HSAs
Are Health Savings Accounts on Life Support?
by Sri Velamoor and Tom Weakland

Health savings accounts (HSAs) saw aggressive growth from 2005 to 2008 only to slow markedly by early 2009. The HSA may be on life support for the time being, but reports of its death have been greatly exaggerated and the patient is getting better. The HSA is viable savings product for more than 6 million consumers. HSAs have survived preliminary attempts by Congressional Democrats to marginalize them and they continue to offer consumers a tax-advantaged pool of funds to address escalating healthcare costs.

How did we get here after all the fanfare of just a few short years ago? We’ll examine four key factors that have influenced the HSA slowdown. Since their inception through Medicare legislation in 2003, HSAs have become an integral element of the consumer-directed healthcare trend.

These tax-advantaged savings accounts are available to people enrolled in high-deductible health plans. Unlike flexible-spending accounts, the savings in an HSA can roll over from year to year. An accountholder who fails to use up all the savings by the end of the year would not be out of luck. Consumers can draw from a growing pool of assets dedicated to addressing their lifetime healthcare costs. The premise is not unlike product consumers are familiar with, such as 401(k)s, IRAs, and other defined contribution accounts.

HSA growth averaged nearly 70% from 2005 to 2008. HSA custodians opened more than 1 million HSA accounts in 2004 alone. In comparison, 401(k)s and IRAs averaged nearly 67% growth in the first few years of their inception in 1974. Does this mean that HSAs are likely to form a $6 trillion or $7 trillion asset pool in the next few decades? We believe that it depends on key adoption and integration trends underlying high-deductible health plans (HDHPs) and HSAs. It also depends on the economic climate and Congress’ appetite for supporting HSAs.

Symptoms of an Ailing System

In recent years, four key factors have constricted the growth of HSAs and the assets in these accounts:
1. Slower than expected growth in HDHPs, which are directly linked to HSAs.
2. Low HDHP adoption rates among the largest employers.
3. Relatively stagnant conversion rates among HSA-eligible HDHP enrollees.
4. Lower than expected average balances among existing HSA accountholders.
HDHPs and consumer-driven health plans (CDHPs) were on pace to comprise nearly 25% of the private insurance market by 2010. However, as a percentage of the overall commercial market, HDHPs have not increased their footprint as much as expected. HDHPs only represented an 8% share of the insured population in 2008, according to a survey by the Kaiser Family Foundation and Health Research and Educational Trust.

Employers have been slow to recognize how much they could save with lower-premium CDHP insurance solutions or they have been unable to develop a business case for them. Consequently, many large employers offer HDHPs as an alternative to traditional PPOs, but they aren’t pursuing full replacement strategies.

In addition, employers are just as willing to link HDHPs to health reimbursement arrangements (HRAs) as they are to HSAs. Sixteen percent of the largest companies (with at least 5,000 workers) say they are very likely or somewhat likely to offer an HDHP/HRA in the next year, according to Kaiser. That compares with 29% of companies with 200 to 999 workers and 26% of companies with fewer than 200 workers.

The business case to pursuing full HDHP replacement strategies with HSAs has been unclear for the biggest companies. The potential return on investment is also cloudy for switching from current plans. In addition, full replacement strategies are cumbersome. They require long and costly planning and execution. Many large employers are also worried about employee satisfaction with newer plans, which has slowed the jump to HDHPs.

HSA conversion rates are defined as the percentage of HSA-eligible enrollees that open and fund accounts. These rates have held steady in recent years. Nearly half of HSA-eligible plan enrollees had not opened an HSA, according to a 2005 to 2007 survey by the Government Accountability Office.
Twenty-four percent of eligible individuals had no plans to open an HSA in 2007 compared to 20% in 2005. Respondents said they couldn’t afford an HSA or believed they didn’t need one. Health plans, brokers, custodians, and employers will continue to face major challenges in educating consumers on the value of HSAs and HDHP coverage levels compared to traditional plans.

It’s likely that HSA account fees have limited HSA adoption. The fees have been poorly received by consumers who have grown accustomed to no-fee banking. Poor customer service, due to lack of integration across the HDHP-HSA platform, has frustrated consumers and is cited consistently as a reason for limited HSA use.

Average account balances among HSA participants have remained low for a variety of reasons. The average balance was $948 in individual HSA accounts and $1,598 in family accounts, according to a third-quarter 2008 report by Canopy Financial. The IRS has set the 2009 maximum annual contribution at $3,000 for an eligible individual with self-only coverage. The maximum annual HSA contribution is $5,950 for family coverage.

Half of all HSA accounts in 2008 had less than $1,000 in average account balance, while 12% reported a zero balance, according to AHIP research. The -ability to secure matching contributions from employers, benefits enrollment windows, and legal restrictions governing contribution levels have all affected asset levels in HSAs. Consider this startling figure: UnitedHealthcare, which runs its own bank, found that 86% of consumers opened an account when an employer contributed to an HSA through the company’s bank compared to only 27% when the employer did not contribute.

In addition, accountholders who enrolled in an HSA in the middle of the year (before 2007) couldn’t contribute the yearly maximum. With benefit enrollment cycles typically beginning in the fall, consumers often haven’t had adequate opportunity to contribute to these accounts. Additionally, a high percentage of accountholders opened their HSAs during the past two years and they haven’t had an opportunity to roll over accrued balances for multiple years. Finally, though employer contributions have shown to improve HSA participation, levels and increase asset balances, these contributions have remained relatively low.

An Unhealthy Environment
Political uncertainty and the deep recession have exacerbated the issues surrounding HSAs. These tax-advantaged accounts were developed and launched under the stewardship of the Republican

Party and the Bush administration. Congressional Democrats were initially opposed to HSAs under the premise that they only benefited the healthy and wealthy, but they have tempered objections in recent years. Instead, they have tried to regulate HSAs by influencing key characteristics of these accounts. In particular, they have focused on eligibility for tax advantages and enhanced disclosure around the usage of funds in HSAs. Today, anyone at any income level can contribute the maximum allowable amount to their HSAs and allow the funds to grow tax-free.

Congress is considering imposing income-based contribution thresholds. These thresholds would restrict anyone with annual earnings of more than $60,000 from being able to contribute the maximum allowable amount into these tax-advantaged accounts. Recent efforts to impose consumer-reporting requirements related to the use of HSA funds for eligible healthcare transactions passed Congress but died in the Senate after intense lobbying from health insurance and financial services stakeholders. The philosophical battle between proponents of the private sector with consumer control and proponents and universal healthcare supporters wages on. This battle will almost certainly affect HSAs in some way in the next couple of years.

While HSAs appear to have weathered the preliminary political struggles, the economic downturn affects these accounts in two ways. First, employer contributions play an enormous role in driving deposits (in addition to consumer deposits, of course).

These days, people are most interested in gaining liquidity. So they are not saving enough in tax-advantaged accounts regardless of the product. And consumers who already have HSAs are more likely to spend from the accounts than to allow balances to accrue in today’s recessionary environment. Also, most employers are too cash-strapped to make matching contributions to employees’ accounts.

The drastic changes in the HSA market have taken hold over a relatively short period. In August 2005, we estimated that there would be 20 million to 25 million HSA accounts by 2010, holding about $75 billion in assets. The evolving market conditions have now tempered our expectations.

Showing Signs of Life Once Again
At the time of our 2005 estimate, we said that the lack of integration among health insurers, employers, and HSA custodians and lagging consumer education initiatives would affect the success of the consumer-directed healthcare phenomenon and overall HSA growth in 2005 and 2006. Over the past couple years, industry players have made strides in addressing these challenges and have managed to maintain momentum. However, there is still a great deal of work to be done. Companies must stay focused on these challenges to ensure continued growth of HDHPs and the HSAs linked to them.

We believe that, in order to drive growth, HSA custodians, insurers, and employers should target the right customers with the right services. For example, a bank that wants to grow its asset base could provide health/wealth ancillary services to customers who are likely to value those services most. These are the people who are in relatively good health; they are seeking to make better decisions; and they are more likely to save in their HSAs instead of using the accounts to make frequent healthcare payments.

Insurance brokers who want to drive adoption of HDHPs, among large and small employers alike, should focus on the cost savings that CDHPs can offer. Quantifying the return-on-investment will be critical to success. In addition, it will be critical to educate members about the differences in health plan options and benefits and alleviate concerns about a drop-off in coverage and quality in order to ensure that employers can pursue full replacement strategies more smoothly and drive overall adoption.

No, HSAs aren’t going to break any records for growth, but they’re certainly not going to be on life support for the foreseeable future either. These tax-advantaged accounts remain valuable products for the right consumers and they can coexist with both private- and public-sector health reform initiatives. The more HSA custodians that can overcome structural challenges of the accounts, the larger their affect will be in an evolving healthcare landscape. HSA will grow as the sputtering economy begins to show signs of life and they’ll get another shot in the arm if the Obama administration throws some support behind them.
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Sri Velamoor is a principal in Diamond Management & Technology Consultants’ Financial Ser-vices practice with expertise in business and marketing strategy, risk management, product development, and information lifecycle management. He has advised leading financial services and healthcare institutions on a wide range of initiatives.

Tom Weakland is the managing partner of Diamond Management & Technology Consultants’ Healthcare practice. His expertise covers all phases of program implementation: business plan development, architecture analysis, design, development, deployment, and management.