The Medicare reform measure passed by Congress in November included a Health Savings Account (HSA) provision that renames–and dramatically expands and improves–the Medical Savings Account (Archer MSA) pilot program launched in 1996.
Unlike some other provisions of the new bill, MSA expansion will go into effect quickly. On January 1, 2004, all 250 million non-elderly Americans will be permitted to choose a Health Savings Account. By contrast, MSA participation was limited to small businesses and self-employed persons, and the number of MSAs was capped at 750,000.
For America’s senior citizens, Medicare MSAs were reauthorized by the measure and appear to be permanent.
More Attractive Accounts
The new HSAs are also more attractive than MSAs were permitted to be. Like MSA holders, HSA holders must carry a qualified insurance plan, but the plan requirements have been opened up considerably. Allowable deductibles have been lowered to $1,000 for an individual and $2,000 for a family. The maximum deductible requirement imposed on MSAs has been replaced by maximum out-of-pocket limits of $5,000 for individuals and $10,000 for families. The new HSAs allow preventive care services to be covered on a first-dollar basis–deductibles will not have to apply.
Annual contributions to the HSA are limited to 100 percent of the deductible, up to a maximum of $2,600 for an individual or $5,150 for a family. Account holders aged 55 and up may make additional contributions of $500 in 2004, increasing by $100 each year until it reaches $1,000 in 2009.
Unlike MSAs, to which only employers or employees, but not both, could contribute, contributions to the new HSAs may be made by any combination of employer and employee. Employer contributions are not taxable as income to the employee, and individual contributions also are deductible “above the line”–a taxpayer need not itemize deductions in order to take the MSA contribution as a deduction. Employers may offer HSAs as part of a section 125(d) cafeteria plan.
Funds in an HSA may be invested as the account holder sees fit (CDs, money market funds, mutual funds, etc.), except they may not be invested in life insurance contracts. Earnings on the accounts build-up free of taxes. The funds must be held in a trust administered by a bank, insurance company, or other approved administrator.
HSA funds may be withdrawn tax-free to pay for qualified medical expenses, which include all expenses authorized by section 213(d) of the Internal Revenue Code except health insurance premium payments.
HSA funds may be used to pay premiums only for long-term care insurance, COBRA continuation premiums, other health insurance premiums for people receiving unemployment benefits, and for retiree health insurance premiums other than Medigap. HSA funds can be used to pay for Medicare premiums.
HSA funds withdrawn for non-medical purposes will be included in the account holder’s gross income and taxed accordingly. A penalty of 10 percent also will be applied except in cases of death, disability, or Medicare eligibility. In the case of death or divorce, the account may be transferred to a spouse without incurring a tax liability. If someone other than a spouse is the beneficiary of such a transfer, the funds will be treated as taxable income.
While it is always difficult to predict how markets will react to any change in conditions, we can reasonably expect the following developments.
Banks, insurance companies, and third-party administrators (TPAs) will rush to develop new HSA products. Companies were reluctant to invest much development effort in a product as limited and tentative as Archer MSAs. By removing the sunset provision–the new HSAs are permanent–and caps on total enrollment and employer size, the new measure gives product developers far greater assurance that their efforts have a chance to succeed.
With increased development will come increased product marketing … and far greater public awareness of the HSA option. In the past, so few vendors offered MSAs that they remained almost a secret, of no consequence at all to anyone who wasn’t self-employed or the owner of a small business.
The individual insurance market will convert to HSAs quickly and in droves. It is difficult to imagine many individual purchasers of insurance who would not prefer an HSA over anything else on the market. Individuals will not get a tax break on their premium payments, but their HSA contributions will be 100 percent deductible. They will have a strong incentive to minimize their premium payment and maximize their HSA contribution. Allowing a lower deductible removes a major hurdle: Many individual insurance policies already have deductibles of $1,000.
The small group market will be slower to adopt the HSA option. Small employers are not benefits innovators. They don’t have time to think much about benefit options. They have had the MSA option available for several years and haven’t paid much attention to it. Small employers were very slow to move to managed care, and they are well behind the rest of the market today in increasing employee cost-sharing. They have been more likely simply not to cover dependents at all, and HSAs don’t offer much help in that area.
The fully insured mid-market is a different story. Companies with 100 to 1,000 employees are more likely to have staff that concentrates on benefits options and has the time to investigate new products. They also are able to keep the conversion cost-neutral–raising deductibles means lowering premiums. The premium savings can be contributed to the HSA, to be supplemented with a worker’s own tax-deductible contribution. These companies have been raising cost-sharing requirements anyway, so the prospect of employee responsibility for funding part of the HSA is less of a stretch in this segment.
Self-insured large companies will likely stay with Health Reimbursement Arrangements (HRAs). Companies that pay directly for the services consumed are unlikely to be attracted to HSAs, which expect an upfront contribution of money for all employees whether they are using services or not. HRAs have the considerable advantage of not requiring pre-funding. Money is paid out only when a service is incurred, exactly as if the worker were covered by the health plan.
Nevertheless, the presence of HSAs in the market will affect these employers as well. HRA employers will feel increased pressure to allow greater portability of HRA funds. It will be more difficult to deny employees access to that money when other companies are offering full ownership of an HSA.
HSAs will make it easier for the uninsured to get insurance coverage. Medical Savings Accounts already have proven their popularity with the uninsured: The IRS reports 73 percent of new MSA accounts are established by people who had been uninsured for six months or more. But MSAs are available only to the self-employed or employees whose employers participate.
HSAs will be available to everybody–especially those workers whose employers provide no coverage at all, who represent the vast majority of the uninsured. As HSAs gain market share, an increasing number of workers will have a source of funds to pay for insurance coverage when they are laid-off or otherwise lose their jobs. HSAs can be expected to have a profoundly positive effect on the short-term uninsured.
The year 2004 will probably not see dramatic enrollment in HSA options because vendors will need time to develop new products and marketing strategies. But by mid-year there will be an enormous push to gain an early position in this new market and become the recognized “industry leader.”
The timing couldn’t be better, with an improving economy and widespread gains in the equities markets. Venture capital will be in great demand to get the new products off the ground.
The market is ready for this reform. Widespread discussion of and movement toward consumer-directed health care over the past few years has sensitized corporate decision-makers to the advantage of putting more control in the hands of employees.
Greg Scandlen is director of the Galen Institute’s Center for Consumer Driven Health Care and assistant editor of Health Care News. His email address is [email protected].