Health savings accounts and consummer health plans

This article describes new initiatives in health insurance. These are predominately health savings accounts [HSAs] and consumer-driven health plans [CDHPs], which typically wrap around an HSA. These models combine a high-deductible health insurance plan with a tax-sheltered savings account. The rationale behind these plans is that consumers are responsible for much of the price of initial medical care expenditures. As a result, they have incentives to shop more carefully for health services, both in terms of finding providers who offer the preferred set of services and in terms of negotiating with providers for lower prices.

At the same time, the high-deductible health insurance provides protection against catastrophic medical events. The key premise underlying CDHPs and HSAs is that individual consumers will become prudent shoppers for healthcare, weighing the value of an interaction with the healthcare system with the price of that interaction.

There is little hard research on these new health insurance vehicles, but there has been work done on their forerunners: medical savings accounts [MSAs]. In this article, we describe the features of the new health insurance plans and then review the existing research. We also review the evidence on the extent to which consumers actually shop for health services.

Health Savings Accounts

Congress created health savings accounts [HSAs] as part of the Medicare reform package that established the Medicare prescription drug program in December 2003. An HSA is essentially a tax-sheltered financial account into which individuals or their employers may contribute funds and from which individuals may withdraw money to pay for qualified health services. As such, HSAs have features common with flexible spending accounts [FSAs] and medical savings accounts [MSAs], each of which we describe shortly. To be eligible to own an HSA, an individual or family must have a "qualified" high-deductible health insurance plan.

The deductible must be at least $1,050 for an individual and $2,100 for a family in 2006. The health insurance plan may have copays or cohealth insurance features in addition to the deductible, but under the legislation, the maximum out-of-pocket expenditure for covered services by an individual in any one year is $5,250 and $10,500 for a family. The minimum deductibles and the maximum out-of-pocket limits are adjusted for inflation each year by the U.S. Department of the Treasury. While the deductible must apply to all covered health services, there is an exception for preventive services; the health plan may cover these on a firstdollar basis.

The contributions that individuals make to an HSA are limited to 100% of the deductible in the health plan they have to a maximum of $2,700 for an individual and $5,450 for a family [in 2006]. Thus, if you had an eligible high-deductible plan with a $2,000 deductible, you could put up to $2,000 in an HSA that year [see Box 16-1]. HSA contributions can be made by individuals, employers, or both.

The contributions are not subject to federal income tax or to the Social Security and Medicare payroll taxes, even if you do not itemize deductions. Moreover, the distributions from the HSA are not taxable if they are used for qualified medical expenses. Qualified medical expenses are broadly defined but ordinarily do not include the premiums for health insurance plans [including dental and vision plans].

HSA distributions can be used, however, to pay health insurance premiums for COBRA coverage or for coverage while receiving unemployment compensation. The rationale for excluding health insurance premiums is straightforward. The objective of HSAs is to give consumers incentives to be prudent purchasers. If people could pay their health insurance premiums with HSA distributions, they might be inclined to buy first-dollar coverage and undermine the incentives to shop wisely for services.

There is an exception for preventive services. A key feature of HSAs is that any unused portion of the account can be carried forward without penalty to be used for qualified expenses in later years. Thus, there is no "use it or lose it" provision that gives people incentives to buy health services and supplies late in the year to avoid losing any remaining dollars in their spending account.

Moreover, individuals own their HSA and can transfer it from one employer to another when they change jobs. Subscribers can invest HSA funds in a wide variety of ways: money market funds, mutual funds, certificates of deposit, etc. The earnings accrue tax free. If they have an HSA through an employer, the employer may limit the investment opportunities. Even so, any balance in the account moves with employees at the end of employment.

However, if subscribers withdraw money from an HSA to use on nonqualified expenditures, the withdrawal is subject to the appropriate marginal tax rate plus a 10% penalty. At age 65, however, individuals can make nonqualifying withdrawals and only pay the appropriate tax rate with no additional penalty.