The flexible spending account has been around for decades, but thanks to the Affordable Care Act, this familiar account-based benefit plan is quickly becoming more important than ever when it comes to helping employers engage consumers and control rising health care costs.
Let's start by touching briefly on the ACA. The first thing to keep in mind is that health care reform is something of a misnomer. Health insurance reform is actually closer to reality. Put simply, the ACA requires health insurance to cover more stuff. Because the ACA is also required to save money, the law had to demonstrate cost savings as measured using Congressional Budget Office budgeting timelines and methodologies.
It's certainly not earth shattering to read that someone is predicting the cost of health insurance to increase. Employers who offer major medical benefits are likely already facing the challenge of how to attract and retain talented people while managing a budget line item that is growing at an unsustainable pace.
Employers have responded by shifting increased costs to employees over the past few years, with 58% of all employers now offering high-deductible health plans. Average deductibles hover slightly over $1,200 and continue to rise, according to an Aon Hewitt employer survey. Once Americans have consumed their deductibles, they are footing the bill for 20% to 40% (co-insurance) of the price of their care up to an out-of-pocket maximum, according to a 2008 McKinsey Global Institute white paper, "Accounting for the Cost of U.S. Health Care: A New Look at Why Americans Spend More."
In response, health savings accounts are growing both in terms of number of accounts (16.5 million) and balances ($15.9 billion), by some measures over 20% per year, Evolution1 data found. HSAs are a fantastic way for individuals to manage increased costs while reducing their tax burden, but it is important to note that, unlike the rules that apply to FSAs, the IRS does not require independent third-party substantiation of HSA spending.
Why it matters
Why is this important? Some (many, in fact) see this as a good thing - and from a convenience and ease-of-use standpoint, it is. With an HSA, each individual account holder is responsible for ensuring that HSA funds are used toward qualifying health care expenses to avoid paying hefty excise penalties and income taxes to Uncle Sam.
So why should an employer not view this as an advantage? Well, aside from the fact that the employer has no way of knowing whether HSA funds are actually spent in the manner intended, the lack of substantiation also eliminates an opportunity to engage employees and help them develop better health care consumption habits.
Let me explain what I mean. According to IRS regulations, all FSA (and HRA) claims must be verified by an independent third party. With the advent of pre-paid health care debit cards and updated guidance from the IRS, some of these claims can be automatically adjudicated (and therefore substantiated) without the need for participants to follow up with a medical provider to collect and submit an itemized receipt.
But, a significant percentage of these medical claims - primarily doctor and hospital claims - require the participant to understand their out-of-pocket responsibility, collect and manage the paperwork associated with it, and proactively follow up with their benefits administrator to make sure their pre-tax dollars match up with these health care expenditures. Thanks to today's technology, this ritual can be as easy as snapping a picture of a receipt or explanation of benefits with a smartphone app, but it still requires the brain to engage in the benign act of associating cost (of the health care expenditure) with value (of the service being rendered in return). This process of associating cost with value sits at the heart of addressing many of the problems that have long plagued the American health care system.
FSAs are not a new solution. But the concept of using them - and, more specifically, the substantiation requirements behind them - as training wheels to better engage employees and modify health care spending habits is a new and unique way of converting what is widely perceived as a flaw into a feature.
The best data we could find shows that 85% of employers offer a traditional FSA through a Section 125 plan as part of their benefits package. Only about 35% of the employees associated with those employers elect to participate in the FSA, according to the Employee Benefit Research Institute. Anecdotally, I believe the true rate to be closer to 20% (or lower, if the FSA plan is not attached to a pre-paid health spending account card). The biggest reason people don't participate in an FSA is the well-known use-it-or-lose rule, whereby any salary deductions put into the account are wiped away at the end of the plan year if those dollars are not spent on qualified health care items. In short, the modicum of effort required to effectively budget FSA contributions prevents somewhere between 60% and 80% of eligible employees from even bothering. Which is a shame, considering that for most employees, the post-ACA world is a world of high deductibles and 20% to 40% post-deductible coinsurance. Virtually everyone can take advantage of an FSA.
An employer considering the cost curve only has to be slightly better than the competition to enjoy a significant corresponding effect. Spending time with employees and helping them think about the out-of-pocket expenses they will inevitability have to manage post-ACA will not only save both employees and employers money, it will also force the people on the front lines of health care consumerism to engage with their health care spending and do a better job of controlling costs over the long-run.
How are employees supposed to become intelligent health care shoppers? Companies like HealthGate and Castlight Health are sprouting up to address this very question, by seeking to make price and quality data more transparent to consumers. In fact, there is a whole industry of companies emerging with the sole purpose of uncovering ways to help health care consumers shop more intelligently. Yes, FSAs may have been around for decades, but they are suddenly - and finally - in the right place at the right time.
The Target Corporation has done research on the role that habits play in consumerism. The research showed that, for most consumers, shopping routines are automatic in terms of where people shop and what they purchase. As it turns out, we function mostly in autopilot. In order to win new customers, therefore, Target needed to get people to change a routine. What they discovered was that there are certain events in a consumer's life where a routine is "up for review," so to speak, and if Target could entice someone to enter their store during one of these review periods, they would be able to effectively "rewire" the routine and grab a new loyal customer, illustrated in a New York Times Magazine February 2012 story. These findings are easily applied to the health care world. Emerging from the age of managed care, people are so far removed from the cost of care versus the value of what they are getting in return that we have become a nation of consumers whose health care payment routine is to flash an insurance card, pay a fixed copay, and mindlessly participate in whatever their provider is willing to order up and bill to the carrier.
Health care reform has presented us with a rare and potentially game-changing review period. Employers who can seize on the ACA paradigm shift and leverage FSA programs have the unique opportunity to rewire their employees' consumer routines - one of the reasons we affectionately refer to FSAs as the gateway drug to consumerism. Simply set the bar a bit above average and, to paraphrase Warren Buffett, over time you will give yourself a durable competitive cost advantage.
McCollum is chief operating officer of AmeriFlex. Reach him at firstname.lastname@example.org.
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