It seems that one topic that is on the forefront of every small business owner's mind this summer is what impact will the Obama Care legislation have to their bottom line.
Without any question, health care costs are skyrocketing. One possible alternative for a small business to address the health care mandate is to use the Health Savings Account (HSA). Health Savings Accounts are really pretty simple: it is a savings account for your medical expenses. An HSA is a tax-advantaged account that's paired with a high-deductible health plan (HDHP).
In 2003, Congress created the Health Savings Accounts to allow individuals who are covered by HDHPs to receive tax-preferred treatment of money set aside for medical expenses. The HSA was part of a larger agenda to promote consumer-directed or consumer-driven health care. HSAs have been promoted by companies and the government as a way to help control health care costs, because consumers will spend their health care dollars more wisely when they are spending their own money.
In an article written by John K. Iglehart, he points out how vastly different Americans are in our health care expenditures than other countries: (http://content.healthaffairs.org/content/24/4/902.full), " The United States always leads all nations in the amount of money it spends on health care, and explanations abound about why. Truth to tell, there is no constituency with any real influence that favors constraining these expenditures."
Fundamentally, the Health Savings Account provides coverage much like traditional health insurance, but it can save you money in three ways.
1) HSA plan premiums are expected to be lower, because the coverage is the HDHP and historically these plans have not seen as large of rate hikes as seen in other health plans,
2) You get a tax deduction (above the line like an IRA) when you fund the HSA and,
3) Any funds left in the HSA at the end of the year can grow with tax-free earnings to accumulate for later years when your health care needs may be greater during retirement.
Essentially, Health Savings Accounts are like a personal savings account earmarked for health care expenditures. And as long as the money is used for health care expenses, the distributions are tax free.
Many believe that the HSAs are a key shift that can help reduce the growth of health care costs for both individuals and small business. HSAs shift responsibility for health care to the individual for much of the routine care expenditures. Proponents believe this shift makes the individual more aware of the costs of health care. Further, HSAs encourage the individual to save for future health care expenses. An HSA allows the individual to receive needed care without a gatekeeper to determine what benefits are allowed and makes the individual more responsible for their own health care choices. It is also believed that as an individual takes more responsibility for paying for their health care, it will increase the efficiency of the health care system. And finally, those providing medical care will have an incentive to lower their rates, because they're competing for consumers' business.
An HSA is a tax-exempt trust or custodial account that you set up with a qualified HSA trustee to pay or reimburse certain medical expenses you incur. No permission or authorization from the IRS is necessary to establish an HSA. The funds contributed to an account are not subject to federal income tax at the time of deposit.
Among the advantages of HSAs over the Flexible Spending Accounts (FSA) are that unlike FSAs, HSAs do not have a "use it or lose it" provision and the HSA funds remain in your account at the end of the year to accumulate tax free year after year until withdrawn. If your health expenses are relatively low, you may be able to build up a significant balance in your HSA over time. You can even let your money grow until retirement, when your health expenses are likely to be substantial.
Individuals who are covered by HDHPs are eligible to contribute to an HSA. An HDHP is "catastrophic" health coverage that pays benefits only after you've satisfied a high annual deductible. In 2012, a qualifying HDHP (1) has an annual deductible of at least $1,200 for individual coverage or $2,400 for family coverage (unchanged from 2011), and (2) limits annual out-of-pocket expenses (e.g., co-pays, deductibles) to $6,050 for individual coverage or $12,100 for family coverage.
Because the individual is paying a greater portion of their own health-care costs with higher deductibles, in most cases they will pay a much lower premium than for traditional health insurance. The theory is that the individual would then contribute the premium dollars they save to their HSA. Contributions made to an HSA that do not exceed the maximum limit are tax deductible on the individual's federal income tax return.
For tax year 2012, the contribution limits are $3,100 ($3,250 in 2013) for individual coverage or $6,250 ($6,450 in 2013) for family coverage. This annual limit applies to all contributions, whether made by the individual or the employer. The taxpayer may also be eligible to make "catch-up contributions of $1,000 to their HSA if they are 55 or older.
Because the HSA is an "individual plan" much like an IRA, it is "self directed". Thereby, the individual has the discretion to direct how the funds are invested subject to the investment options offered by the qualified trustee or custodian. Any interest and investment earnings in the HSA grow tax-deferred until withdrawn, and will not be taxed when withdrawn if used to pay qualified medical expenses.
Distributions for nonqualified expenses are considered taxable income and are subject to an additional 20 percent penalty tax if withdrawn prior to age 65. After age 65, the funds can be withdrawn penalty-free for any reason but the money withdrawn, which is not related to medical expenditures, is subject to tax.
Qualified medical expenses are health-care expenses, as defined by Internal Revenue Code 213(d). These include laboratory fees, prescription and nonprescription drugs, dental treatment, ambulance service, eyeglasses, and hearing aids, as well as many other health care expenses. HSA funds may also be used to cover health insurance deductibles and co-payments. Although funds cannot be used to pay regular health insurance premiums, money can be withdrawn to pay for specialized types of insurance such as long-term care or disability insurance. IRS Publication 502 contains a list of allowable expenses.
HSAs encourage people to save for their future medical expenses. They also provide an incentive for people to take more care in making medical decisions, instead of agreeing to any and all proposed tests and treatments regardless of their medical benefit, since it’s their money on the line.
Jerry Love, CPA, is the sole owner of Jerry Love CPA, LLC in Abilene, TX. Contact him at
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