Health savings accounts not for everybody


Open-enrollment Season

Your Money

October 17, 2004|By EILEEN AMBROSE

FOR MILLIONS of workers, open-enrollment season this fall will be the first time they will have the option to sign up for a health savings account.

Created by last year's Medicare law, this account is praised by some policy-makers as an elixir for soaring health care costs. It attempts to make consumers better shoppers of health care while at the same time allowing them to accrue potentially thousands of tax-free dollars that can be used any time for medical bills, but particularly in retirement when health expenses typically increase.

"They certainly could be a great thing for a lot of people," said Robert Davis, senior manager with Deloitte Consulting in Washington.

So, if you are given the option for a health account, like millions of federal workers will be this fall, should you take it? The answer will depend on your health, finances and your employer's specific plan.

But first, more details on how these accounts work:

They are only available to those under age 65.

Essentially, the account is paired with health insurance that carries a high deductible, so a worker might end up paying the first, say, $1,000 or so of her medical bills before insurance kicks in.

This year, the deductible must be at least $1,000 for an individual and $2,000 for a family. (These and other caps will be adjusted annually for inflation.)

There is a limit, though, on how much workers can be required to pay out-of-pocket each year for deductibles and other costs, such as co-pays. This year it's $5,000 for an individual and $10,000 for a family.

Workers can contribute tax-free dollars into the account each year to pay the deductible and other health costs and never will pay income tax on the money as long as it's used for medical care. Employers, too, can kick in money for workers.

One aim of health accounts is to make workers better shoppers of medical services. What employees don't spend on health care can be carried over year after year in the account. And because workers own the account, they can take it with them if they switch employers.

The maximum that can be salted away into an account this year is the amount of the deductible or $2,600 for an individual and $5,150 for families - whichever is less.

Additionally, employees age 55 and older can make catch-up contributions. The catch-up for this year is $500, and goes up by $100 a year until reaching $1,000 in 2009 and thereafter.

Workers can use the account for other things besides health care, but with consequences. Those under age 65 will pay income tax plus a 10 percent penalty on the withdrawals for non-medical purposes. Once they turn 65, they will still pay taxes on withdrawals for nonmedical purposes, but not a penalty.

Some plans will allow workers to automatically fund the account through pretax payroll deductions, like a 401(k). In other cases, employees will have to deposit money on their own and deduct their contributions later on their tax returns.

Financial services companies offering health accounts say the money initially will be placed in an interest-bearing investment, where it can grow yet still be there when workers need it. Once the account reaches a minimum balance, say a few thousand dollars, any extra dollars can be invested in higher-risk investments, such as individual stocks or mutual funds.

If you die, the account is transferred to whomever you named as beneficiary. Surviving spouses can continue using the money for tax-free medical costs. Any other beneficiary will pay income tax on the money.

With all the caveats involved, it's uncertain whether these accounts will catch on with workers.

"Most of us don't have the money for $1,000, $2,000 or $5,000 deductible," Jon Kessler, chairman of WageWorks, an administrator of health spending accounts in San Mateo, Calif.

Critics worry that these accounts will attract the young, healthy and wealthy, who are most likely to accrue money in the accounts and reap the most tax benefits. Heavy users of medical services and low-income workers will be concentrated in traditional plans and see their premiums shoot up, critics say.

Given the pros and cons, experts agree that the account is best suited for healthy individuals who can afford a high deductible if medical problems occur. Other good candidates are self-employed individuals or small businesses that might only be able to afford a high-deductible health plan anyway, experts said.

"If you're older and have multiple dependents and spend a lot on health care, chances are it's not a good deal," said Tom Billet, a senior consultant with Watson Wyatt Worldwide.

Beyond health, here are other factors to consider:

Is your employer contributing to the account? Many large employers chip in something toward the deductible, but others don't, experts said.

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