Prescription Drug Costs in Employer Health Plans: How Mid-Size Companies Understand and Manage Pharmacy Benefit Spending

Prescription drug costs in an employer health plan have become one of the fastest-growing budget pressures facing mid-size companies today. While base medical claims have risen at roughly the pace of general medical cost inflation, pharmacy spending has accelerated well beyond that rate for many groups, driven by the rapid adoption of specialty medications and a pricing structure that most employers never get to see clearly.

The average employer with 50 to 150 employees now spends between 18% and 25% of total health plan costs on pharmacy benefits, according to the KFF 2024 Employer Health Benefits Survey. For groups where even one or two employees are on high-cost specialty medications, that share can reach 30% to 40% of total plan cost in a given year. Unlike most medical claims, pharmacy costs are substantially controllable through plan design, formulary management, and purchasing strategy.

This guide covers what mid-size employers actually pay for pharmacy benefits, how the PBM relationship shapes those costs, what plan design tools are available to reduce spending without eliminating coverage, and how alternative funding arrangements affect the pharmacy cost picture.

Why Prescription Drug Costs in Employer Health Plans Keep Rising

The Specialty Drug Problem

Ten years ago, specialty drugs, defined broadly as high-cost medications that often require special handling, administration, or monitoring, represented a relatively small share of total employer pharmacy spending. Today they are the dominant cost driver for most employer groups. A single specialty medication for a condition like rheumatoid arthritis can run $25,000 to $60,000 per year per patient. An oncology medication can run $100,000 to $250,000 per year or more.

What makes this particularly challenging for mid-size employers is that one employee on a high-cost specialty drug can materially shift the entire group's loss ratio. A group of 60 employees with one member on a $50,000-per-year specialty medication is paying roughly $833 more per month per employee on average to cover that single claim, before accounting for any other medical costs. In a fully pooled fully insured arrangement, some of that cost is absorbed by the broader pool. In a level-funded or self-funded arrangement, the employer carries the cost directly, subject to stop-loss protection above a per-person attachment point.

Specialty drug costs have grown at 10% to 15% per year for the past several years across employer groups, according to the KFF 2024 Employer Health Benefits Survey. For mid-size employers, specialty drug cost management has become one of the highest-ROI places to invest attention, because the interventions available are meaningful and the cost growth without intervention is compounding.

How the PBM Structure Creates Opacity

Most employer health plans use a pharmacy benefit manager to administer the pharmacy benefit. The PBM contracts with drug manufacturers and pharmacy networks on behalf of the plan, processes prescription claims, manages the formulary (the list of covered medications and their cost-sharing tiers), and typically handles mail-order pharmacy operations. In a standard fully insured arrangement, the employer does not see the PBM contract at all. The carrier bundles the pharmacy benefit into the overall plan premium and manages the PBM relationship entirely on the carrier's terms.

This creates a structural opacity problem. The PBM negotiates rebates from drug manufacturers in exchange for favorable formulary placement. Those rebates can be significant, ranging from 5% to 40% of the medication's list price depending on the drug category and negotiating leverage. In a pass-through pricing model, the full rebate amount flows back to the employer's plan fund. In a spread pricing model, the PBM retains a portion of the rebate as profit and passes only a portion through. Most fully insured employer plans operate under arrangements where the carrier and PBM share the rebate, and the employer receives little or none of it.

For mid-size employers in fully insured arrangements, this means they are often paying a pharmacy premium that includes a built-in margin the PBM and carrier share, with no direct line of sight into what the rebates look like or what the spread is. Moving to a transparent pass-through arrangement, which is only accessible in self-funded and some level-funded arrangements, is one of the primary reasons pharmacy economics improve when employers leave the fully insured commercial market. For more on how funding arrangements affect total plan economics, the analysis at six health coverage funding strategies for mid-size employers covers the comparison in detail.

What Mid-Size Employers Actually Spend on Pharmacy Benefits

National Benchmarks for Pharmacy Spending

According to the Bureau of Labor Statistics Employer Costs for Employee Compensation data and the KFF 2024 survey, the following benchmarks apply to mid-size employer groups in the 20 to 150 employee range:

• Total pharmacy spending as a share of total health plan cost: 18% to 25% for groups without specialty drug utilization; 25% to 40% for groups with one or more specialty drug utilizers
• Per-member per-month pharmacy cost: $85 to $140 for groups with standard generic and brand drug utilization; $180 to $350 or higher for groups with specialty drug exposure
• Generic fill rate: 85% to 92% is typical for well-managed pharmacy plans; rates below 80% suggest the formulary or copay design is not adequately directing members toward generics

These benchmarks are starting points for conversations, not diagnostic conclusions. A group with a high-cost specialty drug claimant will look like an outlier on any trailing-twelve-month analysis. The question worth asking is whether the underlying plan design is directing members toward the most cost-effective therapy options available, or whether plan design is creating unnecessary cost through inadequate generic substitution, poor formulary management, or specialty drug handling gaps.

How Pharmacy Mix Shapes Total Plan Costs

The ratio of generic fills to brand fills to specialty fills in a given plan year drives pharmacy cost more than any other single factor. A group where 90% of all prescriptions are filled with generics pays dramatically less in total pharmacy cost per member than a group at 75% generic fill rate, even if the underlying health conditions are identical. The difference in per-prescription cost between a brand-name and a therapeutically equivalent generic can range from $50 to $500 per fill, depending on the medication category.

This is why the generic fill rate is worth tracking explicitly and why plan design choices that create price sensitivity at the point of pharmacy purchase, higher copays for brand medications, step therapy requirements, and prior authorization for specialty drugs, produce measurable reductions in total pharmacy cost without eliminating access to necessary medications.

The PBM Relationship and What It Means for Your Plan

Pass-Through vs. Spread Pricing: The Core Economic Difference

The most important economic distinction in pharmacy benefit management is between pass-through pricing and spread pricing. Understanding which model your plan uses determines how much of the negotiated drug pricing actually flows to your plan's cost reduction.

In a pass-through model, the employer's plan pays exactly what the PBM contracts to pay for each prescription, plus an explicit administrative fee. All manufacturer rebates flow directly to the plan fund. The employer can see the actual ingredient cost, the dispensing fee, and the rebate separately in their pharmacy reports. This is the model used in most well-managed self-funded pharmacy arrangements.

In a spread pricing model, the PBM charges the plan a price that is higher than what the PBM actually paid for the drug, and retains the difference as profit. The spread is invisible to the employer because the reports show only the amount charged, not the underlying cost. Manufacturer rebates may or may not pass through depending on the contract. In many fully insured commercial arrangements, the spread pricing is embedded in the carrier premium, and the employer has no visibility into what the actual ingredient cost was or what rebate offset existed.

Employers who move from a bundled fully insured pharmacy arrangement to a pass-through self-funded or level-funded contract with a transparent PBM frequently see pharmacy cost reductions of 10% to 20% on the same drug mix. The savings come from removing the embedded spread, not from changing benefit design or formulary.

Formulary Design and Tier Structure

The formulary is the list of drugs the plan covers and at what cost-sharing level. A well-designed formulary has at least three tiers: generics at the lowest copay, preferred brands at a moderate copay, and non-preferred brand or specialty medications at the highest copay. The copay differential between tiers is the mechanism that directs members toward cost-effective options. A $5 copay spread between a generic and its brand equivalent does not drive substitution reliably. A $20 to $40 differential does. Reviewing your formulary tier design as part of each annual renewal, rather than accepting the carrier default, produces consistent generic fill rate improvement over time.

Plan Design Strategies That Reduce Prescription Drug Costs

Generic Substitution and Step Therapy

Generic substitution programs automatically fill a prescription with the therapeutically equivalent generic when one is available and the prescriber did not specify brand-necessary dispensing. Most pharmacy benefit managers include some form of mandatory generic substitution in their standard formulary management. The question for employers is whether the substitution rate is being tracked and whether plan design supports it adequately through copay differentials.

Step therapy, sometimes called fail-first, requires that members try a lower-cost medication before the plan will cover a higher-cost alternative for the same condition. This is common for specialty drug categories where a brand-name biologic has generic or biosimilar alternatives that are clinically equivalent for most patients. Step therapy is one of the highest-leverage tools for specialty drug cost management, but it requires careful formulary design and a clear appeals process for patients who have documented clinical reasons why the lower-cost step is not appropriate for them.

For a broader look at how stop-loss design interacts with specialty drug exposure in self-funded and level-funded arrangements, the analysis at stop-loss coverage for employer health plans covers how per-person attachment points affect the economics of high-cost claimants including specialty drug users.

Specialty Drug Management Programs

Specialty drugs require a fundamentally different management approach than standard medications. Most specialty drugs cannot be filled at a retail pharmacy. They require specialty pharmacy dispensing, often with temperature-controlled shipping, patient education, and adherence monitoring. This creates a concentration point for cost management: the specialty pharmacy relationship is where most of the cost reduction opportunity lives.

Employers with self-funded or level-funded arrangements can designate a preferred specialty pharmacy, negotiate specialty drug pricing directly or through a group purchasing arrangement, and implement prior authorization requirements for high-cost specialty categories. These interventions do not eliminate specialty drug costs, but they can reduce the per-unit cost of specialty medications by 5% to 15% compared to carrier-bundled specialty pharmacy pricing.

Manufacturer patient assistance programs and specialty drug foundations also offer meaningful cost reduction for members on certain high-cost biologics, particularly for specialty drugs where manufacturer-sponsored copay assistance is available. A proactive pharmacy management consultant or a transparent PBM can identify which members are on drugs with available manufacturer programs and facilitate enrollment, reducing the plan's net cost on those claims.

Mail-Order and 90-Day Supply Programs

For members on maintenance medications for chronic conditions, 90-day supply mail-order programs produce consistent cost savings relative to monthly retail fills. The per-unit drug cost through mail-order channels is typically 10% to 15% lower than retail pricing for the same medication. Members also pay lower copays per day of supply in most plan designs, which improves medication adherence. Better adherence on maintenance medications for conditions like diabetes, hypertension, and high cholesterol reduces downstream medical claims, producing additional savings that show up in the following year's claims experience rather than the current pharmacy report.

Encouraging mail-order enrollment is a relatively easy communication win during open enrollment. A one-paragraph explanation of the cost savings plus a direct link to the PBM's mail-order enrollment process, included in every open enrollment communication packet, typically increases 90-day mail-order utilization by 8% to 15% within the first plan year. For additional context on how to build cost-saving features into your overall benefits strategy before each renewal, the health plan risk assessment and funding strategy guide covers pre-renewal decision making for mid-size employer groups.

How Alternative Funding Arrangements Affect Pharmacy Cost

The Pharmacy Carve-Out Option in Self-Funded Plans

One of the most significant advantages of self-funded and level-funded health arrangements for mid-size employers is the ability to carve out the pharmacy benefit and negotiate it separately from the medical benefit. In a fully insured commercial plan, the carrier bundles medical and pharmacy into a single premium, and the employer has no ability to negotiate pharmacy terms independently. Whatever PBM contract the carrier has established applies to the employer's plan, with all its embedded margins.

In a self-funded or level-funded arrangement, the employer can contract directly with a transparent, pass-through PBM for pharmacy benefits. This allows the employer to capture manufacturer rebates directly, see actual drug pricing, negotiate specialty pharmacy rates separately, and implement formulary management strategies aligned with their specific workforce's needs rather than accepting a one-size carrier default.

For groups with 50 or more employees and any specialty drug utilization, a pharmacy carve-out in a self-funded or level-funded arrangement typically reduces total pharmacy cost by 12% to 20% compared to the bundled carrier arrangement, even before changes to benefit design. The savings come from removing the embedded PBM spread and capturing rebates that previously flowed to the carrier. This is not a theoretical benefit. It is a structural change in who captures the value that already exists in the pharmacy purchasing chain.

Stop-Loss Protection and High-Cost Drug Claims

The primary concern mid-size employers have about managing pharmacy costs directly in a self-funded or level-funded arrangement is the exposure to a catastrophic specialty drug claim. A member starting on a $200,000-per-year oncology medication in month two of the plan year creates a claims liability the employer needs to be prepared for.

Stop-loss coverage, which is bundled into level-funded plans and purchased separately in self-funded arrangements, addresses this directly. The per-person attachment point, typically set between $20,000 and $100,000 for mid-size groups depending on group size and risk tolerance, defines the maximum the employer's plan fund pays for any single member's claims in a given year. Claims above the attachment point are reimbursed by the stop-loss carrier. A group with a $50,000 per-person attachment point and a member on a $200,000 specialty drug pays $50,000 toward that claim and is reimbursed $150,000 by stop-loss.

The interaction between stop-loss design and specialty drug exposure is one of the most important underwriting conversations a mid-size employer needs to have before moving to a self-funded or level-funded arrangement. Setting the attachment point correctly, given the employer's group size, cash flow tolerance, and known health conditions in the workforce, determines whether the pharmacy carve-out and funding structure change is economically sound.

Frequently Asked Questions

What share of employer health plan costs goes to prescription drugs?

For most mid-size employer groups in the 20 to 150 employee range, prescription drug costs represent 18% to 25% of total health plan spending in a year without major specialty drug utilization. Groups with one or more members on high-cost specialty medications for conditions like rheumatoid arthritis, multiple sclerosis, or cancer often see pharmacy reach 30% to 40% or more of total plan cost. These figures vary significantly by workforce age, industry, and benefit design. Employer groups that track pharmacy spend separately from medical claims are better positioned to act on cost reduction opportunities than those who only see a blended premium figure from their carrier.

What is a pharmacy benefit manager and why does it matter for employer costs?

A pharmacy benefit manager (PBM) is a company that administers the prescription drug benefit for health plans. The PBM negotiates pricing with drug manufacturers and pharmacy networks, manages the formulary, processes claims, and often operates mail-order pharmacy programs. The pricing model the PBM uses, pass-through versus spread pricing, determines how much of the negotiated savings actually reaches your plan. In a pass-through model, all rebates and negotiated discounts flow to the plan fund and the employer pays an explicit administrative fee. In a spread pricing model, the PBM retains a portion of the spread between what it charges the plan and what it actually paid for the drug, with limited visibility to the employer. Most employers in fully insured commercial plans do not see their PBM contract terms and are operating under spread pricing arrangements without realizing it.

How does step therapy reduce prescription drug costs?

Step therapy requires that a plan member try a lower-cost medication before the plan will cover a higher-cost alternative for the same medical condition. For example, a member prescribed a branded biologic for rheumatoid arthritis might be required to try a clinically equivalent biosimilar or a lower-cost conventional treatment first. If that medication is insufficient, the plan then covers the higher-cost option. Step therapy is most commonly applied in specialty drug categories where the cost difference between first-line and second-line options is substantial, often $10,000 to $50,000 per year per patient. It does not eliminate access to higher-cost medications for members who genuinely need them, but it ensures the plan is not paying premium prices for medications that are not the most cost-effective first option for the condition being treated.

Can mid-size employers negotiate their own pharmacy contracts?

In a self-funded or level-funded arrangement, yes. The employer can carve out the pharmacy benefit and negotiate directly with a transparent PBM, or participate in a group purchasing arrangement that provides access to better unit pricing than any single mid-size employer could negotiate alone. In a fully insured arrangement, the answer is effectively no. The carrier holds the PBM contract and the employer's plan participates on whatever terms the carrier has established. This is one of the most significant structural advantages of moving to a self-funded or level-funded arrangement for employers who want to actively manage pharmacy costs rather than accept carrier-determined pricing.

What should our first step be if we think we are overpaying on pharmacy benefits?

Start by requesting a pharmacy utilization report from your carrier or broker that shows your plan's pharmacy spend broken down by generic fills, brand fills, and specialty fills, along with your generic fill rate and per-member per-month pharmacy cost. Compare those figures to the benchmarks above. If your generic fill rate is below 80% or your per-member pharmacy cost is materially above benchmark, the next step is understanding whether your formulary copay structure is creating enough price sensitivity to drive generic substitution, and whether your PBM is operating on a pass-through or spread pricing model. If your broker cannot tell you which pricing model your PBM uses, that is important information. Employers who can see their actual pharmacy unit economics are far better positioned to act on cost reduction opportunities than those operating from a blended premium figure alone. You can also use the Health Funding Projector at benefitra.com/health-funding-projector to model how a move to a self-funded or level-funded arrangement would affect your total plan economics including pharmacy.

References

1. KFF. "2024 Employer Health Benefits Survey." October 2024. kff.org/health-costs/report/2024-employer-health-benefits-survey/
2. Bureau of Labor Statistics. "Employer Costs for Employee Compensation, December 2024." bls.gov/news.release/ecec.toc.htm
3. SHRM. "Self-Funded Health Plans: What Employers Need to Know." shrm.org/topics-tools/tools/toolkits/self-funded-health-plans
4. NAPEO. "PEO Industry Overview: 2024 Data." napeo.org/what-is-a-peo/industry-statistics
5. Mercer. "National Survey of Employer-Sponsored Health Plans 2024." mercer.com/insights/total-health/employee-health-benefits/mercer-national-survey-of-employer-sponsored-health-plans/
6. Centers for Medicare and Medicaid Services. "Pharmacy Benefit Manager Transparency." cms.gov/priorities/innovation/key-concepts/pharmacy-benefit-managers

This content is provided for educational purposes and does not constitute financial, legal, or benefits advice. Consult your benefits advisor and legal counsel for guidance specific to your organization.