As the drama of the fiscal cliff negotiations fades, the reality of the impending deadline for full implementation of the Affordable Care Act (ACA) has begun to set in with many clients. Even those clients with full healthcare coverage are likely wondering how the ACA will impact the health arrangements they already have. Health Reimbursement Arrangements (HRAs) are popular tools for clients looking to fund medical expenses through tax-preferred vehicles, as well as for small business clients who see HRAs as a way to offer their employees access to health coverage without entering the insurance market themselves. Despite their popularity, HRAs are one type of health insurance vehicle that may be on the chopping block with the dawn of the ACA.
HRAs: The Basics
HRAs are tax-preferred accounts offered by an employer in which the employer promises to reimburse an employee’s annual medical expenses up to a certain fixed dollar amount, with unused amounts carried forward to future years. HRAs can be offered in conjunction with another health plan—in fact, they are frequently offered to supplement high-deductible health plans that provide minimal coverage—or they can be offered as stand-alone arrangements.
Employers often offer HRAs to employees instead of more comprehensive health insurance coverage because it allows them to determine the exact level of expense they will incur for employee health benefits, eliminating the fear that the cost of insurance benefits will increase over time.
Employees—especially relatively healthy employees—often find HRAs attractive because they allow the employee to determine how to spend funds allocated for medical care (funds placed into an HRA can be used to pay for health insurance premiums, prescription medications, or other medical supplies and expenses). Perhaps most importantly, the employee is not taxed on the reimbursed amounts as long as the funds are used to pay for qualified medical expenses.
The Affordable Care Act’s Impact
The ACA generally prohibits health plans that impose annual limits on what are considered to be essential health benefits. This prohibition impacts HRAs because, by definition, the coverage provided under an HRA is limited by the employer’s annual contribution amount.
While final guidance on whether HRAs will be subject to the rules prohibiting annual limits on essential health benefits has not yet been issued, the IRS recently released FAQs that suggest that HRAs will not entirely escape.
The FAQs suggest that integrated HRAs may not be subject to the prohibition if offered in conjunction with a health insurance plan that otherwise satisfies the ACA’s requirements and the HRA option is offered only to employees eligible to participate in that plan. The FAQs also indicate that HRAs used by employees only for payment of expenses for non-essential health benefits may also continue to be permitted (if, for example, the employee’s health insurance plan covers expenses related to all essential health benefits). HRAs that are offered only to retirees should also remain permissible.
So-called stand-alone HRAs, however, will likely violate the ACA rules if they are operated in accordance with current standards that allow the employee to choose to spend his limited reimbursable HRA funds on any qualified medical expense.
While final guidance has yet to be issued, the preliminary guidance signals that the use of HRAs by employers who do not otherwise offer traditional health insurance may be prohibited when the ACA becomes fully effective in 2014. Because of this, small business owner clients and their employees should begin preparing to lose a valuable tool that provided flexible health benefits before the ACA.
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