pharmaceuticals in the United States are purchased through PBMs. While PBMs were originally intended to reduce drug costs to consumers, they now face criticism for actually increasing drug prices. A 2016 study found $23billion of health care spending was directly attributable to PBMs. In order to reduce pharmaceutical spending in the United States, legislative efforts must aim to align the incentives of PBMs and their payer clients. One such effort would be to eliminate the rebate safe harbor.
PBMs are for-profit entities that broker deals in the pharmaceutical supply chain. PBMs are entitled to retain profits for the services they provide. However, the problematic practices of PBMs all have to do with the amount of profit they are able to retain. PBMs act as middlemen between payers, pharmaceutical manufacturers, and pharmaceutical retailers. PBMs use their payer client networks to create a large network that has more buying power in order to negotiate for lower prices from pharmaceutical manufacturers, usually in the form of rebates.
The rebate system is extremely controversial and receives a lot of criticism. It works like this: PBMs negotiate for lower drug prices for their health insurance payer clients by offering different types of placement on health plan formularies. Manufacturers agree to give rebates to the health plan for use of the drug based on where the drug is listed on the health plan formulary. When the drug is paid for by the health plan, the manufacture gives a discount to the plan in the form of a rebate. The rebate passes through the PBM to get to the plan, and the PBM often retains a portion of the rebate as part of the contract (“Some research has found that major PBMs can retain around 38-40 percent of rebate dollars collected from drug manufacturers”). The rebate that the PBMs negotiate is not a rebate that is given to the consumer directly at the pharmacy; the purported benefit of the rebate to the beneficiary is a decrease in premiums.
The central concern is that the reduction in price from the rebate is benefiting PBMs, drug manufactures and health plans, but not patients. Health plan beneficiaries often have deductibles and co-insurance payments, and the price they pay is not based off of the discounted price the insurer gets, but rather the list price of the drug (“many rebates do not flow through to consumers at the pharmacy counter as reductions in price. In these instances, beneficiaries experience out-of-pocket costs more closely related to the list price than the rebated amount during the deductible, coinsurance”). The rebate does not apply to the price that a beneficiary directly pays for a drug, it only applies when the health plan is covering the cost.
The rebate system is also harming patients by driving up the prices of drugs. The system creates perverse incentives for PBMs, where they are incentivized to include drugs with higher list prices on formularies. This is because the portion of the rebate that PBM retains is based off of the amount of savings, meaning that a higher priced drug generates a higher rebate. In addition to incentives placed on PBMs to select higher priced drugs, the system can also incentivize manufacturers to raise or keep list prices high. Logically, if PBMs are selecting the higher priced drugs in order to get larger rebates, drugs with lower list prices will not be selected for preferred placement on formularies. Lower list prices reduce the savings generated which results in removal from formulary. The nature of the rebate system means that rebates effectively function as kickbacks to PBMs.
PBMs are subject to a host of federal regulations due to the highly regulated nature of health care. The industry is affected by federal regulations because PBMs contract with the federal government to administer drug benefits for Medicare Part D and because they submit claims to federally funded programs, Medicaid and Medicare, on behalf of their clients. The Federal Anti-Kickback Statute (“AKS”) “prohibits offering, paying, soliciting or receiving anything of value to induce or reward referrals or generate federal health care program business.” 42 U.S.C § 1320a-7b(b) (2012). The AKS and subsequent regulations include voluntary safe harbors, which “describe various payment and business practices that, although they potentially implicate the federal anti-kickback statute, are not treated as offenses under the statute.” 42 C.F.R. §1001.952 (2018). The AKS has a mandatory discount safe harbor, meaning that the government will not prosecute for arrangements that fall within the discount safe harbor requirements. 42 U.S.C. § 1320a-7b(b) (2012). The discount safe harbor applies to PBMs because they use rebates to negotiate deals between drug manufactures and clients. These rebates fall within the definition of kickbacks under AKS because the PBM retains, as revenue, a portion of the rebates that it negotiates for each drug, and the amount they are paid is based on how much that drug is purchased using the rebate.
While these rebates are technically a violation of AKS, they do not currently put PBMs at risk for prosecution under the statute because the rebates are a form of discount, and, consequently, the discount safe harbor applies. In order to be protected by the safe harbor, PBM arrangements for rebates with manufacturers and clients must strictly comply with the requirements or else the PBM is in violation of AKS. 42 U.S.C. § 1320a-7b(b)(3)(A) (2012); 42 C.F.R. § 1001.952(h) (2018). This safe harbor, as presently understood, applies to prescription drug rebates paid by drug manufacturers to PBMs, Medicare Part D, and Medicaid managed care organizations, and thus protects the rebates from violation of the Anti-Kickback Statute.
On February 6, 2019, the HHS Office of the Inspector General (“OIG”) published a proposed rule to eliminate the AKS safe harbor applicable to PBMs. The proposed rule would have revised the discount safe harbor “to explicitly exclude from the definition of a discount eligible from safe harbor protection certain reductions in price or other remuneration from a manufacturer of prescription pharmaceutical products to plan sponsors under Medicare Part D, Medicaid managed care organizations … or pharmacy benefit managers under contract with them.” This would have meant that the rebates from manufactures to PBMs would constitute kickbacks and put the PBMs at risk for AKS violation. The basis for the proposed rule was that the safe harbor is operating to decrease transparency and increase costs to consumers, instead of increasing transparency and lowering costs to consumers.
The proposed rule would have removed the incentive that PBMs have to negotiate for rebates on their own behalf instead of on behalf of the plans and their beneficiaries. Under the terms of the proposed rule, safe harbor protection would have still applied to discounts that the patient receives at point of sale. This protects the consumer interest by ensuring that they receive the discount directly, and allows PBMs to still use discounts as a negotiating tool for their clients. The proposed rule would have also granted safe harbor protection to PBM service fees, which would allow PBMs to continue to profit, at fair market value, from the services they provide.
The response to the proposed rule was, naturally, divided. Proponents of the proposed rule argued it would fulfill its intended purpose and lower the list prices of drugs to price that PBMs are currently negotiating for after rebates, and also lead to increased use of lower cost generics. That result is supported by analyses prepared by Milliman for HHS, which estimate that implementation of the proposed rule would lead to up to a ninety-eight billion dollar reduction in spending by federal programs over ten years. However, the PBM industry argued the rebates do not have the negative effects that HHS claim, and that there are no “viable alternatives to rebates, in light of drug manufacturers’ inability to offer up-front discounts under current antitrust case law.” Industry push-back also contended that the prohibition on rebates would lead to increased premiums because the use of rebates allows plans to lower premiums. Unfortunately, the Trump Administration sided with the industry perspective and reversed course and withdrew the proposed rule.
Eliminating the rebate discount safe harbor would have had a significant impact toward eliminating a major conflict of interest inherent in the PBM model. If the administration is not willing to put federal programs and beneficiaries ahead of industry, then Congress must enact legislation that achieves the result necessary to reign in excessive and unnecessary pharmaceutical drug spending.
Prescription drug spend in the U.S. is the highest in the world. Americans pay up to three times the amount per capita of other countries. This is problematic for our growing aging population since their income becomes limited. While Medicare covers prescription drug costs, there are policy gaps that make it unaffordable. One major barrier to price controls is part D of title XVIII of the Social Security Act, in which explicitly prohibits the federal government “from negotiating directly with pharmaceutical companies to lower drug prices”. President Donald Trump proposed several policies to reduce the cost burden of prescription drugs on consumers through free-market competition approach, focusing mainly on cost transparency and promoting use of biosimilar or generic drugs. The policies are praised as a “small step in the right direction”. Yet, many Americans are dissatisfied since the proposals do not include direct Medicare negotiations with drug manufacturers. Pharmaceuticals argue that price controls would strain their investments in research and development (R&D) of new drugs. After taking a closer look, that is not fully the case. Greater price control measures can be taken, but there must be political will to support it. For now, the President’s policies are a small victory for seniors across America.
Medicare Coverage Today
Prescription drugs are covered under Medicare Part A, B, and C plans, but to a limited capacity. Part A is hospital insurance, part B is traditional medical insurance, and part C (Medicare Advantage) is like a health maintenance organization (HMO) or preferred provider organization (PPO) plan type. Only drugs administered within these respective settings are covered. Because of these limitations, the Medicare Modernization Act of 2003 was enacted, creating Medicare part D drug benefit.
Part D is an “optional” supplemental insurance that can be purchased with any of the other Medicare plans. It, however, is severely flawed. First, Congress did not commit any financing for part D, leaving costs falling on the recipient. Second, and most notoriously, is the “donut hole” coverage gap between initial enrollment and a “catastrophic coverage threshold”. The entry-point coverage limit is currently $3,750. Once this amount is reached, the patient is then responsible for fully paying for their medication until the maximum amount of the out-of-pocket (OOP) costs have been paid, or the annual time period lapsed. The OOP threshold now is $5,100, unaffordable for many seniors that suffer multiple chronic conditions.
Additionally, the plan disincentivizes patients from purchasing brand name drugs by increasing patient coinsurance payments. Provisions of the Affordable Care Act attempted to close this gap by 2020 by limiting patient payments to 25% of the gap. Under the Trump Administration, the Bipartisan Budget Act of 2018 advanced that date to 2019. Another caveat to Part D is that it is not really “optional”. If an individual fails to sign up once qualified and decides to enroll later, they will pay penalty fees for as long as they are on part D, with the exception of a few circumstances, such as having drug coverage from an employer.
The President’s Policies
To mitigate the Medicare drug coverage issues, the Trump Administration released his “blueprint” rules and policies, supplemental to the Bipartisan Budget Act. Provisions that went into effect include:
- “Step therapy” rule within the Medicare Advantage plans- clinicians are to prescribe cheaper drugs and monitor patient progress closely. If the drug is found to be ineffective, then a clinician can prescribe the next expensive drug. Clinicians in the Advantage plan get commission for the drugs they provide. The rationale is to curb physicians from “gaming” for greater profits. This rule is now in effect.
- Taking harder action, the President recently signed legislation to ban “gag clauses” that prevented pharmacists from disclosing the best drug prices with customers. This is helpful for those who may be in the coverage gap of part D and would have to pay full price of the drug.
Other policies proposed and will likely be revisited for the upcoming session include:
- Limiting doctor’s offices to charge consumer price index (CPI) of drugs administered in their office.
- Shifting drugs from part B to D to promote greater market competition among drug makers to lower prices.
- Allowing drug rebates to go to the consumer rather than the healthcare provider or health plan.
- Promoting the use of biosimilars and generic biotechnology drugs.
- Closing loopholes, such as the 180-day exclusivity that allow brand-name drug companies to “game” Food and Drug Administration (FDA) rules in ways that hinder generic competition.
- Requiring drug manufacturers to disclose list prices in their advertisements.
These policies are a great step towards drug price controls. Yet, many argue that true price controls could only be achieved by allowing Medicare to directly negotiate drug prices. Perhaps that may be the case, as demonstrated by many other rich democracies. Pharmaceuticals, however, dispute this on the grounds that it would limit R&D investments.
In a recent study, Yu et al. evaluated the “top 15 drug companies in 2015” and found that the inflated prices are not justified by the R&D costs. Securities and Exchange Commission (SEC) laws and regulations require all public holding companies to publically disclose their financial statements. Knowing this, I reviewed the 2017 financial report of the largest pharmaceutical company in the world, Pfizer. Their R&D costs were $7.7 billion and accounted for 14.7% of their reported revenue of $52.5 billion. After discounting other expenses, their net income was $21.4 billion, allowing them to maintain 40.6% in profits. These figures are not uncommon. According to the International Trade Association, 15-20% of gross revenues is how much U.S. pharmaceutical companies spend on average on R&D (with the exception of the few that price gouged). In other countries, the R&D investments are much less, but drug costs are also lower.
Given these figures, it is of no surprise that advocates for better price controls are not convinced that R&Ds should be the main reason to maintain the inflated drug costs. Cost-effectiveness analysis (CEAs) may help determine the value of the drug, however it would likely, by default, favor biosimilars and generic drugs. In that case, the promotion of these drugs employed by the Federal government serve as a cost-effectiveness measure to some extent. For drugs that treat severe progressive conditions, such as Alzheimer’s disease or multiple sclerosis, it may be difficult to ascertain a value on new treatments since outcomes are unique to a patient’s condition. Moreover, measures involved in formal CEAs are derived from nationally administered quality/disability-adjusted life-year (Q/D-ALY) surveys of healthy people, thus not capturing the value of the treatment for those who are ill.
The President’s policies may not be perfect, but it is an experiment worth trying. Prior policies that attempted to “assist” our elderly population have failed, leaving those with chronic conditions and limited incomes forgoing treatment due to the high cost. For advocates of government price-fixing, it is important to keep in mind how much will prices be limited to, and it would likely require government to subsidize a portion of R&Ds. It is difficult to imagine that government would be willing to make such an investment if they are barely subsidizing part D costs.
Sarah Zahakos, MPH is working toward a PhD in Health Law, Policy & Management at the Boston University School of Public Health.
AHRQ T32 Research Fellow
Training in Health Services Research for Vulnerable Populations
Grant # 2T32HS022242
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