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Small Business Employee Benefits and HR Blog

How to Lower Health Benefits Costs with Defined Contribution

In the past, businesses have always relied on group health insurance to offer employee health
benefits. However with continual renewal increases and new ObamaCare regulations, businesses of all sizes are looking at new options for offering employee health benefits. Because of these factors, many business owners are adopting a new strategy -- defined contribution health plans.

defined contribution health plans, small business health insurance solutions

Defined Contribution Health Plans

Before we can understand how defined contribution can lower health benefits costs, how does defined contribution work?

  • Defined contribution plans are set up with a Stand-Alone Health Reimbursement Arrangement, or HRA. This is also referred to as a Section 105 HRA Plan.

  • The stand-alone HRA allows any business or non-profit to reimburse employees for their health insurance and/or eligible medical expenses on a tax-free basis.  

  • With defined contribution, the business provides employees with a monthly allowance. Employees shop and purchase their own individual/family coverage through a broker or through their state health insurance exchange. Employees are reimbursed tax-free up to the amount of their monthly allowance.  

In other words, a defined contribution health plan acts like a business expense account specifically for health insurance premiums and health care.

Defined Contribution vs. Traditional Group Health Insurance

So how does defined contribution compare to traditional group health insurance? Here's a simple chart to look at the features and cost considerations:

DEFINED CONTRIBUTION 

GROUP HEALTH INSURANCE

No Minimum Contribution

Business determines its own contribution strategy

 

Requires Minimum Contribution

Business must contribute 50%-75% of premium

 

No Minimum Participation

Business sets its own eligibility requirements

 

Requires Minimum Participation

50%-75% of employees must participate in the plan

 

No Administrative Hassle

Business spends less than 5 minutes per month and no annual renewals

Requires Additional Admin

Requires paperwork and annual renewals

 

No annual renewal increases

Business controls all costs year to year

Often, annual renewal increases

 

Individual health plans are not currently guaranteed-issue

Starting in 2014 all individual plans will be guarenteed-issue

Group plans are guaranteed-issue for all employees

 

 

How to Lower Health Benefits Costs with Defined Contribution

Lowering health benefits costs with defined contribution is simple: a business determines their budget for health benefits and builds the defined contribution health plan from there. In other words, because there are no minimum or maximum contribution amounts the cost of defined contribution is entirely controlled by the business.

How does a business set up a defined contribution health plan? Similar to a 401(k) retirement plan, a defined contribution health plan must include all legal documentation to ensure compliance with applicable regulations. Because of this, nearly all businesses use a defined contribution software or administrator. The administration platform needs to be an IRS, ERISA, ACA and HIPAA-compliant platform that includes electronic plan document creation and employee election processes.

To offer a defined contribution plan a business would first drop their group health insurance (if they have one), and then follow these 5 steps:

Step 1 - The business sets employee eligibility requirements, decides what expenses are eligible for reimbursement, and determines the monthly or annual defined contribution amounts. 

Step 2 - The business enrolls employees into the plan and distributes IRS/ERISA/ACA required plan documents, SPDs and notices to each eligible employee.

Step 3 - Each employee chooses and pays for his or her own individual health insurance policy and submits proper documentation for reimbursement. A business can provide a health insurance broker to help employees select policies, and/or provide information about the new health insurance exchanges.

Step 4 - A HIPAA-compliant claims processor reviews the reimbursement request and approves or rejects the request.

Step 5 - If the request is approved, the business reimburses the employee for the approved reimbursement, up to the amount of each employees' balance available.

Once the initial set-up work is completed, monthly administration takes 5-10 minutes a month. This allows the business get out of the health insurance business, focus on their core business and lower overall health benefits costs.