Advantages of a Deductible Gap HRA Plan

Updated: October 21, 2009

A few years ago when I was first introduced to HRAs (Health Reimbursement Arrangements), I got pretty good at selling against them. The truth was that the PEO I worked for did not offer HRAs so they trained me on all the reasons a company shouldn't implement one. Fast forward to eight months ago. I was once again employed by a PEO that did not offer an HRA so I dusted off that part of my brain which contained all the reasons not to use an HRA so I could sell against it. Fortunately, my PEO just began offering an HRA option to our clients.

HRAs work like this, an employer funds an account for the employee and his or her dependents to access in order to help offset a portion of their medical expenses above and beyond their premiums like their deductibles and coinsurance. The plan participant pays for the medical services as they normally would and then gets reimbursed by the employer from his or her HRA account up to the maximum annual allocation. When HRAs were first launched, they were typically used to "buy down" deductibles and paid "first dollar" meaning that the employer contributions in the HRA were accessible at the beginning of the plan year and were typically utilized first, only after the participant had utilized all of their allocated HRA funds did the participant have to come out-of-pocket for medical expenses. The problem with this type of design is that it actually encourages participants to utilize their benefits since the employer is paying the first "X" number of dollars. If your employer is paying the first $500 of your deductible, why not use it, it's free right? Since funds in HRA accounts belong to the employer and not the employee, the employer gets to keep these funds if the plan participants don't utilize the full amount allocated to them annually. The problem is that when an HRA pays "first dollar" there typically is no money left at the end of the year. It is great for the employee but there is no real advantage to the employer. There is actually a disadvantage to the employer since the "first dollar" concept encourages utilization, which over time increases the cost of premiums.

I actually recommend an HRA called a Deductible Gap HRA Plan that kicks in after the participant has met "their portion" of their deductible. For example, an employer may elect as their core plan offering a plan with a $1,000 individual deductible in place of their previous plan with a $500 deductible and use the savings in premiums between the two to fund $500 towards the participant's HRA. The employer gets to place certain limitations on how and when those funds are accessed so they can make the participant meet their old deductible of $500 before the HRA funds become accessible. The annual employer savings in premiums from electing the $1,000 deductible plan will typically be greater than the $500 placed in the HRA so the employer also gets to pocket the savings in premium versus electing a $500 deductible plan. Additionally the employer gets to keep the unused funds from the HRA which could be significant since the majority of participants will not even reach the point where the HRA funds would become accessible. The majority of medical claims these days consist of office visits with copays; deductibles and coinsurance do not kick in unless some sort of service has been provided that is not covered under the copay. Studies also show that employers who use Deductible Gap HRA Plans only experience approximately 20% of the maximum liability exposure in HRA claims. For example, a company has 10 employees on the $500 deductible plan that convert to the $1,000 deductible plan. The employer places the difference between the old deductible and the new higher deductible in an HRA for each participant. The maximum exposure to the employer in this example is $5,000 (10 employees X $500 each). Since the average company only experiences claims of 20% of the total maximum liability in the HRA we would then multiply the $5,000 by 20% for an anticipated annual cost of $1,000. After the first year, the employer can get a better feel for actual exposure but using 20% of maximum liability exposure in the HRA for the first year is a good rule of thumb for evaluating the financial benefit of switching to this type of plan.

By implementing a Deductible Gap HRA Plan, the employer can essentially lower their premiums, take the savings and set it aside to reimburse employees for a portion of their medical expenses, and keep the unused dollars to offset future HRA contributions. The employer has nothing to lose and everything to gain by electing a higher deductible and then allowing participants access to additional dollars if needed in order to reach that higher deductible. Worse case scenario, the employer ends up spending just as much money as they would have anyways if they had kept the lower deductible plan.

The Deductible Gap HRA Plan coupled with a PEO's economies of scale in their large group health plan could greatly reduce your business' medical costs.

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