Health savings account

A Health Savings Account (HSA) is a tax-advantaged medical savings account available to taxpayers in the United States who are enrolled in a High Deductible Health Plan (HDHP). The funds contributed to the account are not subject to federal income tax at the time of deposit. Funds may be used to pay for qualified medical expenses at any time without federal tax liability. Withdrawals for non-medical expenses are treated very similarly to those in an IRA account in that they may provide tax advantages if taken after retirement age, and they incur penalties if taken earlier. These accounts are a component of consumer driven health care.

Proponents of HSAs believe that they are an important reform that will help reduce the growth of health care costs and increase the efficiency of the health care system. According to proponents, HSAs encourage saving for future health care expenses, allow the patient to receive needed care without a gate keeper to determine what benefits are allowed and make consumers more responsible for their own health care choices through the required High-Deductible Health Plan. Opponents of HSAs say they worsen, rather than improve, the U.S. health system's problems because people who live healthy lives will leave insurance plans while people who chose to live unhealthily will avoid HSAs. There is also considerable debate about consumer satisfaction with these plans.

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History

HSAs were established as part of the Medicare Prescription Drug, Improvement, and Modernization Act which was signed into law by President Bush on December 8, 2003. They were developed as an improvement over the Medical Savings Account system, as the excess funds are allowed to roll over from previous fiscal years and remain the property of the owner.

In a 2005 report entitled “Health Savings Accounts: How Will the Stars Align,” Celent projected that HSAs would generate millions of new accounts (15 million by 2010) and billions of deposits and assets under management (US$62 billion by 2010).^[1]

By 2007, consumer-driven health plans, including both those with HSAs and those with Health Reimbursement Accounts, had made only a small inroad into the employer-provided health benefit market, according to a study done by the Kaiser Family Foundation. An estimated 3.8 million U.S. workers, about 5 percent of the covered workforce, were enrolled in consumer-driven plans. The study found that about 10 percent of firms offered such plans to their workers.^[2] A survey of health insurers performed by America’s Health Insurance Plans found that 4.5 million Americans were covered by HSAs as of January 2007. Of those, 3.4 million were covered through employer sponsored plans, and 1.1 million were covered by individually purchased HSAs. This represented an increase of 1.3 million since January 2006. In the individual market, 25% of new purchasers bought HSA products. HSAs represented 17% of new policies sold in the small group market and 8% of new policies sold in the large group market.^[3]

How they work

Deposits

Deposits to an HSA may be made by any policyholder of a minimum deductible health plan or by their employer, or any other person. If an employer makes deposits to such a plan on behalf of its employees, non-discrimination rules still apply — that is, all employees must be treated equally. However, if contributions are made through a Section 125 plan, non-discrimination rules do not apply. Employers may treat full-time and part-time employees differently, and employers may treat individual and family participants differently. (The treatment of employees who are not enrolled in a minimum deductible plan is not considered for non-discrimination purposes.) Also, for 2007, employers may contribute more for non-highly compensated employees than highly compensated employees.

Contributions from an employer or employee may be made on a pre-tax basis through an employer. If this option is not available through the employer, contributions may be made on a post-tax basis and then used to decrease gross taxable income on the following year's Form 1040. The main advantage of making pre-tax contributions is the FICA and FUTA deduction, which amounts to a savings of 7.65% to the employer and employee. The self-employed must pay self-employment tax on their contributions. Regardless of the method or tax savings associated with the deposit, the deposits may only be made for persons covered under a minimum deductible plan, with no other coverage beyond certain qualified additional coverage.

Previously, the annual maximum deposit to an HSA was the lesser of the actual deductible or specified IRS limits. As of 2007 plan years, Congress has abolished the lower limit based on the deductible, and the maximum contribution will simply be the statutory limit. The 2007 statutory limits are $2,850 individual and $5,650 family. All contributions to an HSA, regardless of source, count toward the annual maximum. In 2006, the IRS statutory limits were $2,700 for individual plans and $5,450 for family plans.^[4]

A catch-up provision also applies for plan participants who are age 55 or over, allowing the IRS limit to be increased. In 2007, the maximum catch-up amount is $800 for each person over the age of 54 or under 65.(catch-up amounts are also prorated for partial-year participants).^[4]

All deposits to an HSA become the property of the policyholder, regardless of the source of the deposit. Funds deposited but not withdrawn each year will carry over into the next year. If the policyholder ends their insurance coverage, he or she loses eligibility to deposit further funds, but funds already in the HSA remain available for use.

The Tax Relief and Health Care Act of 2006 signed into law on December 20, 2006, added a provision allowing a one time rollover of IRA assets to be used to fund up to one year's maximum HSA contribution.

State tax treatment of HSA's varies. Depending upon the state, HSA contributions and earnings may or may not be subject to state taxes.

Investments

Funds in an HSA can be invested in a manner similar to investments in an Individual Retirement Account (IRA). Investment earnings are sheltered from taxation until the money is withdrawn (and can be sheltered even then, as discussed in the section below).

While HSAs can be "rolled over" from fund to fund, an HSA cannot be rolled into an IRA or a 401(k), and funds from these types of investment vehicles cannot be rolled into an HSA, except for the one time IRA rollover allowed above. Unlike some employer contributions to a 401(k) plan, all HSA contributions belong to the participant immediately, regardless of the deposit source. A person contributing to an HSA is under no obligation to contribute to his or her employer-sponsored HSA, although employers may require that payroll contributions be made only to the sponsored HSA plan.

Withdrawals

HSA participants do not have to obtain advance approval from their HSA trustee or their medical insurer to withdraw funds, and the funds are not subject to income taxation if made for qualified medical expenses. These include deductibles and coinsurance as well as many other expenses not covered under medical plans, such as dental, vision and chiropractic care; durable medical equipment such as eyeglasses and hearing aids; and transportation expenses related to medical care. Non-prescription, over-the-counter medications are also eligible.^{[5] [6]}

There are several ways that funds in an HSA can be withdrawn. Some HSAs include a debit card, some supply checks for account holder use, and some allow for a reimbursement process similar to medical insurance. Most HSAs have more than one possible method for withdrawal. The exact method of withdrawal varies from HSA to HSA and can be considered a marketing design issue. Checks and debits do not have to be made payable to the provider. Funds can be withdrawn for any reason, but withdrawals that are not for documented qualified medical expenses are subject to income taxes and a 10% penalty. The 10% tax penalty is waived for persons who have reached the age of 65 or have become disabled at the time of the withdrawal. Then, only income tax is paid on the withdrawal, and in effect the account has grown tax deferred (similar to an IRA). Medical expenses continue to be tax free.

Account holders are required to retain documentation for their qualified medical expenses. Failure to retain and provide documentation could cause the IRS to rule withdrawals were not for qualified medical expenses and subject the taxpayer to additional penalties.^[7]

When a person dies, the funds in their HSA are transferred to the beneficiary named for the account. If the beneficiary is a surviving spouse, the transfer is tax-free.

HSAs vs. other types of medical savings plans

Health Savings Account are similar to medical savings account (Archer MSA) plans that were authorized by the federal government before HSA plans. HSAs can be used with some high deductible health plans. HSAs came into being after legislation was signed by George W. Bush on December 8, 2003. The law went into effect on January 1, 2004.

HSAs differ in several ways from MSAs. Perhaps the most significant difference is that employers of all sizes can offer an HSA account and insurance plan to employees. MSAs were limited to employers who employed 50 or fewer people.

Benefits

HSA plans can clearly benefit two groups of people, those who are healthy and those who are very unhealthy or have large monthly expenses for medications. This is due to the fact that everything one spends on medications and office visits is credited towards the deductible. Once the deductible is met, HSA plans will pay for medications with the same copay as all other medical expenses. This could limit the maximum out of pocket costs in some cases.

The premium for a HDHP generally is less than the premium for traditional health insurance. A higher deductible lowers the premium because the insurance company no longer pays for routine health care expenses, and insurance underwriters believe that, if Americans see a relationship between medical cost and their bank accounts, they will consume less medical care, shop for bargains, and be more vigilant against excess and fraud in the health care industry. Introducing consumer-driven supply and demand and controlling inflation in health care and health insurance were among the government's goals in establishing these plans.

With HSAs, in catastrophic situations the maximum out-of-pocket expense liability can be less than that of a traditional health plan. This is because a qualified HDHP can cover 100% after the deductible, involving no coinsurance.

HSAs also give the flexibility not available in some traditional health plans to pay on a pretax basis for qualified medical expense not covered in standard or HSA insurance plans. This may include dental, orthodontics, vision, and non-prescription medications such as aspirin. ^{[8] [9]}

HSA accounts also have an advantage over Flexible Spending Accounts since deposits are not necessarily tied to expenses in a particular plan or calendar year. They are automatically rolled over for future medical expenses, or may be used to reimburse qualified expenses from prior years as long as the expense was qualified under an HSA plan at the time incurred. ^[10]

Over a period of time, if medical expenses are low and contributions are made regularly to the HSA, the account can accumulate significant assets that can be used for health care tax free or used for retirement on a tax-deferred basis.

A recent industry survey found that in July of 2007 over 80% of HSA plans provided first-dollar coverage for preventive care. This was true of virtually all HSA plans offered by large employers and over 95% of the plans offered by small employers. It was also true of over half (59%) of the plans purchased by individuals. All of the plans offering first-dollar preventive care benefits included annual physicals, immunizations, well-baby and well-child care, mammograms and Pap tests; 90% included prostate cancer screenings and 80% included colon cancer screenings.^[11]

Drawbacks

Many consumer organizations, such as Consumers Union, and many medical organizations, such as the American Public Health Association, have rejected HSAs because in their opinion they benefit only healthy, younger people and make the health care system more expensive for everyone else. According to Stanford economist Victor Fuchs, "The main effect of putting more of it on the consumer is to reduce the social redistributive element of insurance."^[12]

The fundamental problem of HSA compatible health plans is that insurance doesn't cover anything until the consumer pays a large deductible. Some HSAs pay for basic preventive care, such as annual physicals and mammograms, but others do not. For example, a patient with a suspicious mammogram may have to pay $1,000 out of pocket for a biopsy to find out whether the cause is cancer. Because there is no mandatory funding minimum, there may be a temptation by some users to underfund the account and later be caught short of funds. Expenses may also be incurred before planned funding has taken place through scheduled payroll deductions.

Another problem cited by opponents, particularly for low-income people who are more likely to be uninsured, is that the tax benefits offered by HSAs are too modest — when compared to the actual cost of insurance — to persuade significant numbers to buy this coverage.^[13]

In testimony before the U.S. Senate Finance Committee's Subcommittee on Health in 2006, Commonwealth Fund Assistant Vice President Sara R. Collins, Ph.D., said that all evidence to date shows that health savings accounts and high-deductible health plans worsen, rather than improve, the U.S. health system's problems.^[14]

Consumer satisfaction

Consumer satisfaction results have been mixed. While a 2005 survey by the Blue Cross and Blue Shield Association found widespread satisfaction among HSA customers^[15], a survey published in 2007 by employee benefits consultants Towers Perrin came to the opposite conclusion; it found that employees currently enrolled in such plans were significantly less satisfied with many elements of the health benefit plan compared to those enrolled in traditional health benefit plans.^[16]

In 2006, a General Accountability Office report concluded: "HSA-eligible plan enrollees who participated in GAO's focus groups generally reported positive experiences, but most would not recommend the plans to all consumers. Few participants reported researching cost before obtaining health care services, although many researched the cost of prescription drugs. Most participants were satisfied with their HSA-eligible plans and would recommend them to healthy consumers, but not to those who use maintenance medication, have a chronic condition, have children, or may not have the funds to meet the high deductible." ^[17]

According to the Commonwealth Fund, early experience with HSA-eligible high-deductible health plans reveals low satisfaction, high out-of-pocket costs, and cost-related access problems.^[14] A survey conducted with the Employee Benefits Research Institute found that people enrolled in HSA-eligible high-deductible health plans were much less satisfied with many aspects of their health care than adults in more comprehensive plans:

• People in these plans allocate substantial amounts of income to their health care, especially those who have poorer health or lower incomes.

• Adults in high-deductible health plans are far more likely to delay or avoid getting needed care, or to skip medications, because of the cost. Problems are particularly pronounced among those with poorer health or lower incomes.

• Few Americans in any health plan have the information they need to make decisions. Just 12 to 16 percent of insured adults have information from their health plan about the quality or cost of care provided by their doctors and hospitals.

Some policy analysts say that consumer satisfaction doesn't reflect quality of health care. Researchers at Rand Corp. and Department of Veterans Affairs asked 236 elderly patients at 2 managed care plans to rate their care, then examined care in medical records, as reported in Annals of Internal Medicine. There was no correlation. "Patient ratings of health care are easy to obtain and report, but do not accurately measure the technical quality of medical care," said John T. Chan, UCLA, lead author.^[18][19][20].

HSAs and health policy

HSA proponents believe that they are an important reform that will help reduce the growth of health care costs and increase the efficiency of the health care system. According to proponents, HSAs encourage saving for future health care expenses, stimulate the adoption of High Deductible Health Plans, and move more health care expenses away from third-party payment. These plans require that the consumer take greater financial control over their health care than they would under a traditional health plan. Day-to-day expenses come out of the health savings account, while catastrophic expenses are covered by insurance.

For example, an individual might have to choose between a $200 brand-name medication and a $20 generic medication. Under traditional health insurance, the generic drug might have a $5 copay, while the brand-name drug might have a $15 copay. In this case, the individual might choose the brand-name drug, costing the health insurer $185. With many people making the same choice, the insurer would need to recoup by charging everyone higher premiums. An individual with a high-deductible health plan would likely make the economically efficient choice by choosing the generic drug. This would in turn translate into lower premiums for participants. By giving the consumer a choice and proper incentives, money is saved. If a truly catastrophic event happens, like a heart attack, health insurance is there to cover expenses over the deductible.

Critics of HSAs question the validity of this argument and express doubt that individuals have the training and information necessary to make intelligent, cost-effective decisions. There is significant debate in the policy community over these issues.

See also

• Consumer driven health care (CDHC)
• High Deductible Health Plan (HDHP)
• Flexible spending account (FSA)
• Health care in the United States
• Health reimbursement arrangement (HRA)
• Medical savings account (MSA)

Notes and references