Medical Savings Accounts

Small businesses and self-employed individuals should consider the merits of medical savings accounts (MSAs) when reviewing their health insurance options. On Jan. 1, 1997, a MSA pilot program became effective. This program is limited to 750,000 accounts, and the maximum number of MSAs is expected to be exhausted by mid-1997.

MSAs are designed to help qualifying individuals gain access to an alternative form of health insurance coverage. Additionally, MSAs provide incentives for individuals to better manage their health care expenditures. MSAs are generally most appropriate for individuals who are in good health and who are not operating under a tight budget.

Components: The medical insurance coverage provided under an MSA is comprised of two parts: a high-deductible insurance plan that pays for catastrophic medical expenses, and a medical savings account (similar to a limited-purpose IRA) that is used to accumulate funds to pay routine medical expenses.

The premiums associated with a high-deductible insurance policy are usually significantly less than premiums for a low-deductible policy. Any money contributed to the savings account portion of the MSA that is not spent on health care accumulates for the benefit of the individual (that is, it may be withdrawn after age 65 without incurring a penalty).

Tax Benefits: Contributions to MSAs by employees and self-employed individuals are tax deductible in determining adjusted gross income. Further, contributions by employers on behalf of employees are deductible, exempt from federal payroll taxes, and are tax-free to employees.

Funds withdrawn for medical purposes are not taxed, and the earnings on accumulated funds are tax free if used for medical expenses. Qualifying expenses can include items such as eyeglasses, dental work, and orthodontic braces (items that often are not fully covered under traditional health insurance). Funds can be withdrawn for nonmedical purposes; however, these withdrawals are taxable and, if the individual is under the age of 65, subject to a 15% penalty.

Eligibility: MSAs are available to self-employed individuals and businesses that have 50 or fewer employees. An individual may participate in the MSA program if a spouse is covered under a traditional insurance plan, provided the individual is not covered by the spouse’s plan.

Qualifications: The medical insurance coverage offered through MSAs must qualify as a high-deductible health insurance plan. Medical insurance must meet the following minimum and maximum out-of-pocket deductibles to qualify as high-deductible health insurance:

Out-of-Pocket Deductible
	Single	Family
Minimum	$1,500	$3,000
Maximum	$2,250	$4,500

These thresholds will be indexed for inflation beginning in 1998. To protect participants from large uninsured expenses, MSAs must also provide for maximum out-of-pocket expense limits -- $3,000 for individuals, and $5,500 for a family.

Contribution Limitations: Contributions to MSAs are limited to a percentage of the deductible on the insurance policy -- 65% for individuals and 75% for families. The result is a maximum contribution of $1,463 ($2,250 times 65%) for individuals and $3,375 ($4,500 times 75%) for families. This maximum is prorated based on the number of months the MSA is effective.

The following table illustrates the calculation of the maximum 1997 contribution for an MSA established on July 1, 1997:

Line		Single	Family
1	Maximum Insurance Deductible	$2,250	$4,500
2	Deductible Percentage	65%	75%
3	Monthly Limitation [(Line 1) x (Line 2)]/12	$122	$281
4	Months Effective (July to December)	6 months	6 months
5	Maximum Contribution for 1997 (Line 3) x (Line 4)	$732	$1,686

Contributions to an MSA account are held by a custodian (for example, an insurance company or bank), and individuals have until April 15, 1998, to make contributions for the 1997 tax year.

To determine which insurers in your state offer MSAs, contact the Employers Council on Flexible Compensation at (202) 659-4300.

These are some thoughts to consider when assessing your health care insurance coverage. Your financial advisor can provide additional information and should be consulted before any action is taken.

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	MSAs: Are They For You? Personal Finance Advisor by Deloitte & Touche OnLine March 17, 1997