Get the Lowdown on Consumer-Directed Health Plans

Inflated health insurance prices are putting the squeeze on your budget, but are consumer-directed plans the way to go?
Magazine Contributor
9 min read

This story appears in the June 2006 issue of Entrepreneur. Subscribe »

Six years ago, Jim Noon paid 100 percent of the $100 monthly health insurance premium for each of his 11 employees and their families. After premiums rose sharply, the owner of Centennial Container Denver began requiring employees to pay for spouses and children. Costs kept climbing. Noon, 50, began increasing the deductible, eventually to $2,000 for individuals and $4,000 for families. He still paid $400 per month for each employee. Says Noon, whose $2 million company sells cardboard boxes and shipping supplies, "We had a poor insurance plan, but we were putting more and more money into it."

Last year, Noon tried a health savings account, one of the consumer-directed health plans that are the industry's latest cost-control effort. The plan premium pays for insurance and also puts money into a savings account where it draws interest and is available for withdrawal for future medical expenses. Only high-deductible plans are eligible for HSAs, but HSAs have significantly lower premiums than comparable insurance plans.

Other consumer-directed plans featuring medical flexible spending accounts, or FSAs, have had limited acceptance because of a use-it-or-lose-it provision: FSA funds not spent the year they are set aside are forfeited. HSA funds roll over from year to year and build up.

The hope is that employees will build up enough in HSA accounts to pay their future medical bills and, because they are spending their own money, will make more cost-conscious health-care decisions. The insurance companies pay out less because of the higher deductibles, so they reduce premiums. Only half of Noon's employees are taking advantage of the HSA, and Noon pays the same amount because he contributes the money he saves on premiums into the employees' HSAs. He thinks he's offering employees a better value, and he hopes HSAs will become widespread and eventually reduce health-care costs for everyone. Says Noon, "I think it's terrific."

What Will It Really Cost?
Similar enthusiasm about anything related to health insurance is hard to find. Premiums for small employers rose 9.2 percent last year, according to the Kaiser Family Foundation. That was a slower rate of increase than the 11.2 percent rise in 2004 and the 13.9 percent rise in 2003.

But Gary Claxton, vice president of the Menlo Park, California, health research organization, says it probably doesn't signify a major change of direction: "We've had really high growth the last couple of years, and the system is a bit self-regulating." He says since insurers have had some really good years, prices aren't rising as fast as before.

The number of smaller employers with company-sponsored health plans also fell. Sixty-one percent of firms with 10 to 49 employees had plans in 2004, but only 58 percent did last year, according to a survey by consulting firm Mercer Health & Benefits. That trend, if prolonged, could hurt entrepreneurs' ability to hire talented employees, says Kerry Finnegan, a Chicago-based executive in Mercer's small-business segment: "Health benefits are identified in every survey as one of the key incentives for attracting talent."

Entrepreneurs are, unfortunately, at a disadvantage. One reason is that big employers who don't like the deals insurers offer can opt out by self-insuring, which is less viable for small employers. "If you're Ford, with 300,000 employees, you don't need an insurance company to spread the risk," Claxton says. Even companies with a few thousand or a few hundred employees--not enough to self-insure--are better-equipped to play the health-insurance game because they can hire specialists and offer a variety of benefits with cafeteria plans, Claxton says.

The entrepreneurs left holding the health-insurance bag still sometimes find that, even though they pay more than others, the insurance industry isn't interested in serving them. David Wilner pays 80 percent of the $300 monthly premiums for each of his six employees at Rhino Imaging LLC, his $1.3 million New York City document management company. Wilner feels it's important to be as good to employees as possible. "I know if I were working for someone and didn't have health insurance, it would really impact my life," says the 30-year-old entrepreneur. He also wants to offer dental coverage, but can't until he has 10 employees. "I had my health insurance guy look, and he said there's really nothing I could do," Wilner says. "I was shocked by that."

Entrepreneurs have been slow to embrace HSAs. The number of people enrolled in HSAs tripled during 2005, from 1 million to 3 million, according to America's Health Insurance Plans, a Washington, DC, industry group. But few worked for entrepreneurs--just 2 percent of employers with 10 to 49 workers had any kind of consumer-directed plan, according to Mercer. More than twice as many--5 percent--of 500-employee companies had consumer-directed plans, and a whopping 22 percent of jumbo employers with 20,000 or more on the payroll had them.

One reason for the disparity is that bigger companies can offer HSAs as one option in a cafeteria plan, while small employers are usually limited to a single offering, Finnegan says. Smaller employers are also less likely to have the resources to research and educate employees about the plans. Even when the entrepreneur enthusiastically accepts the HSA, it can be hard to get employees to do the same, as Noon's experience shows: "A lot of them don't understand the concept."

HSAs usually make good financial sense for the insured, says Steve Kinsky, a health insurance broker in Denver. The calculation isn't simple, however. Premiums may drop 30 percent when you switch to an HSA plan, but employees pay more out of pocket because of the higher deductibles. Still, says Kinsky, "from a pricing and taxation standpoint, most of the time it winds up looking better. I'm being won over."

On the Horizon
HSAs aren't the only new health insurance development. A bill that would allow smaller businesses across the nation to offer group health insurance at the favorable rates offered to larger groups is likely to come before the Senate by the time you read this. If approved, it could take effect by fall.

In another encouraging sign, some states are taking steps to increase access to health insurance options (see "Healing Hands," March for details). And businesses are acting to help employees stay healthy. "Employers of all sizes seem to be demonstrating some interest in long-term cost-management strategies like disease-management programs and wellness," says Finnegan. Mercer's study found that the percentage of employers offering at least one disease-management program rose from 32 percent in 2004 to 41 percent in 2005.

That's important, because consumer-directed health plans may not be able to help with the underlying problem of steeply rising costs for medical care. Compared to the managed-care revolution that helped slow mushrooming health insurance costs in the 1980s and 1990s with the spread of HMOs, consumer direction has less opportunity to change the way care is delivered, Claxton says. "Most of the health-care money is still spent by people who spend a lot each year," he notes. "Most of the incentives in this new arrangement aren't relevant to them because once they're past their out-of-pocket maximum, there's no incentive to spend less."

While waiting for long-term approaches to reduce overall health-care costs, entrepreneurs should pay close attention to their business models and their employees to see how their individual companies should approach health insurance. Says Finnegan, "Employers have to judge how critical health benefits are to the health of their business." That means evaluating what competitive employers offer in the way of benefits as well as asking your employees what is important to them.

The average health insurance policy won't get cheaper anytime soon. Mercer warns that health premiums should rise slightly faster this year than last--6.7 percent compared to the 6.1 percent increase for all employers seen last year. But that doesn't mean you have to be average. Mercer's study found that last year, employers were able to keep the rate of growth below earlier projections partly due to the help of care- and disease-management programs and consumerist strategies. The most common approach businesses took, however, was having employees pay a bigger share.

Some entrepreneurs don't consider that an option. Dave Morgan, CEO of 100-person New York City online behavioral advertising company Tacoda Inc., pays 75 percent of his employees' medical and dental premiums. The 42-year-old entrepreneur expects a 2006 increase similar to the 11 percent hike he experienced last year. But Morgan, whose company has annual sales of more than $10 million, hopes to maintain his current plan and eventually improve it by adding vision coverage without shifting costs to employees.

It's part of a long-term strategy to grow his firm, he explains. With bigger firms resorting to shifting costs to employees and cutting benefits, he hopes having a better health insurance plan will help him get better workers. "The technology and advertising industries are very competitive ones for recruitment and retention," Morgan says. "We are always looking for an edge."

Meanwhile, Noon sees his company's HSA as more than a tool to stretch his compensation dollars. He also hopes it will eventually provide the health insurance conundrum's only real permanent solution. That is, reining in skyrocketing health costs by encouraging patients to choose less expensive care. "Putting the people back in charge and having them have some pain when they use the health-care system," he says, "is the only way of having price competition work."

Before You Plan
Know what to look for when selecting a health insurance agent.

Selecting the right agent to handle your health insurance needs can be a daunting task--almost as confusing as choosing a medical plan. These tips from Employee Benefit Risk Management Services can help ease the stress and clarify the attributes you should seek.

  • Make sure the agent represents both group and individual health insurance companies. Often, individual insurance is a better option for employees' dependents.
  • Make sure the agent considers managed care plans such as HMOs. You want to make options with higher benefits and lower rates available to your staff, even though the choice of physicians is more limited.
  • Your agent should have a strong understanding of consumer-directed health plans, including HSAs. This is essential to help you accurately decide if such a tax-saving opportunity is an option you should pursue.
  • Consider agents who have access to multiple health insurers so you have the most possible options from which to choose.
  • Always start with your property and casualty agent, who is responsible for all your business insurance risks and who has access to health insurance specialists.
Mark Henricks is Entrepreneur's "Staff Smarts" columnist.
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