A pharmacy carve-in keeps prescription drug coverage inside your medical carrier's contract, usually with a PBM the carrier owns or is affiliated with. A carve-out means you contract with a pharmacy benefit manager (PBM) yourself and run pharmacy as a separate benefit. Neither wins on its own. The better choice depends on whether you are fully insured or self-funded, how much data and audit access you need, and whether you have the time and expertise to oversee a separate vendor.
This guide is for HR and benefits leaders, CFOs and advisors who have to make or defend that decision. It covers how each model works, what the evidence says, where each one fails, and what your fiduciary duties require.
TL;DR
- Carve-in bundles medical and pharmacy under one carrier. It is simpler to run and can improve care coordination, but you usually get less visibility into rebates, spread and contract terms.
- Carve-out gives you a direct PBM contract, more plan design flexibility and audit rights. It also gives you more work, and it can create gaps with medical stop-loss and data sharing.
- Under ERISA, choosing a PBM is a fiduciary act. A documented, repeatable review of total compensation matters in either model.
- Neither structure cuts cost by itself. Contract terms, data access and what you do about the drivers of spend (chronic disease, specialty drugs, adherence) decide the result.
Table of Contents
- What carve-in and carve-out actually mean
- Who uses which model
- What the evidence says about cost and outcomes
- The risks nobody puts in the brochure
- Your fiduciary duties apply either way
- How to decide: six questions
- What the structure cannot fix
- Our perspective
- Where Hadaco fits
- Putting it together: a practical sequence
- FAQ
- Sources
What carve-in and carve-out actually mean
In a carve-in (also called an embedded PBM), the medical plan administrator controls the PBM relationship. Nixon Peabody describes the embedded PBM as part of the same overall contractual arrangement as the medical services, and in many cases it is affiliated with the carrier. You sign one agreement, get one set of ID cards and one claims feed, and the carrier handles the pharmacy side.
In a carve-out, you or your advisor select a standalone PBM and contract with it directly. The medical carrier or third-party administrator (TPA) handles medical claims only. Milliman's PBM best practices series frames the decision as one plan sponsors should weigh against several factors, rather than a default choice.
A few practical differences follow from that structure:
| Factor | Carve-in | Carve-out |
|---|---|---|
| Who holds the PBM contract | Medical carrier or TPA | You, the plan sponsor |
| Plan design flexibility | Usually limited to carrier options | Broader, negotiated |
| Audit and data rights | Often limited or indirect | Typically contractual and direct |
| Administrative load | Lower | Higher: two vendors, two feeds |
| Typical fit | Fully insured and smaller groups | Self-insured, larger groups |
| Main risk | Hidden costs and limited visibility | Integration gaps and weak oversight |
Who uses which model
Carve-in arrangements are typical for fully insured employers, who generally take what the carrier offers. Carve-outs are more common among self-insured employers who carry the claims risk and want to manage it actively. Self-funding is widespread: Milliman notes that as of 2015, 93% of employers with more than 5,000 lives and 77% of smaller employers were self-insured. That is an older data point, so check current figures for your size band before you cite it to your board.
If you are fully insured, the question is often moot: pharmacy comes with the policy, and your leverage is at renewal. If you are self-funded, you have a real choice, and with it a real responsibility.
What the evidence says about cost and outcomes
The research is mixed, and honest advisors say so.
On the carve-in side, a study of self-insured members compared carve-in and carve-out pharmacy benefits. Carve-in members averaged $3,601 per member per year in medical costs against $3,749 for carve-out, about 4% lower, or $148. They also had 15% lower odds of hospitalization and 7% lower odds of an emergency department visit. The likely mechanism is coordination: when one entity sees medical and pharmacy claims together, it can spot a missed refill or a drug interaction and act on it.
A related analysis of carving in pharmacy benefits looks at the effect on utilization and costs, and is worth reading if your finance team wants more than one study.
On the carve-out side, the argument rests on contract control. A direct PBM agreement lets you negotiate rebate pass-through, define spread pricing terms, and audit claims. But the gains depend on you using those rights. Switching PBMs alone is not enough. Employers need to demand full disclosure of direct and indirect compensation, including spread pricing, rebate retention and manufacturer administrative fees, as the Trucker Huss ERISA fiduciary presentation stresses.
A caution on reading these studies: a lower medical cost in a carve-in population does not prove the carve-in caused it. Employers choose models for reasons that also affect cost, such as size, risk profile and carrier relationships. Use the findings as a reason to ask questions, not as a verdict.
The risks nobody puts in the brochure
Carve-in: efficiency that hides cost
The appeal of a carve-in is less work. The trap is mistaking that for savings. Trucker Huss's legal team warns that employers often confuse the lack of administrative burden with cost efficiency, while the lack of data and audit rights can hide costs. If your carrier will not give you claim-level pharmacy data, you cannot tell whether a drug was priced fairly or a cheaper equivalent was available.
Carve-out: the seams between vendors
Carving out creates seams. The most common one is stop-loss. Milliman flags the integration of medical and pharmacy stop-loss accumulators as a pitfall: if the two systems are not aligned, you can face administrative problems and coverage gaps that raise total plan cost. Before you sign, confirm how pharmacy claims will be reported to your stop-loss carrier, who submits them and how high-cost claimants are flagged across both feeds.
The other seam is care coordination. If the PBM does not talk to your medical carrier or your health programs, nobody connects the person skipping a diabetes drug with the ER visit that follows. You can bridge this, but you have to build the bridge.
Both: opacity in the PBM market
The market itself is concentrated. The FTC's 2024 interim staff report finds that the three largest PBMs manage nearly 80% of U.S. prescriptions, and that vertical integration has made the market highly opaque. That matters because a carve-out does not guarantee a better deal. Even with a direct contract, limited transparency around rebates and formulary placement can leave you unable to confirm you are getting the best value. Contract language and audit rights are what turn a carve-out into something real.
Your fiduciary duties apply either way
If you sponsor a self-insured ERISA plan, selecting and monitoring a PBM is a fiduciary act. Under ERISA §408(b)(2), fiduciaries must review compensation disclosures from service providers, including PBMs. Trucker Huss advises that this is an ongoing, documented process of reviewing total compensation, not a one-time look at premiums or administrative fees. A common mistake is accepting a broker's PBM recommendation without independently requesting and documenting all direct and indirect compensation. If that compensation is unreasonable, you risk a prohibited transaction.
The rules are moving toward more disclosure. In January 2026, the Department of Labor proposed a rule (RIN 1210-AB37) that would require PBMs and affiliated consultants to disclose direct and indirect compensation to fiduciaries of ERISA-governed self-insured plans. Comments were due March 31, 2026. Separately, Epstein Becker Green's summary of 2026 PBM reform notes that the 2026 Consolidated Appropriations Act also enacted PBM transparency and reporting provisions, and that many do not take effect for some time. Because proposed rules change before they are final, ask your ERC or ERISA counsel what is in force today.
One practical implication: do not wait for the rule. Build the disclosure request into your RFP now. Our friends in the brokerage world sometimes explain this well, and guidance on price transparency in healthcare is a useful way to frame what to ask for when you evaluate PBM fees, rebates and contract terms.
How to decide: six questions
- Are you fully insured or self-funded? Fully insured employers have little room to carve out. Self-funded employers have the most choice and the most duty.
- Can you get claim-level pharmacy data? If your carrier will not commit to it in writing, a carve-in is flying blind.
- Do you have capacity to oversee a second vendor? A carve-out needs someone, internal or advisory, to audit, benchmark and enforce the contract.
- Is your advisor paid by the PBM? Ask for all direct and indirect compensation from your broker and consultant, in writing.
- How will medical and pharmacy data connect? Whichever model you pick, you need a path from pharmacy signals to care management, and from stop-loss to both feeds.
- What is driving your spend? If specialty drugs are a large share, your decision may hinge on programs and benefit design more than on the PBM structure.
What the structure cannot fix
Choosing carve-in or carve-out sets the contract. It does not change why people use drugs and care. Pharmacy and medical spend are driven by chronic conditions, missed doses, late diagnoses and a small group of very expensive claimants. Whichever model you pick, these levers matter:
- Adherence. Members who stop taking maintenance drugs end up in costlier care. See our guide to medication adherence programs for employers.
- Specialty drugs. Site of care and in-benefit fixes can move spend. We cover them in how to cut specialty drug spend.
- High-cost claimants. A few members drive a large share of claims, and early outreach matters. Our HR playbook for high-cost claimants walks through it.
- Finance-ready reporting. A cost containment playbook for HR helps you present these levers to your CFO.
Our perspective
We talk with employers who have done both, and the pattern is consistent: the structure gets the debate, but the results come from what happens after the contract is signed.
Here is how we see it. First, neither model is a strategy. A carve-in without data rights is a black box, and a carve-out without oversight is an expensive way to feel in control. Second, the PBM sits on only one side of the problem. Prescription cost follows chronic disease, and chronic disease responds to engagement, not to rebate schedules alone. Third, you should not have to tear up your plan to improve it. That is why our programs complement your existing benefits rather than replace them, whether your pharmacy benefit is carved in or out.
We also think measurement should be shared. Our savings estimator is transparent, and we report outcomes quarterly, because an employer who has to defend a decision to a CFO needs numbers, not promises. In their first year, companies often see average savings of $451 per employee with us, alongside better engagement and retention. Your results will depend on your population, so we estimate before we promise.
— Gene
Where Hadaco fits
Hadaco does not replace your PBM or your carrier. We provide population health programs for employers, covering chronic disease, preventive care, mental health and engagement, that sit alongside your current benefit plans without disruption. There are no upfront fees: our fees are performance-based and tied to demonstrated savings and engagement outcomes. If you are weighing a pharmacy carve-out and want to know how much of your spend is addressable by programs rather than contracts, you can see how Hadaco works and book a consultation, or start with the savings estimator.
Putting it together: a practical sequence
For a self-funded employer reconsidering pharmacy structure, this order tends to work:
- Pull 24 months of pharmacy and medical claims. Identify the top drugs, the top claimants and the share of specialty spend.
- Request full compensation disclosure from your current PBM, carrier and advisor, and document it.
- Benchmark your contract against market terms on rebate pass-through, spread, guarantees and audit rights.
- Model both structures with stop-loss and data feeds in view, not only discount guarantees.
- Decide and document the reasons. A written record is what a fiduciary review looks for.
- Layer programs on top so you act on the drivers that no contract can touch. Our comparison of PPO vs HDHP with population health shows how design and programs interact.
FAQ
Is a pharmacy carve-out always cheaper than a carve-in?
No. A carve-out gives you the tools to negotiate and audit, but savings only appear if you use them. A study of self-insured members found lower medical costs among carve-in members, so total cost, not drug price alone, is the right test.
Can a fully insured employer carve out pharmacy?
Usually it is difficult, because pharmacy is priced into the carrier's policy. Carve-outs are more typical for self-insured plans. Fully insured employers generally use renewal negotiations and carrier selection as their leverage.
What should I ask a PBM before signing?
Ask for all direct and indirect compensation in writing, including rebate retention, spread pricing and manufacturer administrative fees. Ask about audit rights, data access and how pharmacy claims reach your stop-loss carrier. Have ERISA counsel review the contract.
Does the DOL proposed rule change what I have to do today?
The January 2026 proposal was not final as of the research we reviewed, so confirm its status with counsel. Your existing duty under ERISA to review service provider compensation applies now either way.
Sources
- Medical Costs and Health Care Utilization Among Self-Insured Members with Carve-In Versus Carve-Out Pharmacy Benefits
- Effect of Carving in Pharmacy Benefits on Utilization and Costs
- PBM Best Practices Series: Carve-in vs carve-out programs (Milliman)
- Pharmacy Benefit Managers and ERISA fiduciary obligations (Trucker Huss)
- Fiduciary Governance for Pharmacy Benefit Managers (Nixon Peabody)
- Federal Register proposed rule, January 30, 2026
- FTC interim staff report on pharmacy benefit managers
- 2026 Pharmacy Benefit Manager Reform: What Employers Need to Know (Epstein Becker Green)