Pharmacy Benefit Managers and Self-Funded Health Plans: What Mid-Size Employers Need to Know About Controlling Prescription Drug Costs

Prescription drug costs have become the fastest-growing line item in employer health plan spending. In 2024, pharmacy accounted for approximately 28% of total commercial health plan spend for mid-size employers, up from around 18% five years earlier, according to the Business Group on Health.¹ For employers in self-funded or level-funded arrangements, every dollar of that pharmacy spend comes directly from the claims fund. The pharmacy benefit manager sitting between your plan and the drug counter determines how much of that spend is actually necessary.

Most mid-market employers know they have a pharmacy benefit manager. Far fewer understand how their PBM contract works, who the PBM is optimizing for when it prices a claim, or what alternatives exist for groups with 30 to 250 employees who want more control over their pharmacy spend. This matters more now than it did a decade ago: specialty drugs, GLP-1 medications, and biosimilar adoption decisions are all made at the PBM layer, and the employer has less visibility into those decisions than almost any other cost driver in the plan.

This guide explains how PBM contracts actually work, where the real leverage is in a self-funded arrangement, and what employers should be asking their advisor before their next plan year renewal.

What a Pharmacy Benefit Manager Actually Does

The PBM's Role in the Claim Chain

When an employee fills a prescription, the transaction runs through a PBM before it reaches the employer's claims fund. The PBM negotiates drug prices with manufacturers, creates the formulary (the list of covered drugs and their tier assignments), sets the reimbursement rates paid to retail pharmacies, and manages prior authorization requirements for specialty and high-cost drugs. In a self-funded plan, the employer is the ultimate payer. The PBM is the intermediary managing every step between the drug manufacturer and the plan.

The three largest PBMs in the U.S., Express Scripts (owned by Cigna), CVS Caremark, and OptumRx (owned by UnitedHealth Group), collectively process roughly 80% of all prescription drug claims in the country.² For most mid-size employers, the PBM bundled with their carrier-administered plan is one of these three. The contract between the employer and the PBM is typically set by the carrier, not negotiated directly, which means the pricing terms often reflect carrier-level economics rather than the employer's specific interests.

The Three PBM Contract Structures

Understanding your PBM contract starts with identifying which pricing model it uses. There are three primary structures:

Spread pricing: The PBM charges the employer a higher price for each drug than it actually pays the pharmacy, pocketing the difference as profit. In this model, the employer has no visibility into what the drug actually cost at the pharmacy level. Spread pricing has been the subject of significant state-level scrutiny and legislation, and for self-funded employers, it means every claim is potentially paying more than the actual drug cost with no audit trail for the difference.

Pass-through pricing: The employer pays exactly what the PBM pays the pharmacy, plus an explicit administration fee. There is no spread. The employer can audit every transaction and verify that the billed amount matches the actual cost. Administrative fees under a pass-through model typically run $2 to $8 per prescription claim depending on the PBM and plan size. Total transparency is the defining feature of this model.

Transparent or hybrid models: These combine elements of both structures, often passing through the ingredient cost while retaining a spread on specialty or branded drugs. Hybrid models are common among regional or independent PBMs competing with the major three. Evaluation requires reviewing specific contract terms by drug category, not just the headline pricing model.

For employers in self-funded arrangements, the move from spread pricing to pass-through typically produces immediate visibility into true pharmacy costs, even before any formulary or rebate changes are made. What employers often discover in that first audit is that their effective per-prescription cost under spread pricing was meaningfully higher than the equivalent pass-through cost would have been.

Carving Out the Pharmacy Benefit in a Self-Funded Plan

What a Pharmacy Carve-Out Actually Means

A pharmacy carve-out means that an employer in a self-funded arrangement contracts separately with a PBM rather than using the PBM bundled with their medical administrator or carrier. The medical claims and the pharmacy claims are administered by different entities. The employer has direct contractual visibility into both, and can negotiate or re-bid each separately at renewal.

For fully insured employers, a carve-out is not possible in the same way: the carrier bundles medical and pharmacy administration and prices them together. But for employers in self-funded or level-funded arrangements, the pharmacy benefit is already a separate financial item in the claims fund. Carving it out to a dedicated PBM simply makes the administration and pricing contract explicit and auditable.

The savings potential varies significantly by group size and drug mix. For groups where specialty drug spend is modest, carve-out savings are typically 10% to 15% of pharmacy spend. For groups with active specialty users, the formulary management and rebate structures available through independent PBMs can produce savings of 20% to 30% or more on total pharmacy costs, based on BIH client analysis across similar-sized groups.^† These are not guaranteed outcomes and depend heavily on the specific PBM contract negotiated and the group's actual drug utilization profile.

The self-funded captive model takes pharmacy carve-out one step further by pooling employer pharmacy risk across a group captive, giving smaller employers access to PBM pricing and formulary designs that previously required 500 or more enrolled lives to negotiate directly. For groups in the 30 to 150 employee range, this pooling approach can close much of the scale disadvantage.

The GLP-1 Problem for Mid-Size Employer Plans

The emergence of GLP-1 medications (Ozempic, Wegovy, Mounjaro, and their equivalents as biosimilars come to market) has created a new category of employer plan risk that most mid-market employers were not prepared for. These drugs carry retail prices of $800 to $1,400 per month. For a plan covering 100 employees, a single GLP-1 user at full retail cost represents a $10,000 to $17,000 annual pharmacy claim. For a plan covering 50 employees, even two or three employees on GLP-1 medications can represent a claims exposure that materially exceeds what the pharmacy component of the premium anticipated.

PBM prior authorization requirements, formulary tier placement, and step therapy protocols are the primary tools for managing GLP-1 exposure. A plan that places GLP-1s on a preferred tier without prior authorization covering only diagnosed diabetes (not weight management) will see materially different utilization and cost than a plan that requires prior authorization for both indications. These decisions are made at the PBM and plan document level, and they require active employer engagement to get right.

For the compliance implications of self-funded plan design decisions around drug coverage, including GLP-1 coverage requirements under ACA and ERISA parity rules, the compliance shift guide for self-funded plans covers what changes when you move off a carrier plan and start making these design decisions directly.

Key PBM Contract Terms to Understand Before Renewal

Drug Rebates: Who Gets Them and When

PBMs negotiate rebates from pharmaceutical manufacturers as a condition of favorable formulary placement. In a pass-through PBM contract, 100% of these rebates flow back to the employer. In a spread or hybrid model, the PBM may retain a portion of the rebate, or it may be applied against the PBM's fees before any credit reaches the employer. For a group with significant branded drug utilization, the annualized rebate value can be substantial, sometimes $50 to $300 per plan member per year depending on drug mix.³

Rebate timing is also a material term. Some PBM contracts pay rebates quarterly. Others pay annually or only after a minimum threshold. In a self-funded arrangement where cash flow matters, a PBM that settles rebates quarterly versus annually represents a meaningful working capital difference for smaller employer groups.

Specialty Drug Dispensing and Mail-Order Requirements

Specialty drugs, broadly defined as drugs costing more than $600 to $800 per 30-day supply, represent the largest and fastest-growing segment of total pharmacy spend.⁴ Most PBM contracts include provisions that require specialty drugs to be dispensed through a specialty pharmacy affiliated with or owned by the PBM. For employers who have negotiated a carve-out PBM, this requirement can be used to direct specialty dispensing to lower-cost channels, including independent specialty pharmacies that accept lower reimbursement rates.

Mail-order fulfillment for maintenance medications (90-day supplies) is another significant lever. Plans that require or incentivize mail-order for drugs like statins, antihypertensives, and diabetes medications can save 15% to 25% on those medication categories compared to retail dispensing, both through lower unit costs and reduced dispensing fees.⁵

Auditing Your Current PBM Arrangement

Five Questions Worth Asking Before Your Next Renewal

Most mid-size employers never audit their PBM contract. Most have never read it in full. Before your next plan year renewal, ask your advisor these five questions and document the answers:

1. What is our PBM pricing model? Spread, pass-through, or hybrid? If your advisor cannot answer this immediately, you are likely in a spread pricing arrangement without knowing it.

2. What percentage of manufacturer rebates do we receive? The answer should be 100% in a pass-through model. Anything less means the PBM is retaining a portion of the rebate that is contractually negotiable.

3. Are we required to use the PBM's affiliated specialty pharmacy? If yes, what is the markup over cost on specialty drugs dispensed through that channel versus an independent pharmacy?

4. What is our effective cost per prescription claim? Total pharmacy spend divided by total claims is a blunt metric, but tracking it year over year reveals whether your PBM arrangement is getting more or less favorable over time.

5. Do we have audit rights in our PBM contract? In a pass-through model, the employer should have the right to audit claims data and verify that billed costs match actual pharmacy costs. If your current contract does not include this provision, that is a material term to negotiate at renewal.

For a broader framework that connects pharmacy spend to your overall self-funded claims picture, the health plan claims report analysis guide and the group health plan loss ratio guide both cover how pharmacy trends interact with your total plan cost and stop-loss exposure.

What Mid-Size Employers in Level-Funded Plans Should Know

Pharmacy Spend and the Claims Surplus Calculation

In a level-funded plan, the employer retains a surplus at year end when total claims (medical plus pharmacy) come in below the projected funding level. Pharmacy spend is fully included in that calculation. A group that manages pharmacy costs down by 15% through a carve-out or formulary redesign does not just save on the pharmacy line: it also increases the probability of a year-end surplus and reduces the total claims figure used to price the renewal for the following year.

This compounding effect is one reason why pharmacy cost management is disproportionately valuable in level-funded and self-funded arrangements compared to fully insured plans. In a fully insured plan, pharmacy savings flow primarily to the carrier's loss ratio. In a self-funded arrangement, every dollar of pharmacy savings is a dollar that stays in the employer's claims fund or comes back as surplus. The incentive alignment is completely different.

Multiemployer Trust Plans and Pharmacy Design

For employers exploring multiemployer trust arrangements (Taft-Hartley trusts) as an alternative to commercial carrier plans, the trust's existing PBM contract is a key evaluation factor. Trust-administered pharmacy programs typically benefit from the pooled purchasing volume of all trust members, which can produce unit drug costs well below what a 50 to 100 employee group could negotiate independently. When evaluating a multiemployer trust, ask specifically for the trust's effective cost per prescription by drug tier, and compare it against your current PBM's rates. The pharmacy economics alone often justify the trust analysis for groups with moderate-to-high pharmacy utilization.

Frequently Asked Questions

What is pharmacy benefit management and why does it matter for self-funded employers?

A pharmacy benefit manager is the intermediary that processes prescription drug claims, negotiates drug prices with manufacturers, creates the formulary, and sets reimbursement rates for pharmacies. In a fully insured health plan, the PBM is bundled with the carrier and the employer has no direct relationship with it. In a self-funded arrangement, the employer is the plan sponsor and the ultimate financial payer, which means the PBM contract terms directly affect what the plan pays for every prescription claim. Understanding your PBM contract is as important as understanding your medical stop-loss contract when you are self-funded.

How much can a mid-size employer actually save by carving out the pharmacy benefit?

Savings from a pharmacy carve-out vary widely depending on the group's current PBM arrangement and drug mix. Groups switching from a spread pricing PBM bundled with a carrier to a pass-through independent PBM commonly see 10% to 25% reductions in total pharmacy spend, based on industry benchmarks and BIH client analysis. Groups with high specialty drug utilization, including GLP-1 medications, biologics, and oncology drugs, tend to see higher percentage savings because the absolute dollar amounts involved are larger. Groups with predominantly generic drug utilization may see smaller percentage savings since generic pricing is already relatively efficient across most PBMs.

Do employers with fewer than 100 employees have enough scale to negotiate a PBM carve-out?

Yes, though the negotiating dynamics are different than for larger employers. Independent and regional PBMs actively compete for mid-market business in the 30 to 200 employee range, particularly for groups in self-funded or level-funded arrangements. The key is working with an advisor who has established PBM relationships and can bring multiple PBMs to the table for competitive bidding. An employer with 50 employees negotiating alone has limited leverage. The same employer working through a benefits advisor with a pooled or aggregated PBM arrangement can access pricing that was previously available only to larger groups. This is one area where advisor selection materially affects outcomes.

How do GLP-1 medications affect a self-funded employer's pharmacy strategy?

GLP-1 medications have become the single largest source of unanticipated pharmacy cost growth for mid-size employer plans in 2024 and 2025. A plan without a specific prior authorization policy and formulary tier designation for GLP-1s will see utilization driven primarily by prescribing patterns, not by plan design. For self-funded employers, every additional GLP-1 user represents $10,000 to $17,000 or more in annual pharmacy claims. Addressing this requires an active formulary strategy: establishing prior authorization requirements, defining covered indications (diabetes management versus weight management), and, where appropriate, designating lower-cost biosimilar alternatives as preferred. Your PBM sets these parameters at the plan document level.

What should a first-time self-funded employer look for when evaluating PBM options?

For employers new to self-funding, the key PBM evaluation criteria are: pass-through pricing with full rebate transparency, auditable claims data with employer access rights, a formulary that reflects current clinical guidelines rather than just manufacturer rebate incentives, specialty pharmacy flexibility (not restricted to the PBM's affiliated pharmacy), and an independent third-party administrator relationship (so the TPA and PBM are not the same organization). Employers moving from fully insured to self-funded for the first time often bundle the TPA and PBM selection together, which can limit negotiating flexibility. Separating the two decisions and bidding them independently typically produces better terms on both. For a broader look at what the self-funded transition involves beyond the PBM layer, the compliance shift guide covers the full scope of what changes when you move off a carrier plan.

References

1. Business Group on Health. "2025 Large Employer Health Care Strategy Survey." 2024. businessgrouphealth.org
2. Drug Channels Institute. "2024 Economic Report on U.S. Pharmacies and Pharmacy Benefit Managers." February 2024. drugchannelsinstitute.com
3. Kaiser Family Foundation. "2024 Employer Health Benefits Survey." October 2024. kff.org/health-costs/report/2024-employer-health-benefits-survey/
4. IQVIA Institute. "The Use of Medicines in the U.S. 2024." April 2024. iqvia.com/insights/the-iqvia-institute/reports-and-publications
5. SHRM. "Self-Funded Health Plans: What Employers Need to Know." shrm.org/topics-tools/tools/toolkits/self-funded-health-plans
6. Bureau of Labor Statistics. "Employer Costs for Employee Compensation, December 2024." bls.gov/news.release/ecec.toc.htm

This analysis is provided for educational purposes and does not constitute financial or legal advice. Consult your compliance counsel and benefits advisor for guidance specific to your organization's situation.