Michelle L. Kopnski, Tucker Arensberg, P.C.
August 24, 2005 There is good news for employers who hope to control rising health care expenses by offering high deductible health plans, especially those with relatively few non-principals as employees. The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 introduced the Health Savings Account ('œHSA'). An HSA is a tax-exempt trust or custodial account (much like an individual retirement account) which is established exclusively to pay qualified medical expenses of the account holder and his or her spouse and dependents. In general, tax-deductible contributions made to an HSA are accumulated tax-free and distributed tax-free to pay for or to reimburse the account holder for qualified medical expenses incurred until the account holder's high deductible health plan begins to cover the medical expenses.
An HSA may be established by any individual who:
Is not eligible for Medicare benefits (generally, under age 65);
Is covered under a high deductible health plan (and not covered under any other health plan that is not a high deductible health plan); and
Cannot be claimed as a dependent on another person's tax return.
A 'œhigh deductible health plan' is one that has an annual deductible of at least $1,000 and an annual out-of-pocket maximum of no more than $5,000 for individual coverage and an annual deductible of at least $2,000 and an annual out-of-pocket maximum of not more than $10,000 for family coverage.
An HSA can be established with a qualified HSA trustee or custodian, in similar fashion to the way that an individual establishes an individual retirement account with a qualified IRA trustee. In addition to certain persons specifically approved by the Internal Revenue Service ('œIRS'), any insurance company or any bank may be an HSA trustee or custodian. No permission or authorization is required from the IRS to establish an HSA. Although HSAs may be beneficial to employers by helping to control health care expenses, an HSA can be established by any individual with or without involvement from his or her employer.
Contributions to an HSA can be made by the individual account holder, by the employer of the account holder, or by family members on behalf of the account holder. The maximum annual contributions to HSAs cannot exceed the annual deductible under the associated high deductible health plan, or if less, $2,600 for individual coverage (for 2004) or $5,150 for family coverage (for 2004). The contribution limits will be adjusted for inflation. For individuals (and their spouses) who are between the ages of 55 and 65, the contribution limit is increased by $500 in 2004. This 'œcatch-up contribution' amount is increased by $100 per year until it reaches $1,000 in 2009. No contributions may be made to an HSA after the account holder has reached age 65.
Contributions that are made to an HSA by the account holder, or by a family member on behalf of the account holder, are deductible by the account holder in determining adjusted gross income. As an 'œabove-the-line' deduction, the contributions are deductible regardless of whether the account holder itemizes deductions and the deduction is not subject to any phase-out. Additionally, there are no income limits associated with the amount deductible.
Contributions made by an employer to an employee's HSA are treated as employer-provided coverage for medical expenses under an accident or health plan. As such, those contributions are excludable from the employee's gross income, are not subject to payroll taxes and are deductible by the employer. Contributions can be made with pre-tax salary reductions through a cafeteria plan. Contributions made by the account holder, or by a family member, in excess of the limits are not deductible by the account holder. Contributions made by an employer in excess of the limits are included in the gross income of the account holder and are not deductible by the employer.
Employer contributions are subject to nondiscrimination rules. If an employer makes an HSA contribution, the employer must make available comparable contributions on behalf of all eligible employees. A contribution is considered to be 'œcomparable' if it is the same amount or if it is the same percentage of the deductible under the high deductible health plan.
An HSA generally is tax-exempt. Amounts held in an HSA can be investedand any earnings on such amounts are not taxed (i.e., inside buildup in an HSA is tax-free.) Distributions from an HSA are excludible from the gross income of the account holder if the amount distributed is used exclusively to pay for 'œqualified medical expenses' of the account holder, his or her spouse and dependents. Any amount of the distribution that is used for any other purpose is includible in the gross income of the account holder and is subject to a 10 percent excise tax.
Qualified medical expenses are amounts paid for medical care and include deductibles and co-payments under a health plan and expenses not covered under a health plan such as nonprescription drugs, vision care and dental care. In general, health insurance premiums are not qualified medical expenses. However, qualified medical expenses include premiums paid for qualified long-term care insurance, COBRA health care continuation coverage, health care coverage while an individual is receiving unemployment compensation and certain coverage for individuals over age 65.
In addition to the benefits listed above, an HSA offers two additional advantages which likely will make it a very popular choice for employees and employers. First, any amounts that are unused may be carried forward to future years. Second, amounts in an HSA are portable to a new job or into retirement.
The introduction of the HSA brings new opportunities for employers to examine alternate health care plan designs, reduce health care costs and at the same time provide satisfying consumer-driven health care to their employees.
Michelle Kopnski is an attorney in Tucker Arensberg's Employee Benefits and Health Care Practice Groups. For more information, please contact Michelle Kopnski at 412-594-5522 or via e-mail at mkopnski@tuckerlaw.com.
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