Fiat Money / Medical Savings Accounts / Biblical View
By Cynthia Bolt-Lee
An IRA for Medical Expenses
The medical savings account (MSA) and the MedicarePlus Choice MSA are two-part health insurance programs consisting of a high-deductible health insurance policy and a tax-free investment account set up to fund medical costs not covered by the policy.
MSAs benefit individuals with low health care costs, who can take advantage of the low-premium, high-deductible insurance policies. Savings on major medical policy premiums are estimated to be as great as 4050%, and large balances can be accumulated in an MSA for future qualified medical expenses. Due to the complex rules, risks, and qualifying limitations, however, the public has been slow to embrace the new health care programs.
Health insurance reform, tax-exempt investments, tax-deferred savings, assistance to the small business-owner--these were the benefits touted by Congress in 1996 when it established the medical savings account. Beginning January 1, 1999, individuals on Medicare were given the option to establish a MedicarePlus Choice Medical Savings Account. The medical savings account (MSA) and the Medicare MSA are two-part health insurance programs containing a high-deductible health insurance policy and a tax-free investment account that funds medical costs not covered by the policy.
The MSA concept is simple. John qualifies for an MSA and buys health insurance for his family. He chooses a policy with a high annual deductible and low premiums. John uses the policy savings to establish an MSA. Medical costs incurred by his family are paid for with funds from the investment account. Once the out-of-pocket deductible has been met, the insurance policy pays for additional medical care. The money in the MSA is to be used for routine medical expenses; the insurance plan covers any catastrophic medical needs.
Both the MSA and Medicare MSA are four-year pilot programs. The MSA program establishes an investment account, similar to an IRA, thus giving the insured control over real dollars in a personal investment account established to pay medical costs.
MSAs benefit those with few medical costs. These individuals can take advantage of low-cost, high-deductible insurance policies. Savings on major medical policy premiums are estimated at 4050%, and large balances can be accumulated in the MSA for future qualified medical expenses.
Although the program was originally established for self-employed individuals and small business owners, Congress anticipates that the new Medicare MSA could help the 400,000 Medicare beneficiaries that each pay more than $5,000 out-of-pocket annually. The Medicare program estimates that approximately 20% of Medicare participants do not file a claim in any given year; these individuals could benefit from the MSA concept as well.
Advantages of Regular MSAs
The MSA was designed to address concerns over the cost of health insurance. Selecting a qualifying insurance plan in conjunction with an MSA offers the following potential benefits:
* Lower monthly premiums
* "For AGI" deductions for out-of-pocket medical expenses
* Tax-free earnings on MSA assets
* Accumulated contributions available for future medical needs
* Tax-free withdrawals for qualified medical expenses
* Tax-free withdrawals for long-term care insurance premiums
* Tax-free withdrawals for health insurance while unemployed
* Tax-free withdrawals for COBRA policies
* Tax-free withdrawals after age 65 for nonmedical purposes.
Medical savings accounts are available to self-employed individuals or those working for an employer that had an average of 50 or fewer employees during either of the prior two years. Spouses of these individuals qualify as well. Qualifying individuals must be covered under a high-deductible health plan. Individuals that file jointly cannot set up an MSA if their spouse has a health plan that does not qualify as "high-deductible."
For individuals, a high-deductible plan would be defined as one with a minimum deductible of $1,500 and a maximum deductible of $2,250, plus a maximum out-of-pocket limitation of $3,000. For family coverage, the minimum and maximum annual deductibles are $3,000 and $3,500, respectively; the maximum out-of-pocket limitation is $5,500.
Establishing an MSA
Many health insurance companies offer MSAs. Big insurers, such as Blue Cross Blue Shield, have put much effort into establishing and advertising the program. The health insurance providers, however, generally do not offer the savings account portion of the MSA program. The IRS approves custodians or trustees of the MSA based on the requirements for offering an IRA. Banks and other financial institutions also are allowed to set up MSAs if they meet IRS approval.
Either the employee or employer may make contributions. Employees exclude employer-paid contributions from taxable income, and employers deduct contributions as employee benefits on their business return. All participating employees must receive comparable contributions based on the annual deductible for the policy or an equal amount per employee; otherwise, a 35% excise tax applies. The employer and employee cannot make contributions in the same year.
As with an IRA, qualifying contributions can be made until April 15 and still be deductible for the prior year. Two contribution limitations exist. The first is based on the amount of the taxpayer's wages or net self-employment income. The second is based on the deductible portion of the health plan. Contributions are limited to 75% of the annual deductible for family policies and 65% for individuals. For example, a single individual with health insurance that contains a $2,000 deductible would be allowed a tax-deductible contribution of $1,300 annually, regardless of the existing balance.
To discourage overfunding, a six percent excise tax is assessed on contributions over the required limits, whether made by employer or employee. Employer contributions withdrawn that exceed contribution limits must be included in taxable income. Contributions made in excess of the annual deductible amount that are withdrawn before the return due date will not be subject to the excise tax.
Withdrawals and Distributions
Nontaxable distributions from the MSA must go toward qualified medical expenses as defined in IRC section 213. Claims are submitted to the MSA trustee for reimbursement, and a summary of annual distributions is reported to the recipient on Form 1099-MSA, Distributions from Medical Savings Accounts. Qualifying MSA distributions must be used for the medical expenses of individuals covered by a high-deductible health plan. Secondary health insurance policies are disallowed. Dependents must be covered under a family plan to use the MSA proceeds for medical costs.
Record keeping follows the IRS guidelines for itemizing medical expenses. Expenses paid with funds from an MSA cannot be included as itemized deductions due to the double benefit that would result.
Distributions that do not meet requirements are subject to a 15% excise tax. Individuals that are disabled or age 65 or older are not liable for this tax. MSA accounts should be established with a beneficiary; otherwise, the balance remaining at death will be included in the decedent's estate. Spouse beneficiaries are allowed to continue the account as a personal MSA for qualified medical expenses. Non-spouse beneficiaries must include the value of the account in their taxable income.
Tax Filing Requirements
Taxpayers using an MSA must file a Form 1040 to take advantage of the "for AGI" deduction. Individuals that make MSA contributions, therefore, do not have to itemize their deductions to benefit. Form 8853, Medical Savings Accounts and Long-term Care Insurance Contracts, is attached to the 1040 in the year contributions are made. Form 1099-MSA, Distributions from Medical Savings Accounts, and Form 5498-MSA, Medical Savings Account Information, provide information from the trustee to assist in the filing of this new tax form. Form 8853 reports general information about an individual's MSA, including qualifications, taxable distributions, excise tax due, employer contributions, excess contributions, and the deduction for employee contributions.
Employers that provide an MSA plan for their employees have specific filing requirements. Annual contributions to the employees' MSAs are reported on Form W-2, box 13, and are not subject to Social Security tax. Excise tax for excess contributions is reported on Form 5330, Return of Excise Taxes Related to Employee Benefit Plans.
Issues of Concern
MSA holders should be aware of the disadvantages of a high-deductible insurance policy. Insurance companies, particularly managed care plans, receive discounts based on their relationship with the medical care provider. The MSA holder, however, is personally responsible for any potential fee reduction and could pay a higher price for medical services.
Trustees offering several investment options should be selected. Additionally, the fine print on the contract needs investigation before signing. Many MSA carriers charge annual fees as high as $100; others require a minimum balance. As with any investment account, the trustee for the MSA should be selected with care to ensure a solid financial return.
Public Reception. Initial reaction to the new tax-deferred account appears to be mixed. The MSA program, which runs January 1, 1997, through January 1, 2001, allows a maximum of 750,000 accounts. The official count from trustees reporting the establishment of MSAs for the first six months of operation showed only 22,051 accounts opened. According to John Lenik, IRS communications, the count as of June 30, 1999, had increased to 43,191. Complexities and potential pitfalls related to the MSA are being blamed for the slow growth of the program. The original fear that the MSA would appeal to the healthy and wealthy individual and cause insurance rates for the poor and sick to increase appears to be unfounded.
MedicarePlus Choice MSAs
More than 39 million senior citizens are eligible for Medicare. Traditionally, fee-for-service Medicare has been the only option for these individuals. HMOs were added to the Medicare program in the 1980s, and Congress has continued to address the issue of health care reform for the Medicare recipient. A 1997 tax law change allows Medicare patients to take advantage of the MSA.
The MedicarePlus Choice program, which encompasses the Medicare MSA, is part of the Taxpayer Relief Act of 1997, under IRC section 138. Included in the program is a variety of other health care plan options related to services from out-of-network providers, preferred health care providers, and managed care and private insurance plans. Begun in 1999, the MedicarePlus Choice MSA (Medicare MSA), offers Medicare beneficiaries the option of participating in a test program based on the concept of the MSA offered to non-Medicare individuals. The program is devised, according to Congressional committee reports, to "give seniors more control over their health care dollars."
Medicare MSAs are analogous to the MSA available for non-Medicare taxpayers in the following ways:
* A qualifying high-deductible insurance plan is selected.
* An MSA is established with a qualified trustee.
* Distributions from the MSA are used for qualified medical expenses that are less than the deductible.
* Qualified distributions are nontaxable.
* Earnings accrue tax-free.
* Nonqualified withdrawals are assessed both a tax and a penalty.
* Spouse beneficiaries can use the account balance for medical expenses.
The major difference between the MSA and Medicare MSA lies in the payment of the insurance policy and the contributions to the MSA. The Department of Health and Human Services (i.e., the Medicare program) directly pays the approved insurance policy and deposits funds into the Medicare MSA. Individuals are not allowed to contribute to their Medicare MSA and are precluded from purchasing supplemental health insurance to cover their deductible. Individuals are allowed, however, to purchase separate dental, vision, and long-term care insurance policies.
Medicare MSA health insurance policies contain a high annual deductible that cannot exceed $6,000. Policies will differ and must be examined carefully before selection, although all policies are required to offer "all Medicare-covered benefits" according to the Department of Health and Human Services. Plans vary in their flexibility and choice of doctors and health care providers.
The insurance company offering a Medicare MSA plan calculates the amount to be deposited into the MSA by the Medicare program at the beginning of each year. This amount will always be less than the full deductible of the health care plan. Any medical expenses not paid by insurance that exceed the amount in the Medicare MSA must be paid for personally and qualify as an itemized deduction. Medicare recipients that require little medical care can potentially accumulate a sizable balance in their Medicare MSA. Balances carried forward are not a factor in determining the amount deposited each year by the Medicare program.
Medical services not covered by traditional Medicare can be paid for with distributions from the Medicare MSA, including routine medical and dental checkups and prescriptions. Like the regular MSA, premiums for long-term care insurance and health insurance under COBRA meet the definition of qualified medical expenses allowed from the Medicare MSA. According to "Your Guide to Medicare Medical Savings Accounts," published by the Health Care Financing Administration of the Department of Health and Human Services, a special checkbook or debit card provided by the trustee will be used to access funds from the MSA.
Nonqualifying withdrawals are subject to regular income tax. Moreover, a 50% penalty on nonqualifying spending above an annual limit will be assessed. The annual limit is calculated by taking the prior year's MSA balance at December 31 and subtracting it from 60% of the current year health insurance policy deductible. For example, if a taxpayer's MSA has an end-of-year balance of $2,750 and the health insurance policy annual deductible is $3,000, the individual can spend $950 without paying a penalty: $2,750 minus 60% of $3,000. The $950 is included in taxable income.
The Medicare MSA is available to only 390,000 seniors eligible for Medicare and was scheduled to begin January 1, 1999. Insurance companies offering the program must be qualified and, thus, not all areas of the country will have MSA plans available for Medicare patients. Enrollment occurs during November each year and must continue for one full year. Those that choose not to participate in their MSA after accumulating a fund balance are allowed to use any remaining money in their MSA account for future medical needs.
The Health Care Financing Administration, which manages the Medicare program, has worked to set up necessary systems to handle Medicare MSA plans once operations begin. As of November 1999 several insurance providers have inquired, but none have applied to participate. The next open enrollment will occur in November 2000. *
Cynthia Bolt-Lee, CPA, is an assistant professor in the department of business administration at The Citadel, in Charleston, S.C.