The cost of health care isn’t just something impacting individuals and their families—it also affects businesses that want to prioritize employee health benefits.
Small businesses are the most vulnerable to these costs. Over the past 15 years, the per-employee cost for employers providing group health insurance increased nearly 200 percent—from around $2,200 to about $6,440.
The high costs of traditional group benefits, matched only by their inconvenience and inflexibility, have prompted many small businesses to forgo offering health benefits altogether. In the current climate, this isn’t a great strategy: because unemployment rates are the lowest they’ve been in 50 years, small businesses face a competitive battle for talent in which the right health benefit is a crucial component for success.
The good news is, starting in 2020, there will be more health benefit options for small businesses than ever.
In this post, we’ll cover five of the most popular health benefit choices for small employers in 2020:
- Qualified small employer health reimbursement arrangements (QSEHRAs)
- Individual coverage health reimbursement arrangements (ICHRAs)
- Group health insurance
- Self-funded health insurance
- Taxable stipends
For each option, we’ll discuss how it works, the advantages tit offers, and what potential disadvantages a business may have to deal with if they go with one of these options.
Choice 1: The qualified small employer health reimbursement arrangement (QSEHRA)
The qualified small employer HRA (QSEHRA) was created in 2016 through bipartisan legislation from the federal government.
With the QSEHRA, businesses with fewer than 50 employees offer their employees a monthly allowance of tax-advantaged money. The employer determines the allowance before launching the benefit. Employees choose the health care they need, like individual insurance policies, prescriptions, medical services, dental services, and more, and submit proof of their expense. The business then reimburses the employees up to their allowance amount for the cost of the services or insurance premiums. The business can include all employees or limit the benefit to only full-time employees who are automatically eligible. This allows small businesses to offer a meaningful benefit to their employees while keeping within their budget.
Let’s break it down:
Step 1: The small business sets a monthly allowance of tax-advantaged money to make available to each eligible employee.
Step 2: Employees make purchases. They’re free to get the care, services, and/or policies that fit the needs of their families and themselves. There are a variety of expenses eligible for reimbursement. Eligible expenses include things like personal health insurance premiums, copays, deductibles, and prescription drugs.
Step 3: After incurring an eligible expense, employees must submit documents to the company showing proof of the expense. The documents must show a description of the product or service, the amount billed to the employee, and the date they incurred the expense.
Step 4: The business reviews and reimburses employees’ expenses. When an employee submits an expense, the business or an approved third party reviews the documentation. Then the employer reimburses the employee up to the amount of their allowance.
Reimbursements provided through a QSEHRA are free of payroll taxes for businesses and their employees. Payroll taxes include social security, medicare, and unemployment tax.
Reimbursements are also free of income tax for employees covered by an insurance policy that provides minimum essential coverage (MEC).
The QSEHRA is often the best choice for small businesses because it’s personalized, flexible, and cost-effective. Employees can purchase what best fits their needs, while small businesses are free to keep costs within their budget.
Choice 2: Individual coverage HRAs
The individual coverage health reimbursement arrangement (ICHRA) was officially created by the federal government in June 2019, and is available as of January 1, 2020.
Similar to a QSEHRA, an ICHRA is a company-funded, tax-free health benefit allowing businesses to reimburse their employees for personal health care expenses.
Unlike other HRAs, the ICHRA is available to businesses of any size. That means small businesses as well as companies with more than 50 employees can offer an ICHRA. There are no annual allowance caps, and businesses may vary allowance amounts and eligibility by different classes of employees.
Here's how it works step by step:
Step 1: Through an ICHRA, businesses set a monthly allowance of tax-free money for their employees to use on individual health insurance and other health care expenses. There are no limits on annual contribution amounts, and businesses can offer different amounts to different classes of employees, including:
- Employees in a waiting period
- Temp employees that work through a temp agency
- Employees covered under a collective bargaining agreement
- Employees in different locations, based on rating areas
- Foreign employees who are working abroad
- Any combination of the options above
In general, ICHRA allowances should be the same within each class; however, distinctions can be made based on the employee’s age or family size.
Step 2: Employees incur expenses for health care products and services according to their personal needs, including individual health insurance. A full list of eligible expenses can be found in IRS Publication 502.
Step 3: Employees submit proof of their expenses. After incurring an expense, employees provide document to the business showing proof of the expense. The documents might be an invoice, an itemized receipt, or an explanation of benefits from their insurance provider.
Step 4: The business reviews the documentation and reimburses the employees. If the documentation is sufficient and the employee’s expense is eligible to be reimbursed, the business reimburses the employee up to their allowance amount. The reimbursements are nontaxable for both the employees and the business.
There are two things to keep in mind when considering an ICHRA: First, employees and their families are only eligible to participate if they have coverage under an eligible individual health insurance policy. If the employee or a participating family member fails to obtain or loses individual coverage, they cannot receive reimbursements.
Second, the ICHRA comes with premium tax credit restrictions. When an employee opts to participate in the ICHRA, they’re no longer eligible to receive a premium tax credit. Employees are free to opt out and accept a tax credit instead, as long as the allowance offered was low enough that any policy would still be considered “unaffordable” and wouldn’t provide minimum value under the ACA.
Choice 3: Group health insurance
A group health insurance policy has traditionally been the typical choice for most businesses. Group health insurance is a plan chosen by the employer that provides coverage to employees and, in most cases, the employees’ dependents.
Small businesses offering a group insurance policy to their employees pay a fixed premium to the insurance provider. They may share the cost with employees by passing on a portion of the premium. Participating employees are responsible for the copays and deductibles associated with the services they receive. Group policies also have a specific network of providers that employees can seek services from. In general, services provided by out-of-network providers are either not covered under group plans, or the percentage of the cost employees are responsible for is greater than with in-network providers.
Businesses typically purchase coverage through an insurance broker or the public Small Business Health Options (SHOP) marketplaces.
Traditional group health insurance can be a good choice for small businesses because employees are often already familiar with how it works and it’s relatively easy for employers to obtain.
That being said, premium prices can be out of range for small businesses with a limited budget. The cost of group health insurance premiums have increased significantly in recent years and continue to climb. The least expensive policies generally have higher deductibles that put a larger burden on employees. Another downside is that employees don’t have a choice with regard to the covered network. That means they may not be able to receive services from their preferred providers.
Choice 4: Self-funded health insurance
In order to avoid the high cost of premiums and the restrictions associated with group health insurance, some small businesses are opting to self-insure.
Through a self-insurance arrangement, businesses take on the financial responsibility for providing health care benefits to their employees. Rather than paying a fixed premium to an insurance provider, the business pays for employee’s out-of-pocket claims as they arise.
The terms of eligibility and covered benefits must be outlined in formal legal plan documents. Typically, businesses set up a trust fund to earmark money and contributions are made by both the business and its employees to pay for claims. Businesses may also pair the fund with a stop-loss policy that limits the potential financial burden.
Third-party administrators (TPAs) manage claims and other filings.
Self-funded health insurance can help small businesses to save money, particularly in administrative costs. Savings in nonclaims expenses compared to group health insurance can range from about 10 percent to 25 percent, according to the Self-Insurance Educational Foundation.
Self-insurance is risky, however. In a worst-case scenario, claims that are larger than expected could actually put a small employer out of business. For this reason, self-funded health insurance is more popular among large businesses. In fact, the average size of a business providing self-funded insurance is around 300 to 400 employees.
Choice 5: Taxable stipends (informal wage increase)
Due to the cost and difficulty of establishing formal legal plan documents, some small businesses choose to implement an informal wage increase, or taxable stipend. This isn’t a true health benefit, but many businesses that take this path hope it helps employees with their health care costs while avoiding complex paperwork and exorbitant premiums.
With a taxable stipend, the business simply raises all employees’ wages a specific amount and tells employees the additional funds are meant for health care.
There are three major downsides to this option, though: First, the funds provided to employees are taxable for both the employees and the business. Second, the business has no standing to ensure employees are utilizing the wage increase for health care. And lastly, employees aren’t likely to see the funds as an actual health benefit. That may undermine the business’s intent in giving the wage increase in the first place.
The future of small group health insurance
Small business owners tell us every day about the challenges of trying to provide small group health insurance. Their biggest concerns are the high cost and lack of personalized options. With that in mind, it's not surprising that only 30 percent of businesses with under 50 employees offer a group insurance plan these days.
Fortunately, the number of health benefit options available to small businesses continue to grow. You can learn more about the options presented in this blog in our latest eBook, The Small Business's Guide to Health Benefits in 2020.
This eBook provides even more details about health benefits available in 2020, including how they work, the pros and cons, and how they're implemented. We also give you a framework for deciding which benefit is the right choice for you and your small business.
Going forward, we believe the choices available for small business health benefits will continue to broaden. Alternative benefits, especially HRAs, will become more accessible and small businesses will be in an even better position to provide meaningful benefits that help them succeed in the evolving market.