Defined contribution health plans

What is a defined contribution health plan?

A defined contribution health plan is a type of employer-sponsored benefit plan where the employer contributes a set amount of money toward the employee's healthcare expenses.

Typically, employees can use their defined contribution allowance toward qualified out-of-pocket expenses like insurance premiums, medication, and preventative care. But, this depends on the type of defined contribution plan the employer offers.

They allow employees to be more involved in their health benefit plans, which is especially important given the rise in healthcare consumerism. These plans shift the responsibility of choosing and managing health coverage from the employer to the employee, giving individuals more control over their healthcare options, the amount they pay for coverage, and the doctors they visit.

Transitioning from a group health plan to a defined contribution health plan mirrors the shift from a traditional pension plan to a 401(k) for employer-sponsored retirement plans. With a pension plan, employers guarantee a monthly check at retirement, but employees have no say over their investment options. They can also be much more expensive for employers. With a 401(k), employees own their individual accounts and have more control over their investment decisions. Plus, employers only contribute a set amount, usually matching the employee’s voluntary contributions.

With a defined contribution health plan, employers don’t need to pay for or manage a group plan. Some types of defined contribution plans, like HRAs, allow employees to select the individual health insurance plan of their choice and make payments toward healthcare costs out of their own finances upfront. Then, employers can reimburse them from the funds in their annual or monthly benefit allowance.

The benefits of a defined contribution health plan

Now that we’ve explored what defined contribution health plans are, here’s why you might want to offer one to your employees.

It's a self-funded health or savings plan

A common reason employers use a defined contribution health plan such as an HSA or HRA is that they're self-funded health plans. This gives employers and employees greater control over how much they spend on healthcare benefits. With a fully-insured health plan, the insurance companies control the costs, and employers and employees alike often face expensive premiums. With a defined contribution health plan like an HRA, employers only pay out up to their set allowance amount.

It's a tax-free health benefit

Many employers who don't qualify for group health plans or simply can't afford them resort to offering taxable wage increases. This subjects your organization to additional federal income, Medicare, and Social Security payroll taxes. This method also doesn’t comply with the ACA for ALEs.

A defined contribution health plan is free of payroll taxes for both the employer and employee. As long as the employee uses their HRA allowance to purchase a policy with MEC, they can participate in the benefit making employers' benefit dollars stretch further.

It can work as a stand-alone benefit or alongside a group plan

On top of these benefits, a defined contribution health plan doesn't have to be a stand-alone benefit. Employers who are already offering a group health plan can offer a group coverage HRA (GCHRA), also known as an integrated HRA, alongside the group plan. There are a few ways to accomplish this, depending on your needs.

Why defined contribution health plans work

Defined contribution health plans work for employers and employees because:

• Individual health insurance costs 20% - 60% less than comparable group health coverage. The employer's healthcare dollars go further.
• Contributions are tax-deductible to the employer, and employees receive reimbursements tax-free.
• The employer gains fiscal control and predictability over their health benefits budget.
• There are no minimum or maximum contribution amounts—depending on the HRA offered—and no minimum participation requirements.
• Employees have control over their individual health insurance plans, enabling them to make consumer-driven choices.

Depending on the plan and their income level, employees may have access to premium tax credit subsidies through the insurance marketplace or their state exchange.

Compliance requirements for defined contribution health plans

The federal government considers Section 105 Plans as group health plans. As such, they must comply with IRS, HIPAA, COBRA, ERISA, and ACA regulations.
This section details compliance requirements that may impact your health benefit options.

Internal Revenue Service (IRS) requirements

The IRS has many rules that organizations must satisfy for benefits, such as HRAs, to be tax-advantaged.

The IRS requires the following:

• Documentation: The IRS requires that employees submit proper documentation verifying their claim for reimbursement and that employers save supporting documentation on file for ten years.
• Eligible expenses: The IRS maintains the list of HRA- and HSA-eligible expenses. You may only reimburse employees for these qualifying expenses.
• Nondiscrimination: Defined contribution health plans must comply with nondiscrimination rules. The rules state the plan must not discriminate in favor of highly compensated individuals (HCIs) with respect to eligibility to participate in the plan or benefits provided under the plan.

Health Insurance Portability and Accountability Act (HIPAA)

HIPAA rules apply to defined contribution health plans. To administer a plan correctly, the entity processing employee reimbursement claims receives protected health information (PHI) that the government requires you to hold confidentially.

Consolidated Omnibus Budget Reconciliation Act (COBRA)

For plans with 20 or more participants, employers must give terminated employees the option to continue their participation in the plan for a period after termination and may charge an employee up to 102% of the value of their allowance if COBRA is elected. Many states have their own COBRA laws that apply to smaller organizations.

Employee Retirement Income Security Act (ERISA)

ERISA rules apply to all formal health benefits, including traditional group health insurance and HRAs.

ERISA requires every welfare plan to have a summary plan description (SPD) and to furnish copies to each participant.

ERISA also requires that employers establish and maintain written plan documents. Plan documents define what expenses are eligible for reimbursement, the amount of employer contribution, and other required details about the reimbursement plan. If you administer your HRA through PeopleKeep, we automatically generate your plan documents.

The U.S. federal government also has specific regulations employers must comply with to reimburse employees for individual health insurance premiums without triggering ERISA plan status for the individual health insurance policies. For example, the employer must not endorse specific individual health insurance policies or pay directly for them.

Affordable Care Act (ACA) rules

There are a variety of ACA regulations that apply to defined contribution plans.

ACA rules to know include:

• Annual limit compliance: Section 2711 of the Public Health Services (PHS) Act, as added by the ACA, provides that no annual or lifetime limits may be placed on essential health benefits (EHB). The act provides that annual limits and lifetime limits may be placed on benefits that are not EHB, such as health insurance premiums.
• Preventive care compliance: Section 2713 of the PHS Act requires group health plans (including defined contribution plans) to cover basic preventive health services without cost-sharing.
• 90-day waiting period compliance: The ACA prohibits waiting periods longer than 90 days for eligible employees.
• Internal and external claims appeal process: The ACA added new requirements to the internal and external appeal process, including how and when procedures are communicated to plan participants.
• Dependent coverage for adult children up to age 26: Section 2714 of the PHS Act provides that group health plans (including defined contribution plans) that make available dependent coverage for children must make such coverage available for children until 26 years of age.
• Uniform explanation of coverage and definitions: The ACA requires that group health plans, participants, and beneficiaries receive a standardized summary of benefits and coverage (SBC) and a set of uniform definitions (uniform glossary), both of which must conform to requirements outlined in the ACA and existing regulations.
• PCORI fee: The ACA includes a research fee that individual health insurance plan sponsors must pay annually via IRS Form 720.
• 60-day notice of material modification: The ACA requires employers to provide 60 days of advance notice to participants when making material modifications to their group health plan.