A Closer Look At Health Savings Accounts

Experts compare advantages of new Health Savings Accounts with Section 105 plans. John Vogel

Published on: Apr 1, 2004

Last December, President Bush signed into law the Medicare Prescription Drug and Modernization Act, which created Health Savings Accounts (HSAs), a new vehicle for funding health care. The HSA has essentially replaced the old Medical Savings Accounts with a vastly improved tax incentive health care savings plan, says Wayne Nelson, president of Communicating for Agriculture and the Self-Employed, a rural advocacy group.

Similar to Medical Savings Accounts (MDAs), HSAs are established by an eligible individual to pay the qualified medical expenses of that individual and his or her dependents. HSAs are funded on a pre-tax basis through a Cafeteria Plan and can be offered to employees. And employees can take their HSA fund with them if they change jobs.

Any individual covered under a High Deductible Health Plan (HDHP) is eligible for HSAs. HDHPs are those with an annual deductible of not less than $1,000 for single coverage and $2,000 for family coverage. Contributions to HSAs are made on a pre-tax basis and are limited to the annual deductible under the HDHP or $2,250 for single coverage or $4,500 for family coverage, whichever is less.

Distributions from HSAs aren’t included in gross income if used to pay for qualified medical expenses. Any distributions not used to pay for qualified medical expenses may be included in gross income and are subject to a 10% tax, unless distributions are made after the account holder's death, disability or attainment of Medicare eligibility.

Unclear issues

Until further clarification of the Act is available, it can be difficult to determine if HSAs are the most prudent avenue for an employer, contends Daniel Rashke, CEO for Total Administrative Services Corporation (TASC) which provides insurance services for AgriPlan/BizPlan.

Sole proprietors can now choose between HSAs or Section 105 Medical Reimbursement Plans as a means for deducting their health care costs. But, if a sole proprietor can legitimately employ his or her spouse, plans based on Section 105 definitely have the advantage, adds Rashke.

Section 105 plans have no health insurance requirements. Employers don’t need an HDHP to qualify. And, there are no limits on the amount that can be funded through the plan.

According to statistical records compiled from over 40,000 clients, the average Section 105 Medical Reimbursement client claims annual medical expenses that are more than double the contribution limit of HSAs. And finally, Section 105 is not pre-funded like an HSA. Employers pay their medical expenses as they occur, with no need to tie up assets unnecessarily.

HSAs may be advantageous where the sole proprietor doesn’t employ the spouse. But where there’s no spousal employment, the sole proprietor would lose out on the savings incurred from deducting of the self-employment tax (15.3%) from the expenses run through the HSA.

For a quick comparative look at the differences of Flexible Spending Accounts, Health Reimbursement Arrangements and Health Savings Accounts, click HERE.

Over-the-counter drugs added

Over-the-counter (OTC) drugs can now be paid for with pre-tax dollars through healthcare Flexible Spending Accounts and Health Reimbursement Arrangements. This can be a real boon for employees trying to afford the high cost of health care, notes Rashke. But he adds that strict rules govern the inclusion of OTC drugs in these plans.

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