|Health Savings Accounts: All for Some, Not for All
During his State of the Union address in January 2006, and on several occasions since then, President Bush has spoken about his administration’s plans to stem the tide of health care costs in this country.
Pointing to the fact that the costs for private health insurance have risen 73% in the last five years, the president recently said, “This is unacceptable for this country to have health care costs rising as fast as they are. If we want to be the leader of the world, we must do something about it.”
At the heart of Bush’s plan are Health Savings Accounts (HSAs). Much like IRAs, HSAs allow employees to put aside pre-tax dollars, which may be matched in the account by their employers, for the purpose of financing future insurance costs. In exchange for the tax-free savings and the possible matching employer contribution, the employee takes on the responsibility of a higher deductible – which currently can range from $1,000 to $2,500 per year.
A recent survey by America’s Health Insurance Plans shows that more than 3.2 million Americans have now chosen the higher-deductible HSAs to finance their insurance costs. Lee Conrad, in his article “For the Enterprising, Health Savings Funds Are Anything But Bitter Medicine,” (USBanker, June 2005) says he expects that number to reach 6.3 million by 2008. Meanwhile, major employers such as Target are now offering HSAs while at Wendy’s the only health insurance option is now HSAs with high-deductible health plans.
HSAs were designed to give employees more control over their health care choices, thereby compelling them to make better, more cost-effective choices. It is presumed that when faced with having to pay their own medical bills rather than having them paid for by a third-party insurer, people will search for ways to reduce their own health care costs and make their increased deductible go further. As an additional incentive, the less they spend on their own health care, the less they will need to dip into their HSAs, which will continue to grow, tax-free, until retirement.
Under the right circumstances, HSA’s are a win-win situation for employees and employers. When given the option, HSAs are particularly beneficial for the lowest health care spenders. These are typically the young and healthy employees for whom the HSA savings go all but untouched and are allowed to grow more like a second retirement savings plan than a medical insurance plan.
But everyone gets sick now and again and finds himself or herself having to purchase prescription medication or visit an emergency room. In those rare occurrences, the HSA funds are available and those who have them can look upon the required co-payments as all but prepaid. Not only are these costs essentially prepaid, but also the dollars in the HSA used to pay them are accrued pre-tax. This effectively reduces the costs of any co-payments for medications or emergency room visits by the same percentage as the employee’s tax rate.
And while these employees may be healthy and financially stable today, the future is less certain. If their health situations change, the funding of HSAs becomes their safety nets or “rainy day funds” that can help them to offset excessive co-payments for medications and tests that come as the result of catastrophic injuries or illnesses. Furthermore, because the funds in an HSA are held in a tax-exempt trust or custodial account rather than in an employer-held account, the participant does not lose any amounts in the account (other than the non-vested portion of the employer contribution) in the event of a job change. Therefore, employees can either roll over the funds to a new job, or use them to offset COBRA payments if the job change is a dismissal or layoff.
In addition to the security offered by an HSA, there are also two significant tax benefits for the participant. First, employer contributions to eligible employees’ HSAs are not included in their income and, therefore, are not taxable to the employees. Second, even those employees who do not itemize on their tax returns, and would therefore be ineligible for medical deductions, can still deduct contributions to their HSAs. And for those who do itemize, the contributed funds are not subject to the 7.5% floor that cuts into the deduction of other medical expenses.
While these funds grow and serve as a sense of security for the employee, they also bring significant benefit for the employer as well. First, because plans that include an HSA require the participant in the plan to pay a higher deductible, the premiums for the insurance portion of the plan are significantly lower, thereby reducing the employer’s costs. Second, employers improve their bottom lines by contributing a pre-determined, controlled amount to their employees’ HSAs. Third, these contributions to HSAs for eligible employees are tax deductible.
HSAs also offer administrative benefits to employers. Because HSAs place the responsibility of using funds squarely on the employee, employers are relieved from the burdens associated with administering and verifying the use of those funds. This had not been the case with previous healthcare savings plans such as Healthcare Reimbursement Accounts (HRAs) and Flexible Spending Accounts (FSAs).
Also, a peripheral benefit comes with the offering of an HSA. Because employees have greater responsibility for their medical spending, they will tend to make better decisions in an effort to save more money and to allow funds in their accounts to roll over from year to year. Healthier employees not only accrue higher account balances, but also reduce employers’ expenses for time lost from work.
It is on this point, however, that the two sides of the HSA debate tend to split. Those who favor HSAs claim the employer benefits from more conscientious employees created by greater responsibility for their healthcare choices. However, opponents argue that the practice of employees going to their physicians for each sniffle or going to the emergency room for treatment of a sore throat is too ingrained to be changed.
Opponents also say that there just are not enough health care options out there today for the HSA to be truly effective. They believe that until something is done in this country to tackle the diminishing supply of available health care options, there does not exist the competitive pricing in health care that would allow for the kind of cost savings that would make HSAs effective.
Jeff Bowers is a CERTIFIED FINANCIAL PLANNER™ Professional with more than 15 years experience in the insurance and financial planning industries and is a member of the Financial Planning Association. A 1989 graduate of Shepherd College, he earned a bachelor’s degree in Economic and Business Administration. He holds a certificate in Financial Planning from Kaplan College.