Small employers are constantly attempting to stay ahead of their health insurance costs and plan offerings. Staying competitive and providing excellent employee benefits while remaining fiscally sound is a tight balancing act.
Let’s look at couple innovative approaches to managing premiums. Two options are 1) a post-deductible Health Reimbursement Account (HRA) and 2) a limited Health Flexible Spending Account (FSA), each benefiting both employers and their participating employees.
In general, Health FSAs and HRAs are subject to federal tax law rules. This presents a problem when it comes to employees’ eligibility to fund their Health Savings Accounts (HSA), since these two options normally reimburse the first dollars of qualified medical expenses, and that’s a “no-no”. In reimbursing first dollars, these options would normally disqualify coverage, and an employee who participates in either would not be able to fund their HSA. Spouses’ participation in either of these options present the same disqualification.
However, there is at least one variation of each option that can be implemented as a work around not adversely affecting the employee’s eligibility to contribute to their HSA.
A Post-Deductible HRA reimburses deductible expenses AFTER the employee has assumed responsibility for $1,400 or more for single coverage or $2,800 or more for family coverage. This plan design does not disqualify employees because it complies with the rules for HSA-qualified coverage by not reimbursing any expenses before the federally imposed $1,400/$2,800 minimum deductible for 2021.
Example: A company has a $2,500 single deductible now on their qualified high-deductible health plan. They could switch at renewal to a plan with a $5,000 deductible and reimburse the second half of the deductible with a Post-Deductible HRA. The company lowers premiums, then could use the savings to fund the Post-Deductible HRA to pay claims between $2,500 and $5,000. In this scenario, employer saves on premiums, employees’ out-of-pocket responsibility doesn’t change, and the addition of the Post-Deductible HRA doesn’t affect the employer or employees’ opportunity to fund employees’ HSAs to the federal limits of $3,600 for self-only and $7,200 for family coverage in 2021, plus another $1,000 if age 55 or older.
Yes, the employer runs the risk that the entire premium savings (and perhaps more) would be needed to fund reimbursements from the Post-Deductible HRA, but that is rare. History has shown that the majority of insured members use less than $500 in benefits per year. HRA dollars only pay out to any member exceeding $2,500 of annual expenses and since reimbursement costs are capped they are budgetable. Even if the company has a bad year, most often it is only a small number of high-cost claimants rather than high claims spread across the entire group.
A Post-Deductible HRA offers a way to maintain similar coverage while lowering premiums resulting in savings for both employer and employee. Employer savings are at risk as payments from the HRA to employees who incur high claims occur, but total reimbursements from a Post-Deductible HRA are almost always less than premium savings if structured properly.
This strategy works equally well in a non-HSA qualified plan. Many companies use a back-end HRA that begins to reimburse claims after employees reach a certain deductible threshold.
Limited-Purpose Health FSA
A Limited-Purpose Health FSA limits reimbursements to dental and vision expenses only, plus select preventive services that aren’t covered in full.
Employers benefit from implementing a Limited-Purpose Health FSA because every dollar of an employee’s contribution reduces the company’s payroll-tax liability. A savings of 7.65 percent (on income below $137,700 in 2020, and 1.45 percent on income above that figure). Thus, an employee who elects $2,500 into a Limited-Purpose Health FSA to pay for dental work saves the company $191 in payroll taxes.
For employees, there are multiple benefits:
- Additional tax savings. Assuming the employee contributes the maximum to their HSA, they can elect up to an additional $2,750 into a Limited-Purpose Health FSA. At a 27 percent tax rate, about $750 in additional tax savings is created for the employee.
- Immediate access to funds. Health FSA funds are available immediately, not as payroll deductions take place. Participants can spend their entire election at any time during the year. When balances are spent early, the account becomes an interest-free loan repaid with equal payroll deductions for the balance of the year. An employee undergoing expensive services early in the year can pay their providers the full balance up front potentially lowering the overall out-of-pocket costs, which come with paying “over time.”
- Planning for the future. Many HSA owners are funding for future qualified expenses such as Medicare out-of-pocket costs and premiums, and services such as dental and vision that are not covered by Medicare. If they fund a Limited-Purpose Health FSA, they receive the same tax benefits as a withdrawal from an HSA while preserving those HSA balances for the future. Many HSAs allow investment into mutual funds, etc. This may preserve the investment earnings as well which also have tax benefits if used to pay qualified expenses.
The Fine Print
For employers, there is little risk in offering a Limited-Purpose Health FSA, particularly if the company sponsors a general Health FSA. The cost of offering the additional program is minimal, and the payroll-tax savings typically more than cover the investment.
Employers however, accept the risk that participants will leave employment having spent more than the company has deducted from their paychecks. If there is high turnover, a Health FSA may not be the right choice. Another risk: failing nondiscrimination testing. That’s the annual test required of programs such as these to make sure that benefits are not geared disproportionately to high-income employees. If the only participants in the Limited-Purpose Health FSA program make high elections, and if they represent a large share of the company’s overall Health FSA participation, they may cause the plan to fail.
Participating employees face a risk that their need for funds will increase or decrease during the year, and they can’t change their elections without a qualifying event. Health Savings Account owners however, can adjust their contributions as their needs change, and they don’t risk forfeiting balances at years’ end.
Both programs can work with HSAs and can assist in managing costs, but they can be complicated.
Determining the right plan for your business and your employees can be complicated and it pays to have someone work through the finer points with you. The licensed representatives are ARC Benefit Solutions are available to walk you through your options and how they benefit your business. Contact us today.