One of the most prominent issues being discussed in the media is the rising cost of health insurance. Employees are being asked to contribute an ever increasing amount of their pay to group insurance premiums. Employers face double digit increases health insurance premiums while dealing with customers who are not accepting price increases. Self–employed individuals and those who must purchase individual health insurance are feeling this same bite out of their own pocket. These are in addition to the cost concerns of medications and prescriptions.
Health Savings Accounts may be a way to cut health insurance premiums, take control of health care costs and save money on taxes.
Health Savings Accounts (HSA) were part of the Medicare Act Congress passed in December, 2003. They are designed to help take control of health care expenses with a tax-favored savings account and a high deductible health insurance plan. Money in the savings account helps pay the deductible and health expenses until the insurance benefits kick in. The funds left unspent in the HSA remain in the account and accumulate earnings tax free. In the same fashion as an IRA, one can build tax-sheltered nest eggs; in this case, to cover out-of-pocket medical costs.
High Deductible Health Insurance is needed to get the benefits of an HSA. The law requires that the savings account be combined with high deductible health insurance. The minimum high deductible for an individual is $1,000 and $2,000 for a family. The deductible chosen can be higher than those amounts, which would provide an even greater tax deduction. In 2004, an individual can shelter up to $2,600 and a family up to $5,150. An additional $500 contribution for 2004 is allowed for taxpayers 55 and older. Because the insurance company doesn’t have to process and pay claims for routine, low-dollar medical care high deductible health insurance costs less than traditional $250 or $500 deductible coverage.
Contributions to the HSA are with pre-tax dollars, a tax deduction right off the top of income. Any investment growth and withdrawals for health-related expenses are free from taxation. That makes the tax benefits better than those of an IRA. With IRAs, the money is taxed either before it goes into the account or can be taxed if withdrawn prior to age 59-1/2.
A typical scenario for someone purchasing an individual policy: A 50 year old male with a spouse and dependent children purchases a health insurance policy with no deductible and a $45 office visit co-pay for doctors’ office visits for a premium of about $600 per month. By choosing to open a Health Savings Account and opting for a high deductible of $5,000 the monthly premium might drop to $375. The savings in premium of $225 would then be put into the HSA on a monthly basis accumulating to $2,700 by the end of 12 months. An additional amount of $2,300 could be contributed for a maximum deduction of $5,000 from taxes and a nest egg of that amount from which to pay medical expenses.
Even if medical expenses equaled $1,000 per year, $4,000 would remain in the account. The next year, another total contribution of $5,000 would be added bringing the account to $9,000 without counting tax free earnings or taking out expenses. Even if the family has and average of $1,500 per year in medical bills, the account would still have a year end value of at least $3,500 per year. At a normal retirement age of 65, those dollars would add up over 15 years to a total of $52,500 not including the tax free earnings compounding in the account. At a 2% interest rate, total account accumulation would be $60,526.
As an additional protection for later years, the HSA allows, in addition to medical expenses, the payment of premiums for Long-Term Care insurance.
The HSA is not just for individuals. Employers may offer them in conjunction with a high deductible plan. The contributions made by both the employer and employee are tax deductible. They also have particular appeal to smaller, family-owned and operated businesses, and groups of highly compensated professionals such as attorneys and physicians, groups in which employees share in health insurance premiums, partners or shareholders in a Subchapter S Corporation and in groups where employees have different needs.
High deductible insurance plans are going to be a dominant force in the health insurance market as a way to stem the tide of double digit insurance premium increases. The HSA is an opportunity to take control of health care costs both for individuals and employers. It encourages accountability, responsibility and consumerism with regard to health care purchases.
© David M. Schmader March, 2004
