Springfield Business Journal Articles
Sarah Delano Pavlik and Tom Pavlik write a monthly column on legal and business issues for the Springfield Business Journal.

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Do your health insurance premiums keep going up, up, up? As an employer, you know the tremendous cost of providing health coverage for your employees. Until recently, there was not much that could be done to reduce these costs. Recent federal legislation, however, may provide an answer.

You may have heard about health savings accounts and health reimbursement accounts during the presidential election. President Bush is a big supporter of these accounts and mentioned them frequently during the debates. But what exactly are they?

Health savings accounts ("HSA") were created under the Medicare drug bill passed last year. An HSA is similar to a retirement account in many ways. Contributions to an HSA are made with pre-tax dollars, and the account grows tax free. Withdrawals that are used for qualifying medical expenses are also tax free, meaning that no income or employment taxes are ever paid on those earnings.

HSAs are established by your employer and work with your health insurance plan. In order to participate in an HSA, you must have a high deductible health insurance policy. The deductible must be at least $1,000 for an individual and $2,000 for a family. Unless you already have a high deductible policy, your premiums should decrease as your deductible increases. You can take these savings and put them into your HSA.

For example, assume a single employee increases the deductible on his health insurance policy to $1,000, that his premiums are decreased by $1,000 per year and that he contributes his savings to an HSA. If this employee uses $1,000 or more of medical care during the year, the net result is the same. However, if he uses only $500 of medical care during the year, he has $500 remaining in his HSA. This money will remain in the HSA and belongs to the employee. He can use it for medical expenses in future years, or he can withdraw it for any other reason. Therefore, the employee has an incentive to use medical care wisely, as the savings will belong to him (at least until the deductible is met).

As mentioned above, the employee can withdraw the money in an HSA for any reason. Withdrawals that are not used for qualifying medical expenses will be taxed to the employee as ordinary income. In addition, withdrawals that are not used for qualifying medical expenses that are made before the employee reaches 65 years of age will incur a 10% penalty.

So how are HSAs different from a flexible spending plan you may already have? (1) HSA balances are not lost at the end of each year. Therefore, you are not penalized for contributing more than you use in any year. (2) You can withdraw money from your HSA for non-medical reasons. (3) HSA balances are invested, and the employee keeps any income.

Contributions to an HSA are limited. A single person can contribute the lesser of $2,600 and his health insurance deductible each year. For a family, the limit is the lesser of $5,150 and the deductible. There is no limit, however, on the amount that can be held in the account. Your account can accumulate indefinitely with your contributions and the earnings on the account. If you die with funds remaining in your HSA, the funds pass to your named beneficiary.

Health reimbursement accounts ("HRA") are more similar to a flexible spending plan, but contributions are made only by the employer. The employer can specify that the balance expires at the end of each year, and the employer keeps the funds if the employee leaves the company.

Assume that an employer pays 100% of the health insurance premiums for his employees. If the employer increases the deductible to reduce costs, the increase will be born by the employees. The employer can make the employees whole, however, through an HRA.

Assume the employer currently provides coverage with a $250 deductible which costs the employer $500 per month per employee. If the employer increases the deductible to $1,000, his premiums may decrease $60 per month, or $720 annually. The employer can contribute $720 savings to an HRA. If the employee is hospitalized, the deductible will be $1,000. The employee will pay $280 (an increase of $30), and the employer will pay $720 through the HRA. However, if the employee does not use any medical care during the year, the employer will save $720.

An employer can adopt both an HSA plan and an HRA plan. The employer also has choices when setting up the plan, such as how the plan will be invested, who makes the investment decisions, how money is withdrawn, etc.

HSAs and/or HRAs can be a significant benefit to employers and employees. Employers can reduce their skyrocketing health insurance costs. Employees who do not use medical care can accumulate funds for future use. Ask your insurance provider to run the numbers for your business. You may be pleasantly surprised.

by Thomas C. Pavlik, Jr.
Posted in: December, 2004
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