How Did the Medicare Donut Hole Work?

Medicare Part D is a federal program helping Americans manage prescription medication costs, providing coverage through private insurance companies. Historically, its structure included a “coverage gap” or “donut hole,” which significantly altered how beneficiaries paid for medications. Due to legislative changes, particularly the Inflation Reduction Act, the coverage gap is eliminated starting in 2025. This article explains how the coverage gap previously functioned and outlines the new Medicare Part D structure.

Understanding the Phases of Medicare Part D

Historically, Medicare Part D prescription drug coverage had four distinct phases, each impacting a beneficiary’s out-of-pocket costs. The initial phase was the deductible period, where beneficiaries paid the full cost of their prescription drugs until a predetermined amount was met. In 2024, for instance, the standard deductible could be up to $545.

Following the deductible, beneficiaries entered the Initial Coverage Phase. During this period, the plan paid a share of drug costs, and the beneficiary paid a copayment or coinsurance, typically 25% in 2024. This phase continued until the total cost of drugs, combining what the beneficiary and the plan paid, reached a specific limit. After this limit, the benefit structure changed, leading into the coverage gap.

Beyond the coverage gap, for those with very high drug costs, there was the Catastrophic Coverage Phase. This final stage provided greater financial protection, with significantly reduced or no cost-sharing for covered medications.

Starting in 2025, Medicare Part D’s structure simplifies, effectively eliminating the coverage gap. The new standard benefit design consists of three phases: the annual deductible ($590 for 2025), the initial coverage phase, and the catastrophic coverage phase.

In the 2025 initial coverage phase, beneficiaries will generally pay 25% coinsurance for covered drugs. This phase will continue until the beneficiary’s out-of-pocket spending reaches a new cap of $2,000. Once this limit is met, beneficiaries will immediately enter the catastrophic coverage phase, paying nothing for covered prescription drugs for the remainder of the year.

Entering the Coverage Gap

Before 2025, entry into the Medicare Part D coverage gap was triggered when a beneficiary’s total drug costs, including their own payments and the amount their plan paid, reached a specific financial threshold. This was known as the Initial Coverage Limit (ICL), which was $5,030 in 2024. Once combined spending on covered prescription drugs surpassed this amount, beneficiaries transitioned from the initial coverage phase into the coverage gap.

Spending that contributed to the ICL included deductible payments made by the beneficiary and copayments or coinsurance amounts paid during the initial coverage phase. The amount the Medicare Part D plan paid for the beneficiary’s covered drugs also contributed to reaching the ICL.

Monthly premiums, dispensing fees, or costs for drugs not covered by the specific Part D plan did not count toward this threshold. It was the total gross covered prescription drug costs, encompassing both the beneficiary’s and the plan’s contributions, that determined entry into this phase.

Navigating the Coverage Gap

Once a beneficiary entered the coverage gap (prior to 2025), the cost-sharing structure for prescription drugs changed. Beneficiaries generally paid a reduced percentage of the cost for both brand-name and generic prescription drugs, typically 25% of the drug’s cost.

For brand-name drugs, the manufacturer provided a 70% discount on the negotiated price. The Part D plan paid 5%, and the beneficiary was responsible for the remaining 25%. Both the beneficiary’s 25% payment and the manufacturer’s 70% discount contributed to the beneficiary’s True Out-of-Pocket (TrOOP) spending, which was the amount needed to exit the coverage gap.

For generic drugs, beneficiaries paid 25% of the cost, and the Part D plan covered the remaining 75%. Unlike brand-name drugs, there was no manufacturer discount on generic drugs in this phase that counted toward TrOOP. Only the beneficiary’s 25% payment for generic drugs contributed to their True Out-of-Pocket spending.

Exiting the Coverage Gap

Prior to 2025, exiting the coverage gap depended on reaching the True Out-of-Pocket (TrOOP) spending limit, which represented the total amount a beneficiary had spent on covered prescription drugs from the beginning of the year. In 2024, the TrOOP threshold was $8,000. Once accumulated TrOOP costs reached this amount, beneficiaries moved out of the coverage gap and into the catastrophic coverage phase.

Spending that contributed to TrOOP included payments toward the annual deductible, all copayments and coinsurance paid by the beneficiary during the initial coverage phase, and amounts paid by the beneficiary for both brand-name and generic drugs while in the coverage gap. The 70% manufacturer discount for brand-name drugs in the coverage gap also counted towards TrOOP, even though not paid directly by the beneficiary. Monthly premiums, dispensing fees, or costs for non-covered drugs did not count towards TrOOP.

Starting in 2025, the concept of exiting a separate coverage gap is eliminated. The Inflation Reduction Act established a new annual out-of-pocket spending cap for Medicare Part D beneficiaries, set at $2,000. Once a beneficiary’s combined deductible payments, copayments, and coinsurance reach this limit, they will enter the catastrophic coverage phase, paying $0 for covered prescription drugs for the remainder of the year.