This is the accessible text file for GAO report number GAO-06-87R 
entitled 'Review of OMB Circular A-76 Health Benefit Cost Factor 
Needed' which was released on November 18, 2005. 

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November 17, 2005: 

Congressional Committees: 

Subject: Review of OMB Circular A-76 Health Benefit Cost Factor Needed: 

Determining whether to obtain required services using government 
employees or through contracts with the private sector is an important 
economic and strategic decision for agency managers. In this regard, 
Office of Management and Budget (OMB) Circular A-76 prescribes policies 
and procedures for use by agencies as they select service providers 
through competitions among public and private-sector sources.[Footnote 
1] The Circular is intended to ensure that the competitive sourcing 
process is conducted as fairly as possible, and that the estimated cost 
of government performance reflects all of the costs of performing the 
work in house. 

The purpose of this letter is to convey an issue we identified during 
the course of an ongoing review of how the costs of health benefits for 
federal and private-sector employees are reflected in public-private 
competitions conducted by the Department of Defense.[Footnote 2] We 
have determined that the health benefit cost factor prescribed in 
Circular A-76 may not reflect the current cost to the government of 
providing health insurance under the Federal Employees Health Benefits 
Program (FEHBP). The cost to the government of providing health 
benefits under the FEHBP has risen by more than 65 percent between 1999 
and 2005. Yet the health benefit cost factor prescribed in A-76 has not 
been changed at all in that time. In view of the increased cost of 
providing health insurance since the cost factor last was revised, we 
recommend that OMB review the health benefit cost factor to determine 
if an adjustment is needed and establish a process to update it 
periodically, as OMB does for other cost factors. 

Standard Costing Factors for Estimating Personnel Costs Include 
Employee Benefits: 

Circular A-76 establishes standard costing factors that agencies must 
use to estimate the costs of in-house performance. When preparing these 
estimates, agencies use cost factors that are in effect as of the 
solicitation closing date, revised to reflect projected changes to 
these factors during the performance period. To estimate personnel 
costs, for example, agencies add to basic pay a standard overall factor 
of 32.85 percent to account for fringe benefits. This overall factor is 
comprised of several components, including a standard cost factor of 
5.7 percent to account for insurance and health benefits, as shown in 
table 1. 

Table 1: Components of Circular A-76 Civilian Position Full Fringe 
Benefits Cost Factor: 

Standard cost factor; 

Insurance and health benefits[B]; 
Percentage of basic pay[A]: 5.7%. 

Standard civilian retirement benefit [C]; 
Percentage of basic pay[A]: 24.0%. 

Medicare benefit; 
Percentage of basic pay[A]: 1.45%. 

Miscellaneous fringe benefits; 
Percentage of basic pay[A]: 1.7%. 

Total; 
Percentage of basic pay[A]: 32.85%. 

Source: Circular A-76, attachments C and D. 

[A] Circular A-76 defines basic pay as a civilian employee's annual 
salary plus other applicable employee pay entitlements, such as premium 
pay for civilian law enforcement officers. 

[B] In addition to FEHBP, employees may receive life insurance benefits 
through the Federal Employees Group Life Insurance program. 

[C] The standard civilian retirement benefit cost factor includes the 
government share for pension benefits (Social Security, Thrift Savings 
Plan, Federal Employees or Civil Service Retirement Systems) and the 
accruing costs for post-retirement health benefits. 

[End of table] 

According to OMB staff, the 5.7 percent cost factor reflects 0.2 
percent for life insurance and 5.5 percent for health benefits. The 
current insurance and health benefit cost factor is based on actuarial 
estimates made in 1999. 

Health Benefit Factor Not Revised during Period of Substantial FEHBP 
Cost Growth: 

Certain factors used in Circular A-76 calculations for computing the 
government's non-pay and personnel costs are routinely reviewed and 
adjusted by OMB. These include the standard inflation factor for 
supplies and equipment and annual federal pay raise assumptions. This 
periodic review helps to ensure that the cost factors are up to date in 
order to reflect accurately the full estimated cost of performance. 
Nonetheless, our discussions with competitive sourcing officials and 
review of OMB's transmittal memoranda indicate that the insurance and 
health benefits cost factor has not been reviewed and adjusted with the 
same frequency as other factors, but rather has been set at 5.7 percent 
of a position's basic pay since 1999.[Footnote 3] 

In contrast, our review of the federal budget costs for FEHBP and the 
annual average premium increases announced for FEHBP health insurance 
plans indicates that civilian employee health benefit costs have 
increased substantially since OMB last revised this cost factor. Our 
analysis of federal budget data shows that the government's FEHBP costs 
in fiscal year 2005 have increased by more than 65 percent relative to 
fiscal year 1999.[Footnote 4] (See table 2.) 

Table 2: Federal Government Gross Outlays for FEHBP,A Fiscal Years 1999 
to 2005: 

[See PDF for image] 

Source: Budget of the U.S. Government. 

[A] The FEHBP fund provides for the cost of health benefits for (1) 
active employees; (2) employees who retired after June 1960 or their 
survivors; (3) those annuitants transferred from the Retired Employees 
Health Benefits fund program; and (4) the related expenses of the 
Office of Personnel Management in administering the program. 

[B] 2005 outlays are estimated. 

[End of table] 

Additionally, the annual open-season enrollment announcements from the 
Office of Personnel Management (OPM) indicate that average FEHBP 
premium increases have ranged between 7.9 and 13.3 percent per year 
during the period from 1999 to 2005.[Footnote 5] (See table 3.) The 
government-paid portion of FEHBP premiums averages 71 percent.[Footnote 
6] 

Table 2: Average FEHBP Premium Increases, 1999 to 2005: 

[See PDF for image] 

Source: OPM announcements of FEHBP open season premium changes. 

[End of table] 

Despite these changes in federal employee health benefit costs under 
FEHBP, the Circular A-76 health benefits cost factor, which is designed 
to reflect the health care cost to the government for in-house 
performance, has not been adjusted by OMB at all during that time. 

Conclusion: 

Health care costs are a large and growing consideration both for the 
private sector and for government operations. Yet despite recent 
increases in the government's cost of health care premiums, the cost 
factor in Circular A-76 designed to reflect these costs has not been 
adjusted in the past 6 years. We recognize that an adjustment of this 
factor could result in higher estimates of the total cost of government 
performance, and in some cases this could affect the outcome of public- 
private competitions. Nevertheless, the sourcing principles adopted by 
the Commercial Activities Panel,[Footnote 7] call for competitions 
between government and private-sector sources to be conducted as fairly 
as possible. In our view, fairness requires that any cost factor used 
in estimating the cost of performance, whether by private or public 
sector sources, be as accurate and current as possible in order to 
protect the integrity of the process. 

Recommendations for Executive Action: 

In order to ensure the health benefit cost factor appropriately 
reflects up-to-date and accurate assumptions, we recommend that the 
Director of OMB take the following two actions: 

* Reevaluate the health benefit cost factor to determine if an 
adjustment is necessary, based on the most current federal health 
insurance costs under FEHBP. 

* Establish procedures to provide for periodic updates of the health 
benefit cost factor in view of changes over time to the government's 
costs associated with FEHBP benefits. 

Agency Comments: 

We provided a draft of this letter to OMB for review and comment. OMB 
did not provide official agency comments, but OMB staff provided 
technical suggestions, which we incorporated as appropriate. The staff 
also stated that OMB is working with OPM in reviewing the health 
benefit and insurance cost factors and is looking at options for 
reviewing these factors on a more regularized cycle. 

Scope and Methodology: 

The information in this letter is based on ongoing GAO work and limited 
additional work conducted from February through October 2005, in 
accordance with generally accepted government auditing standards. In 
conducting our work, we reviewed federal budget data and OPM 
announcements regarding FEHBP costs between 1999 and 2005, and A-76 
policies and procedures for preparing personnel cost estimates for in- 
house performance, including the personnel health benefit factor used 
in making estimates for government cost. We also held discussions with 
competitive sourcing officials at the Department of Defense and OMB. 

We are sending a copy of this letter to the Director for the Office of 
Management and Budget and other interested congressional committees. We 
will provide copies to others upon request. This letter will also be 
available on GAO's home page at http://www.gao.gov. If you have any 
further questions or would like to discuss this matter in more detail, 
please call me or Katherine Schinasi, Managing Director, Acquisition 
and Sourcing Management (ASM), who may be reached at (202) 512-4841. 
Contact points for our Offices of Congressional Relations and Public 
Affairs may be found on the last page of this report. This letter was 
prepared under the direction of Bill Woods, Director, ASM. GAO staff 
who made contributions to this letter were Carolyn Kirby, Assistant 
Director; John Dicken; Rosa Johnson; Charles Perdue; Russ Reiter; 
Sylvia Schatz; Natalie Schneider; Robert Swierczek; and Tony Wysocki. 

Signed by: 

David M. Walker: 

Comptroller General of the United States: 

(120491): 

List of Congressional Committees: 

The Honorable Susan M. Collins, Chairman: 
The Honorable Joseph I. Lieberman: 
Ranking Minority Member: 
Committee on Homeland Security and Governmental Affairs: 
United States Senate: 

The Honorable Thomas M. Davis, Chairman: 
The Honorable Henry A. Waxman: 
Ranking Minority Member: 
Committee on Government Reform: 
House of Representatives: 

The Honorable John Warner, Chairman: 
The Honorable Carl Levin: 
Ranking Minority Member: 
Committee on Armed Services: 
United States Senate: 

The Honorable Duncan L. Hunter, Chairman: 
The Honorable Ike Skelton: 
Ranking Minority Member: 
Committee on Armed Services: 
House of Representatives: 

The Honorable Ted Stevens, Chairman: 
The Honorable Daniel K. Inouye: 
Ranking Minority Member: 
Subcommittee on Defense: 
Committee on Appropriations: 
United States Senate: 

The Honorable C.W. Bill Young, Chairman: 
The Honorable John P. Murtha: 
Ranking Minority Member: 
Subcommittee on Defense: 
Committee on Appropriations: 
House of Representatives. 

FOOTNOTES 

[1] OMB Circular A-76, Performance of Commercial Activities, revised in 
May 2003, establishes federal policy and procedures for determining 
whether commercial activities should be performed in-house, by another 
federal agency, or by the private sector. Circular A-76 contains 
procedures agencies must use in calculating and comparing the costs of 
performance by in-house, private, or public reimbursable sources. 

[2] In response to direction in the conference report on the Ronald W. 
Reagan National Defense Authorization Act, House Rep. No. 108-767, we 
are reviewing the implementation of section 8014 of the Department of 
Defense Appropriations Act, 2005, Public Law No. 108-287. Section 8014 
contains requirements concerning the costs of health benefits in public-
private competitions conducted by the Department of Defense. 

[3] Circular No. A-76 (Revised), Transmittal Memorandum No. 19, 
Performance of Commercial Activities, March 24, 1999. In this 
memorandum, OMB revised the then 5.6 percent cost factor for insurance 
and health benefits up by 0.1 percentage points (on the health 
insurance side) to 5.7 percent. 

[4] This increase reflects both the increase in premiums paid by active 
federal employees and retirees and the increase in the amount paid by 
the government for all participants. However, the insurance and health 
benefit cost factor used in Circular A-76 is based only on the costs 
borne by the government (not enrollee premiums) and only on behalf of 
active federal employees (not retirees). Increases in government costs 
for retirees are reflected in the standard civilian retirement benefit 
cost factor. 

[5] OPM develops two figures for annual FEHBP premium changes: one in 
the fall prior to open season enrollment, when negotiations with the 
plans are complete, and the second after enrollment has occurred. The 
difference is that there may be some change in enrollment following the 
open season, with some people leaving plans with higher premium cost 
increases and joining plans with lower cost increases. In October 2005, 
OMB provided us OPM's post-open season enrollment FEHBP premium changes 
between 1999 and 2005 which showed that premium increases ranged 
between 7.4 and 12.7 percent. 

[6] The implications of higher government-paid costs from increased 
FEHBP premiums since 1999 will have to be determined through actuarial 
analyses based on other related changes over time, such as changes in 
the average salaries of active federal employees and their 
participation rates in the FEHBP. 

[7] Commercial Activities Panel, Improving the Sourcing Decisions of 
the Government (Washington, D.C.: Apr. 30, 2002).