Pharmacy Benefits 101

Pharmacy Benefits 101: What is a Formulary?

July 3, 2024

Capital Rx

At a high level, the formulary* is a list of prescription drugs covered by a prescription drug plan or another plan offering prescription drug benefits.1

So, why is the list of brand and generic drugs covered through your health plan’s prescription drug coverage worth a write-up by a pharmacy benefit manager (PBM)? Because what’s going on below the surface can be confusing to those who are new to or unfamiliar with the PBM industry.

To help clarify formularies’ key aspects, we asked Capital Rx’s Director of Formulary Operations, Nisha Bhide, PharmD, some of the most common questions we field around this core administrative function performed by PBMs.

Here are her answers and insights (lightly edited).

What is the purpose of a formulary?

A formulary primarily promotes the safe and effective usage of prescription drugs while delivering value to the plan (our clients) and their members. Since the formulary is a list of covered drugs – and plans may have more than one formulary – it is important because it dictates what drugs members have access to during the plan year and what the potential cost of the drug is for the member (i.e., the copay).

Okay, and what is a formulary typically based on?

Generally, formularies are prepared to ensure plan members have access to a robust offering that balances need and overall prescription drug costs. They are typically based on committee recommendations – usually called a P&T (Pharmacy & Therapeutics) Committee – of highly skilled physicians, pharmacists, and other clinicians with diverse backgrounds. This committee reviews all commercially available drugs regulated by the United States Food and Drug Administration (FDA).

Multiple factors are considered when preparing a formulary: clinical efficacy and safety, market trends, and the cost of the drugs available to treat and prevent diseases. Additionally, since these variables can change throughout a given year, the formulary will also be subject to change alongside them.

Are all FDA-approved/regulated drugs going to be included on a formulary?

No, not necessarily. This is where things get more complicated.

Drugs that don’t appear on the list are generally excluded under the formulary. Drugs may be excluded for several reasons, though it’s often because they are a high-cost drug that is just a combinate of two older products or could be what a PBM considers a “patent extender” (there are some “wasteful drugs” in the market).

What happens if a prescribed drug is not covered? What should a member do?

Members can usually contact either their prescriber or their PBM to see if a covered alternative is available. All formulary exclusions have listed alternatives, but if a prescriber determines that a member needs a drug that is not covered, a drug exception request with clinical documentary can be submitted.

Additional restrictions may apply and will be indicated next to the drug on the formulary list. Some drugs may only be covered for members within a certain age range, due to recommendations based on FDA-approved labeling and/or clinical practice guidelines. Other drugs may be subject to prior authorization (PA), step therapy requirements, or quantity limits.

What about specialty drugs?

Specialty Drugs are usually used to treat more complex medical conditions like hepatitis, multiple sclerosis, or hemophilia. They may require special handling, administration, and member care management. Generally speaking, specialty drugs are also relatively more expensive (e.g., thousands of dollars per month or dose).

Depending on the pharmacy benefit design and formulary, specialty drugs may be a part of a benefit with specific coverage and copay requirements. If a defined specialty benefit doesn’t exist, a member’s copay may be based on the drug’s “tier.”

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What Is the difference between an open and closed formulary?

The main difference between open and closed formularies is how they balance access and savings. A closed formulary usually provides greater savings, but an open formulary will provide broader access, in a relative sense, to drugs. Plan sponsors elect the degree of how “open” or “closed” a formulary is.

While this is an oversimplification, that is the basic tradeoff.

Okay, and what is a formulary tier?

Formularies are organized into categories called tiers. Each prescription drug is placed in a tier, depending on the type of drug. Formularies are commonly divided into three tiers; while some plans may have more or less than that, the tiers are generally managed in the same way.

Lower tier drugs often cost less than those in higher-tier categories. For example, generic drugs are usually (though not always) tier 1 drugs. Drugs that are newly approved by the FDA may not be covered until they have been fully evaluated.

What is a prior authorization (PA)?

Put simply, a prior authorization is a type of utilization management strategy requiring a more in-depth (and usually clinical) review before they are covered by the plan. This process ensures members receive a safe, cost-effective prescription.

If you want to learn more about PAs, check out episode 17 of Astonishing Healthcare: Pharmacy Benefits 101: Prior Authorization.

What is a quantity limit (QL)?

A QL is a limit on the maximum dosage or quantity for certain drugs covered per prescription or within a specific time frame. For example, opioids often have a QL because they can be addictive and may be abused.

What Is step therapy (ST)?

Sometimes, when a member is prescribed a drug with an ST program or requirement, they may have to try one drug before they “step through” to another one. Members will usually start with a generic drug before starting a brand drug.

What else do plan sponsors/administrators and consumers need to know about formularies?

Depending on the level of coverage a plan sponsor wants to provide its members and how involved the benefits/administration team wants to be in managing the plan (for example, some providers or health plans have the clinical resources to leverage JUDI®, our enterprise pharmacy platform, directly), another thing plan sponsors may want to consider is flexibility.

Two good questions to ask a PBM partner are:

This is important because, as was mentioned earlier, there are wasteful drugs in the market that could be covered on a formulary, which might lead to higher costs for a health plan. Having the flexibility to influence that could be helpful.

Contact us if you’d like to learn more about Capital Rx’s full-service PBM or pharmacy benefit administration (PBA) solutions.  

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*If you'd like to dive into the details of a formulary, check out Capital Rx's Freedom (Open) Formulary Lookup or Capital Rx’s Liberty (Closed) Formulary.


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