Health Spending Accounts and Consumer-Directed Health Plans Chapter 16

2 Health Savings Accounts Enacted in Medicare Reform Act signed in November 2003 Enacted in Medicare Reform Act signed in November 2003

3 HSA Characteristics Must have “qualified” insurance plan Must have “qualified” insurance plan Minimum deductibles in 2006 Minimum deductibles in 2006 $1,050 per individual $1,050 per individual $2,100 per family $2,100 per family Maximum out-of-pocket limits Maximum out-of-pocket limits $5,250 per individual $5,250 per individual $10,500 per family $10,500 per family Amounts to be adjusted annually Amounts to be adjusted annually Preventive services may be covered on a first-dollar basis Preventive services may be covered on a first-dollar basis

4 HSA Characteristics (continued) Annual contribution to the HSA are limited to 100 percent of the deductible to a maximum of: Annual contribution to the HSA are limited to 100 percent of the deductible to a maximum of: $2,700 for an individual (in 2006) $2,700 for an individual (in 2006) $5,450 for a family $5,450 for a family In December 2006 Congress allowed annual contribution to the maximum of the deductible, and one-time transfers from flexible spending accounts (FSAs) and individual retirement accounts (IRAs) In December 2006 Congress allowed annual contribution to the maximum of the deductible, and one-time transfers from flexible spending accounts (FSAs) and individual retirement accounts (IRAs) Contributions may be any combination of employer or employee Contributions may be any combination of employer or employee Contributions are deductible even if one does not itemize Contributions are deductible even if one does not itemize

5 HSA Characteristics (continued) Funds in the HSA may be invested as the account holder chooses Funds in the HSA may be invested as the account holder chooses CDs, money market funds, mutual funds, etc. CDs, money market funds, mutual funds, etc. Earnings build-up free of taxes Earnings build-up free of taxes Funds may be withdrawn tax free to pay for qualified medical expenses, except health insurance premiums Funds may be withdrawn tax free to pay for qualified medical expenses, except health insurance premiums But COBRA, long-term care, and when unemployed OK But COBRA, long-term care, and when unemployed OK

6 HSA Characteristics (continued) Funds withdrawn for nonmedical purposes will be included in the account holder’s gross income and taxed accordingly. Funds withdrawn for nonmedical purposes will be included in the account holder’s gross income and taxed accordingly. A penalty of 10 percent will also be applied A penalty of 10 percent will also be applied When one is age 65 or older the penalty no longer applies to nonmedical purpose withdrawals When one is age 65 or older the penalty no longer applies to nonmedical purpose withdrawals

7 Comparisons HSA HSA Tax-sheltered health savings account Tax-sheltered health savings account Unspent balance carries forward Unspent balance carries forward Requires high-deductible health insurance plan Requires high-deductible health insurance plan Included in the 2003 Medicare Reform Act Included in the 2003 Medicare Reform Act Medical Spending Account (MSA) Medical Spending Account (MSA) Tax-sheltered medical savings account Tax-sheltered medical savings account Unspent balance carries forward Unspent balance carries forward Requires high-deductible health insurance plan Requires high-deductible health insurance plan Limited to small firms and a demonstration period Limited to small firms and a demonstration period FSA FSA Tax-sheltered flexible spending account Tax-sheltered flexible spending account Unspent balances are lost Unspent balances are lost Does not require any insurance plan Does not require any insurance plan

8 Figure 16-1 Consumer-Driven Health Plan

9 Preventive Services CDHPs may cover the first dollars of preventive services if they choose to do so. CDHPs may cover the first dollars of preventive services if they choose to do so. One way to do this is to designate part of the health savings account, say $200, for preventive services One way to do this is to designate part of the health savings account, say $200, for preventive services If that portion is not used by the end of the year, it is lost—to encourage the use of preventive services If that portion is not used by the end of the year, it is lost—to encourage the use of preventive services

10 YEAR 1 Healthcare Expenditures $1,200 contribution to the HSA $1,200 contribution to the HSA Internist visit$ 75 Internist visit$ 75 PSA test$ 50 PSA test$ 50 Specialist visit$150 Specialist visit$150 Prescription drugs$100 Prescription drugs$100 TOTAL Spending$375 TOTAL Spending$375 All paid from the HSA, leaving a balance of $825 All paid from the HSA, leaving a balance of $825

11 YEAR 2 Healthcare Expenditures Balance in HSA$ 825 Balance in HSA$ 825 Earnings on HSA$ 25 Earnings on HSA$ 25 New contribution$1,200 New contribution$1,200 TOTAL in HSA$2,050 TOTAL in HSA$2,050 Ambulance$ 350 Ambulance$ 350 Hospitalization$3,150 Hospitalization$3,150 Physician bills$1,200 Physician bills$1,200 Prescription drugs$ 500 Prescription drugs$ 500 TOTAL Spending$5,200 TOTAL Spending$5,200 Paid from the HSA$2,050 Paid from the HSA$2,050 Out-of-pocket to satisfy deductible$ 950 Out-of-pocket to satisfy deductible$ 950 Coinsurance with insurer (10%)$ 220 Coinsurance with insurer (10%)$ 220 TOTAL subscriber payments$3,220 TOTAL subscriber payments$3,220 PPO pays 90% of $2,200$1,980 PPO pays 90% of $2,200$1,980

12 Alternative YEAR 2 Healthcare Spending Balance in HSA$ 825 Balance in HSA$ 825 Earnings on HSA$ 25 Earnings on HSA$ 25 New contribution$1,200 New contribution$1,200 TOTAL in HSA$2,050 TOTAL in HSA$2,050 No healthcare spending No healthcare spending Therefore, in YEAR 3 the HSA will have: Therefore, in YEAR 3 the HSA will have: Balance in HSA$2,050 Balance in HSA$2,050 Earnings on HSA$ 100 Earnings on HSA$ 100 New contribution$1,200 New contribution$1,200 Total in HSA in YEAR 3$3,350 Total in HSA in YEAR 3$3,350

13 So, CDHPs Can be considered a tax-sheltered investment tool Can be considered a tax-sheltered investment tool Therefore, more attractive to those facing higher marginal tax rates Therefore, more attractive to those facing higher marginal tax rates Supposed to encourage consumers to shop for value Supposed to encourage consumers to shop for value Will they reduce spending? Will they reduce spending? Will they forgo truly beneficial healthcare? Will they forgo truly beneficial healthcare? Can consumers negotiate as well as insurers? Can consumers negotiate as well as insurers?

14 “How Will Medical Savings Accounts Affect Medical Spending?” Study uses estimates from the RAND Health Insurance Experiment to simulate the effects of MSAs on medical spending. Concludes that MSAs would reduce spending by 2 to 8 percent. Source: Ozanne (1996)

15 Consider Three Health Plan Types Comprehensive: Comprehensive: $200 deductible $200 deductible 80/20 coinsurance 80/20 coinsurance $1,000 stoploss $1,000 stoploss Catastrophic: Catastrophic: $2,000 deductible $2,000 deductible Catastrophic with an MSA: Catastrophic with an MSA: $2,000 deductible $2,000 deductible Tax-sheltered account—20 percent marginal tax rate Tax-sheltered account—20 percent marginal tax rate Source: Ozanne (1996)

16 Source: Ozanne (1996) Figure 16-2: The Economics of Health Savings Accounts

17 Figure 16-3 Distribution of Healthcare Claims, 1995 Source: data from Ozanne (1996, Table 1)

18 Table 16-1 Effects of Catastrophic and MSA Plans on Spending Expected Price per $1 of Care ($) Change in Spending (%) Elasticity = -0.1 Elasticity = -0.2 Comprehensive.48 Catastrophic alone Catastrophic + MSA, 20% marginal tax rate Catastrophic + MSA, 50% marginal tax rate Source: Ozanne (1996, Table 4)

19 Conclusions Catastrophic coverage health plans reduce spending on health services relative to a comprehensive conventional health plan Catastrophic coverage health plans reduce spending on health services relative to a comprehensive conventional health plan The addition of a tax-sheltered MSA (HSA) to a comprehensive plan reduces the incentives to reduce spending relative to a catastrophic plan The addition of a tax-sheltered MSA (HSA) to a comprehensive plan reduces the incentives to reduce spending relative to a catastrophic plan The incentive to reduce spending relative to a comprehensive plan depends upon the marginal tax rate. The incentive to reduce spending relative to a comprehensive plan depends upon the marginal tax rate. A high tax rate can make an MSA (HSA) plan more generous than a comprehensive plan. A high tax rate can make an MSA (HSA) plan more generous than a comprehensive plan. Source: Ozanne (1996)

20 Scandlen’s Market Analysis-1 Rush to Develop Products Rush to Develop Products By insurers, banks, third-party administrators (TPAs) By insurers, banks, third-party administrators (TPAs) Because: Because: No sunset provisions No sunset provisions No employer size limit No employer size limit No total enrollment limit No total enrollment limit Much greater supplier interest in development Much greater supplier interest in development Source: Scandlen (2003)

21 Scandlen’s Market Analysis-2 Individual Market Individual Market Individuals will “convert in droves” Individuals will “convert in droves” No tax break on insurance premium No tax break on insurance premium But, But, HSA contributions 100 percent deductible HSA contributions 100 percent deductible Incentive to minimize premium and maximize HSA Incentive to minimize premium and maximize HSA Lower deductible less of a hurdle Lower deductible less of a hurdle Many individual plans already have $1,000 deductible Many individual plans already have $1,000 deductible Source: Scandlen (2003)

22 Scandlen’s Market Analysis-3 Small-Group Market Small-Group Market Slow expansion Slow expansion Have largely ignored the MSA Have largely ignored the MSA Were slow to move to managed care Were slow to move to managed care Source: Scandlen (2003)

23 Scandlen’s Market Analysis-4 Mid-Group Market Mid-Group Market 100 to 1,000 workers 100 to 1,000 workers Can increase deductibles and make HSA contributions cost neutral and let the worker make additional contributions to the HSA Can increase deductibles and make HSA contributions cost neutral and let the worker make additional contributions to the HSA Source: Scandlen (2003)

24 Scandlen’s Market Analysis-5 Large Group Market Large Group Market Self-insured and likely to stay with health reimbursement arrangements (HRAs) Self-insured and likely to stay with health reimbursement arrangements (HRAs) HRAs are not all that common—essentially they are employer-funded flexible spending accounts. HRAs are not all that common—essentially they are employer-funded flexible spending accounts. Source: Scandlen (2003)

25 “Simulating the Impact of Medical Savings Accounts on Small Business” Simulation using 1993 Current Population Survey Simulation using 1993 Current Population Survey Simulation predicts spending by each family in an FFS, HMO, and MSA plan as well as with no insurance Simulation predicts spending by each family in an FFS, HMO, and MSA plan as well as with no insurance Within each small firm, firm decides whether and what type of coverage to offer Within each small firm, firm decides whether and what type of coverage to offer If the firm offers coverage, explore implications of all workers taking coverage or some workers declining coverage for a wage increase If the firm offers coverage, explore implications of all workers taking coverage or some workers declining coverage for a wage increase Source: Goldman, Buchanan, and Keeler (2000)

26 Findings In the long run, under simulated conditions, tax- advantaged MSAs could attract 56 percent of all employees offered a plan by small businesses. In the long run, under simulated conditions, tax- advantaged MSAs could attract 56 percent of all employees offered a plan by small businesses. Fraction of small-business employees with coverage increases from 41 to 43 percent when MSAs are an option. Fraction of small-business employees with coverage increases from 41 to 43 percent when MSAs are an option. MSAs would be a major form of coverage in the small- group market, but would not have much of an impact on the percentage of workers with coverage. MSAs would be a major form of coverage in the small- group market, but would not have much of an impact on the percentage of workers with coverage. Source: Goldman, Buchanan, and Keeler (2000)

27 Table 16-2 Distribution of Deductibles in CHDP and HSA-Eligible Plans, 2005 Note: High-deductible health plans do not have an HSA. Source: data from Fronstin and Collins (2005)

28 Figure 16-4 Income Distribution of Subscribers to CDHP and High-Deductible Plans, 2005 Note: High-deductible plans do not have an HAS. Source: data from Fronstin and Collins (2005, Figure 2)

29 “Employee Choice of Consumer-Driven Health Insurance in a Multiplan, Multiproduct Setting” University of Minnesota adopted a new set of health plans in January 2002: University of Minnesota adopted a new set of health plans in January 2002: Consumer-Driven Health Plan Consumer-Driven Health Plan Two options Two options Health Maintenance Organization Health Maintenance Organization Preferred Provider Organization Preferred Provider Organization Tiered Care System of Direct Contracting Tiered Care System of Direct Contracting Three options Three options Source: Parente, Feldman, and Christianson (2004a)

30 The CDHP: Definity Health (now owned by UnitedhealthCare) Option 1 Option 1 Deductibles: $1,250 individual/$2,500 family Deductibles: $1,250 individual/$2,500 family Personal care account: $500 individual/$1,000 family Personal care account: $500 individual/$1,000 family 100 percent coverage for in-network care 100 percent coverage for in-network care 30 percent coinsurance for out-of-network care 30 percent coinsurance for out-of-network care Option 2 Option 2 Deductibles: $2,000 individual/$4,000 family Deductibles: $2,000 individual/$4,000 family Personal care account: $1,000 individual/$2,000 family Personal care account: $1,000 individual/$2,000 family 100 percent coverage for in-network care 100 percent coverage for in-network care 20 percent coinsurance for out-of-network care 20 percent coinsurance for out-of-network care Source: Parente, Feldman, and Christianson (2004a)

31 Table 16-3 Source: Parente, Feldman, and Christianson (2004a)

32 Findings Chronic illness of employee or family member had no effect on CDHP choice Chronic illness of employee or family member had no effect on CDHP choice These folks were more likely to choose the PPO These folks were more likely to choose the PPO Higher-income employees were more likely to choose the CDHP Higher-income employees were more likely to choose the CDHP Those who preferred a national network were more likely to choose the CDHP Those who preferred a national network were more likely to choose the CDHP Source: Parente, Feldman, and Christianson (2004a)

33 “Evaluation of the Effect of a Consumer-Driven Health Plan on Medical Care Expenditures and Utilization” Analysis of one large un-named employer offering a CDHP for the first time in 2001 Analysis of one large un-named employer offering a CDHP for the first time in 2001 Firm also offered an HMO and a PPO Firm also offered an HMO and a PPO Employees assigned to three cohorts Employees assigned to three cohorts Enrolled in HMO from 2000 to 2002 (N=1,551) Enrolled in HMO from 2000 to 2002 (N=1,551) Enrolled in PPO from 2000 to 2002 (N=1,554) Enrolled in PPO from 2000 to 2002 (N=1,554) Enrolled in CDHP in 2001 and 2002 while enrolled in either the HMO or the PPO in 2000 (N=531) Enrolled in CDHP in 2001 and 2002 while enrolled in either the HMO or the PPO in 2000 (N=531) Source: Parente, Feldman, and Christianson (2004b)

34 Findings of Two-Part Regression Models By 2002, the CDHP cohort had: By 2002, the CDHP cohort had: Lower total expenditures than the PPO cohort, but Lower total expenditures than the PPO cohort, but Higher expenditures than the HMO cohort. Higher expenditures than the HMO cohort. Physician visits and pharmaceutical use and costs were lower in the CDHP cohort compared with both the HMO and PPO cohorts Physician visits and pharmaceutical use and costs were lower in the CDHP cohort compared with both the HMO and PPO cohorts Hospital costs and admission rates and physician costs for CDHP cohort were higher than the HMO and PPO cohorts Hospital costs and admission rates and physician costs for CDHP cohort were higher than the HMO and PPO cohorts Source: Parente, Feldman, and Christianson (2004b)

35 Discussion Questions What does the theory of the demand for insurance presented in Chapter 3 suggest about the demand for CDHPs and HSAs? What does the theory of the demand for insurance presented in Chapter 3 suggest about the demand for CDHPs and HSAs?

36 Discussion Questions Most of the existing research has been on MSAs and has compared them to conventional health insurance plans. How effective in controlling spending do you think CDHPs and HSAs will be, relative to PPOs? Relative to narrow-panel HMOs? What factors do you believe are the most important in your analysis? Most of the existing research has been on MSAs and has compared them to conventional health insurance plans. How effective in controlling spending do you think CDHPs and HSAs will be, relative to PPOs? Relative to narrow-panel HMOs? What factors do you believe are the most important in your analysis?

37 Discussion Questions Suppose a CDHP uses an HMO or PPO as the high-deductible insurer. Suppose, too, that the prices that the managed care plan has negotiated with providers are available to subscribers as they seek to satisfy the deductible. Do you think this will aid or hinder the CDHPs ability to control costs as its advocates envision? Suppose a CDHP uses an HMO or PPO as the high-deductible insurer. Suppose, too, that the prices that the managed care plan has negotiated with providers are available to subscribers as they seek to satisfy the deductible. Do you think this will aid or hinder the CDHPs ability to control costs as its advocates envision?