adverse selection

What is adverse selection?

Adverse selection refers to a situation in which the buyers and sellers of an insurance product do not have the same information available. A common example with health insurance occurs when a person waits until he knows he is sick and in need of health care before applying for a health insurance policy.

This wasn’t an option in the medically underwritten model of individual health insurance (ie, pre-2014 in most states), because pre-existing conditions were a factor in determining eligibility and price.

But since 2014, individual health insurance policies have been guaranteed issue. There was (and continues to be) concern that this would lead to adverse selection, with healthy people opting to not purchase health insurance and simply waiting until they needed coverage before enrolling. This would result in adverse selection, and would sharply increase premiums, which is what we’ve seen in the individual insurance market over the last couple years (however, a significant percentage of the increase for 2018 is due to the Trump Administration’s decision to cut off CSR funding).

The ACA’s approach to avoiding adverse selection in a guaranteed-issue market is three-fold:

Even still, adverse selection remains a significant concern. Insurers worry that people are “gaming the system” and qualifying for special enrollment periods when they shouldn’t (as a result, special enrollment period eligibility and verification have been stepped up, starting in 2106), and they also worry that the individual mandate simply isn’t tough enough — both in terms of the penalty amount and the government’s ability to enforce it.

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