1. Health Savings Accounts: Are Wealth and Health Portfolio Choices Joint and Rational? Stephen T Parente, Ph.D. Associate Professor, Department of Finance, University of Minnesota Roger Feldman, Ph.D. Blue Cross Professor of Health Insurance, University of Minnesota Presentation at the American Economics Association, January 7, 2007 Sponsored by the Robert Wood Johnson Foundation’s Health Care Financing & Organization Initiative (HCFO) and the U.S. Department of Health and Human Services

2. Presentation Overview  Background  Research Question  Conceptual Model  Empirical Approach  Caveats  Results  Discussion

3. The Health Savings Account (HSA) Annual Deductible Preventive Care 100% Health Coverage Annual Deductible HSA $$ HSAs legislated in Medicare Modernization Act of 2003. Consumer owns the HSA Unused $$ roll-over at year end HSA must be purchased with complementary high deductible health plan (HDHP) Can be purchased by consumers in the state- regulated individual or small group markets. Employers are also providing HSAs as part of their benefits package. Money deposited in HSAs is tax-advantaged. Unused $$ at 59 years of age can be used for medical care and retirement. Early withdrawal penalty for any use other than healthcare.

4. Previous Literature  Little literature on actual HSA plan choice. Lots of simulations and some survey work.  Dyan, Skinner and Zeldes (2004) use three sources of data to model whether the rich invest more. Specifically, they find a positive relationship between savings and income (though they examined lifetime income).  Goldman and Maestas (2005) find increases in risks of higher medical expenses lead to a reduction of exposure to other risks using Medicare beneficiaries choosing between different supplemental insurance elections.

5. Research Questions  Is HSA choice related to retirement investment decisions? Bonus question: What personal attributes are associated with the choice of an HSA?  If HSA choice is related to retirement investment decisions, do consumers make ‘rational’ retirement portfolio decisions? Rational will depend on investor objectives priors. Big Caveat, we are just developing what the idea of what rational should be.

6. Conceptual Model of HSA Investment for ‘Max Saver’ Tax-free Saving Taxable Income Y(1-t) Slope = 1/(1-t) Slope = 1 We assume there is a subset of ‘maximum savers’ who wish to take advantage of all tax deferred savings opportunities. The person illustrated has “maxed out” her 403(b) contribution. She chooses an HSA while maintaining her 403(b). The x- intercept for the budget constraint is after-tax income where Y = income and t = tax rate. The budget constraint has a kink at the “Max 403(b).” Addition of the HSA option allows the person to move away from the kink, increasing her tax-free savings without reducing her 403(b) contribution.

7. Data to Test Hypotheses  Large University employer with 16,000 employees.  Quasi-experimental pre (2005)/post (2006) design with introduction of HSA in 2006.  Examined 2 cohorts of workers continuously employed from 2005-2006: Chose HSA in 2006 Chose PPO/EPO/POS/HMO in 2006  Supplemental retirement data Participation and amounts contributed in 2005 & 2006 Pool 403(b) and 457 $$ together  Employee characteristics: age, gender, salary, plan premium (after-tax), chronic illness (from prior year claims), job class.

8. Plan Characteristics

9. Standard Retirement Characteristics  Faculty Retirement Defined contribution Vested in 1st year Compulsory 2.5% employee contribution matched by 13% employer contribution  Civil Service Retirement Defined benefit based on salary and years of service Vested in 1 st year Compulsory 4% employee contribution matched by 4% employer contribution

10. Supplemental Retirement Characteristics  403(b) Program: Optional tax-deferred savings plan $14,000 limit in 2005 $15,000 limit in 2006  457 Program: Optional tax-deferred savings plan $18,000 limit in 2005 $20,000 limit in 2006  Can combine contributions (e.g., $35,000 contribution maximum in 2006)

11. Econometric Approach  Bivariate probit of HSA choice and 403(b)/457 opt-in for simultaneous 2006 choices. Can test whether the two decisions are related (rho). Can compute the probability of HSA investment conditional on supplemental retirement investment.  Difference-in-differences estimate of supplemental retirement dollars for the HSA adopters and non- HSA adopters, given that employee opted-in in 2005. Two models estimated:  Control for ‘max-saver’ through interaction with annual trend and HSA choice  Leave ‘max-saver’ out of the model

12. Caveats  HSA take-up was very small in this employer. (0.4%) or 63 people/~16,000 Not expected to be this small given prior enrollment in the consumer driven health plan (CDHP) of ~1,300 in 2005.  Results from just one employer.  Two other employers for whom we have HSA data but not retirement data have take-up rates of 1%.  Early results.

13. Employer Health Plan Choices in 2006

14. Descriptive Statistics 2005-2006 Employees Retirement $$ of HSA versus non-HSA Cohorts

15. Descriptive Statistics 2005-2006 Employees Characteristics of HSA versus non-HSA Cohorts

16. Bivariate Probit - HSA Choice

17. Bivariate Probit - Supplemental Retirement

18. Difference-in-Differences Results

19. Summary of Empirical Findings  Even with very small take-up, we find evidence that HSA enrollment and supplemental retirement investment decisions are related. Pr (HSA|403(b)/457) = 41% (predicted from BVP) Pr (No HSA|403(b)/457) = 26% (predicted from BVP)  Those who invested in HSAs had greater contributions to their supplemental retirement. However, if we control for ‘max-savers’ in 2005, the HSA effect is negative and not statistically significant.  With the recent change in HSA law, the tax-savings investment potential for HSAs will only increase.

20. Is it Rational for HSA Takers to Use this Insurance for Long Term Investment?  Depends on Risk Profile If healthy, you will get greater rate of return If under 45 and healthy, you could self-fund for several years, invest the HSA assets in growth funds and try to beat medical care inflation.  Depends on availability of other long term investment accounts and tax-deferred advantage.

21. 2006 HSA/PPO Risk Ratio Data based on 1 large employer representing ~50,000 covered lives with HSA initial year offering in 2006. 1.0-2.6 0.75 – 0.99 <0.75 HSA/PPO Ratio Risk Score based 2005 Claims data analysis using RxRisk

22. Next Steps  Work with another large employer (N=~200,000 covered lives) to get 2006 HSA decisions and 401K decisions.  Also get portfolio data to fully examine conceptual model developed in our draft paper.  Identify whether the HSAs were ever debited. Explore correlations with prior health history given from claims data. This would help identify the tolerance for self-funding by consumers.  Identify the portfolio choice (risk vs. return) of HSA assets  Extend empirical tests to investor behavior from finance literature.

23. Thank You! For more information on our research, please visit: www.ehealthplan.org Stephen T. Parente, Ph.D., M.P.H., M.S. Associate Professor, Department of Finance Director, Medical Industry Leadership Institute Carlson School of Management University of Minnesota 321 19 th Ave. South, Room 3-122 Minneapolis, MN 55455 612-624-1391 (v) sparente@csom.umn.edu http://www.tc.um.edu/~paren010 www.ehealthplan.org sparente@csom.umn.edu

24. HSA Take Up – 2006 2.7-5.6% 1.4 – 2.6% <1.4% Take-up Data based on 1 large employer representing ~50,000 covered lives with HSA initial year offering in 2006.

25. HRA High/PPO Risk Ratio Data based on 1 large employer representing ~50,000 covered lives with HSA initial year offering in 2006. 1.0-3.7 0.75 – 0.99 <0.75 HSA/PPO Ratio Risk Score based 2005 Claims data analysis using RxRisk