Saving for a sick day

Author: Eve Mitchell

Published: January 18, 2004

OAKLAND business owner DeeDee Towery is fed up with double-digit premium hikes for the health insurance plans she offers her workers, a frustration shared by many employers hit by spiraling health care costs.

"I can tell you over the last three years our health costs have gone up every single year. It's averaging 15 percent," said Towery, owner of ProActive Business Solutions, a 70-employee firm.

Across town, Jim Gray, a 32-year-old self-employed general contractor, figures the flip side of being healthy is that he just isn't getting his money's worth from his health plan, and would like to save more for his retirement health costs. But in the meantime, Gray wants to be covered by a health plan in case he gets hit by that proverbial truck and ends up in the hospital.

Now, relief is in store for both business owners like Towery, who want to save on health care premiums, and workers looking to have health care now while saving for future medical expenses and retirement.

The relief comes from tax-advantaged Health Savings Accounts, which could be offered starting Jan. 1 under a provision of the Medicare Reform Act signed by President Bush in December.

The idea behind HSAs, supporters say, is to provide people with a way to fund a 401(k)-like investment account to cover ongoing medical expenses and future post-retirement medical expenses not covered by Medicare.

For businesses, HSAs can help rein in rising health insurance premiums since they require participants to select a high-deductible plan geared to providing catastrophic care as opposed to traditional, low-deductible comprehensive plans.

Industry experts point out that HSAs could lead to insurance plans with lower premiums and help small companies that haven't offered health insurance be able to do so.

Generally, the higher the deductible, the lower the premium and vice-versa, according to industry experts. Besides the higher deductible, a key difference between an HSA-linked insurance plan compared to a traditional one is that it does not include co-pays from insurers for prescription drugs and doctor visits.

"The more exposure (the employee has with a high deductible plan), the less exposure the insurance company has and the lower the premiums are going to be," said Bill Lavis, a partner at Oakland-based Sitzmann, Morris & Lavis, an independent insurance advisory firm.

Supporters of HSAs say they are a tool that will help consumers save for future health care costs and retirement expenses while helping companies keep insurance costs in check. Opponents argue HSAs will end up becoming a tax shelter for the wealthy and healthy and lead to higher premiums for those with traditional, low-deductible plans.

HSAs work like this:

Participants enroll in a high-deductible health insurance plan, either through an employer-sponsored plan or a plan purchased by self-employed people. For individuals, the yearly minimum deductible is $1,000, while for families it's $2,000. Employees and their employers can contribute up to 100 percent of their deductible through a pre-tax payroll deduction, though there is a $2,600 annually cap for individuals.

They then open a tax-deductible HSA to cover qualified out-of-pocket medical expenses that would have to be paid before the plan's deductible is met or for other expenses not covered by insurance. While an HSA cannot be used to cover health care premiums while working, funds can be used to pay for COBRA or insurance premiums while unemployed.

Funds taken out of an HSA to pay for qualified medical expenses are tax-free, and they are not taxed when initially put into the account.

Whatever money is not spent on health care in a given year rolls over from year to year. The HSA can be held in a mutual fund or other investment account, and any earnings are tax free.

For example, if a single person had a $1,000 HSA but only spent $200 on out-of-pocket expenses, the remaining $800 in the account would be rolled over.

With an HSA, out-of-pocket expenses would be paid for with pre-tax dollars, which is not the case when it comes to out-of-pocket expenses paid for under traditional health plans unless you have an employer-offered Flexible Spending Account.

HSAs are meant to replace the Medical Savings Account, a pilot program that was restricted to only small employers and the self-employed, and required even higher deductibles than HSAs.

HSAs also differ from Flexible Spending Accounts, which can also be used to pay for medical expenses but include a "use-it-lose-it provision," which means workers forfeit funds not spent by year's end or if they leave their job.

That's not the case with HSAs, the latest offering in what is known as consumer-driven health care.

Opponents say HSAs could weaken traditional health plans that feature comprehensive coverage, low deductibles and co-payments by drawing away their healthy customers.

"If you think about who would get the most benefit, it's people in higher tax brackets who can afford the risk of possibly having to pay for health care out of pocket. If you're healthy the risk is low," said Len Burman, a tax expert with the Tax Policy Center, a joint effort of the Urban Institute and Brookings Institution.

"If employers offer a choice between more comprehensive insurance and catastrophic high-deductible, people that take the high-deductible tend to be healthier than average," he said. "So the premiums for the (comprehensive) goes up because people buying that insurance tend to be less healthy."

And while the HSA is meant to encourage consumers to become more aware of health care spending, Burman points out that the vast majority of health care spending stems from a small minority. He cited a 1996 study published in Health Affairs Journal that found 30 percent of the population -- insured and uninsured -- account for 90 percent of health-care spending nationwide.

Burman said that the tax break high-income earners will get from HSAs will result in a bigger shift of the tax burden to people with lower incomes.

"I view (HSAs) as inequitable. It works most for people who have very high incomes," he said.

Over the next decade, the U.S. Treasury Department expects that the tax treatment of HSAs will reduce Treasury revenues by $6.4 billion.

The Center on Budget and Policy Priorities also opposes HSAs, saying they will "be extremely attractive to healthier, more affluent workers. ... Workers in the higher tax brackets would secure large deductions for deposits into HSAs. ... As a result, these would be quite lucrative as tax shelters."

Devon Herrick, a health economist with the Dallas-based National Center for Policy Analysis, says HSAs will provide all consumers with a tax-free way to save for their future medical needs, as opposed to paying into a pool to take care of other people's medical bills.

"HSAs will empower consumers to be wiser medical consumers," said Herrick, "You can pool your health care costs over your lifetime with an HSA. What you do now, when you pay into a health plan, most of your money goes to pay someone else's (medical bills)."

Herrick disputes critics' arguments that an HSA is a tax-shelter for the rich. He points to IRS statistics for the 2001 tax year that show 73 percent of the 78,913 taxpayers who opened Medical Savings Account, the precursor of HSAs, previously did not have health insurance.

Since consumers would be paying for health care expenses from their own account -- instead of the insurance company's pocket -- they would become better informed about health-care costs, proponents say. The idea is that they would think twice before using medical services that aren't necessary.

"The best-case scenario would be if employees rethink how they use health care," said Lavis. "There is no incentive for you to shop (with conventional health care plans). If you set up a HSA, you'd ask, 'What's the cost going to be?'"

Towery and Gray are interested in setting up HSAs.

"It definitely looks as if it could lower (premiums) cost per person," said Towery. "Health care costs are increasing. If you can lower the fees, you can pass on the savings to clients and to the employees. It promises the individuals who take good care of themselves to be able to manage their health care costs."

Gray says an HSA would be the right move for him, in part because he's in good health.

"Granted, I can take a gamble on a high deductible. Would I rather pay the deductible with pre-tax dollars? Absolutely," he said. "But if I don't use (the health plan) I'm still benefiting. The plan can roll over year after year ... just like a 401(k)."

Gray likes the idea of HSAs not only to help pay for current and future medical expenses but also to help save for retirement. He's not sure Social Security will be around when he retires. "You don't know for sure. But if I was a betting man, I would definitely think less, compared to more, is going to be there."