How US Healthcare Works, Part 17: Pharmacy and PBMs

Almost everything in this series so far has been about medical claims: a service happens, a claim follows days or weeks later, and the payer adjudicates it. Prescription drugs work differently. The claim is adjudicated in seconds while the patient waits at the pharmacy counter, it usually runs through a different company from the medical plan, and the price the plan pays is shaped by payments the patient never sees. Prescription drugs were $467 billion of US health spending in 2024, about 9% (part 1), and much more once drugs given in clinics are counted.

1. The pharmacy benefit manager

Most health plans, including employers and Medicare Part D plans, hire a pharmacy benefit manager (PBM) to run the drug benefit. A PBM:

• builds and runs the pharmacy network, the pharmacies where members can fill prescriptions,
• maintains the formulary, the list of covered drugs and their tiers,
• adjudicates pharmacy claims in real time,
• negotiates rebates with drug manufacturers,
• runs drug utilization management: prior authorization, step therapy, quantity limits,
• often owns mail-order and specialty pharmacies.

The market is concentrated. The FTC found in its 2024 interim report that the three largest PBMs, CVS Caremark, Express Scripts and OptumRx, handled nearly 80% of the roughly 6.6 billion prescriptions dispensed in the US in 2023. Each is part of a company that also owns a large insurer: CVS Health with Aetna, Cigna with Express Scripts, and UnitedHealth Group with UnitedHealthcare and OptumRx. So one company can be the insurer, the PBM and the pharmacy for the same member.

2. At the counter: a claim in seconds

The member's ID card carries extra fields just for pharmacy: a BIN, PCN and group number that route the claim to the right PBM. When Maria's son gets amoxicillin for his ear infection from part 3:

1. The pharmacy enters the prescription and sends a claim to the PBM
   (NCPDP Telecommunication Standard, in real time)
2. The PBM checks eligibility, the formulary, utilization rules, drug interactions
   and refill timing, and prices the claim
3. Response in a few seconds: paid; plan pays $7.40, member copay $10
4. The pharmacy collects the $10 and hands over the medicine

Pharmacy claims use the NCPDP standards, not the X12 ones from medical claims. Most problems surface right at the counter, as a rejection the pharmacist can sometimes fix on the spot: "refill too soon", "prior authorization required", "not covered, try this alternative".

3. Formularies and tiers

A formulary groups covered drugs into tiers, each with its own cost sharing. A typical design:

On top of tiers, the formulary adds rules:

• Prior authorization: the doctor must show the drug is needed before the plan covers it.
• Step therapy: try a cheaper drug first; cover the expensive one only if that fails.
• Quantity limits: no more than a set amount in a period.

Doctors can request prior authorization for drugs electronically from inside their prescribing software, using NCPDP's ePA transactions. Medicare Part D plans must support them.

4. Where the money goes: list prices and rebates

Drug pricing is the most opaque part of the system, because several prices exist for the same drug:

Rebates are payments from manufacturers to PBMs in return for favourable formulary placement, a preferred tier or fewer restrictions. The PBM keeps some and passes some to the plan, depending on its contract.

Two effects of this system cause most of the criticism:

• Members pay on the list price. A member's coinsurance, or their cost during the deductible, is usually based on the pre-rebate price. So a member can pay 30% of a list price that's far above what the plan actually spends after rebates.
• Higher list prices can win placement. A drug with a high list price and a large rebate can be more attractive to a PBM than a cheaper drug with a small rebate.

A third is spread pricing: the PBM charges the plan more for a drug than it pays the pharmacy and keeps the difference. Many employers and states now require pass-through contracts that ban it.

5. Specialty drugs and the medical benefit

Specialty drugs, expensive drugs for complex conditions such as cancer, rheumatoid arthritis and multiple sclerosis, are a small share of prescriptions but a large share of drug spending. They often need special handling and are dispensed by specialty pharmacies, many owned by the large PBMs. The FTC found that pharmacies affiliated with the three largest PBMs earned nearly 70% of specialty drug revenue.

Some drugs aren't billed through the pharmacy benefit at all. A drug given by infusion or injection in a clinic or hospital is usually billed on a medical claim with a HCPCS J-code (part 4), under the medical benefit, adjudicated by the health plan rather than the PBM, often with its own prior authorization. The same drug can be covered differently depending on which benefit it's billed under, and plans try to steer drugs to the cheaper channel.

6. Medicare Part D's recent changes

Part D, Medicare's drug benefit from part 2, has changed more in the last three years than in its first fifteen, through the 2022 Inflation Reduction Act:

• An out-of-pocket cap. From 2025, members' yearly out-of-pocket drug costs are capped: $2,000 in 2025 and $2,100 in 2026. Before, there was no limit.
• Insurers and manufacturers carry more of the catastrophic costs, which used to fall mostly on Medicare. That gives plans a stronger reason to manage high-cost drugs.
• Price negotiation. Medicare now negotiates prices for some of its costliest drugs. The first ten negotiated prices took effect on 1 January 2026, and a second set of fifteen follows in 2027.

7. Two more mechanisms worth knowing

• Copay assistance and accumulators. Manufacturers often give members coupons that cover their copay for expensive brand drugs. Some plans use accumulator programs, so the coupon money doesn't count toward the member's deductible, which can leave members with a large bill once the coupon runs out.
• Combined accumulators. When the medical plan's deductible and out-of-pocket maximum cover drugs too, the PBM and the medical plan must share accumulator totals, usually daily (part 3). Delays in that exchange cause members to be charged wrongly at the counter.

8. Limits

• Opacity. Rebates and contract terms are confidential, so it's hard for plans, let alone members, to know the actual price of a drug.
• Concentration and integration. When the insurer, PBM and pharmacy are one company, its internal prices are hard to check, which is what the FTC's inquiry is about.
• Two benefits for one patient. The medical and pharmacy sides use different standards, systems and often companies, so the patient's total care is split across two sets of data.

Remember

Next, in part 18, the last: the data and rules underneath the whole system, and where AI fits.

Sources

• Federal Trade Commission, Interim staff report on pharmacy benefit managers, July 2024, and second interim report, January 2025
• CMS, Medicare Drug Price Negotiation
• Medicare.gov, Drug coverage (Part D)
• NCPDP, Standards
• CMS, National Health Expenditure data