Understanding the Difference Between an HSA and an HRA in Health Insurance

As the new year approaches, many individuals and businesses are taking the opportunity to review their health insurance options to ensure they’re well-prepared for the months ahead. Two of these options may include HSAs (Health Savings Accounts) and HRAs (Health Reimbursement Arrangements). Both are valuable for managing healthcare costs, but they function in unique ways and cater to different needs, which we explore below.

What is an HSA?

A Health Savings Account (HSA) is a tax-advantaged account you can open if you’re enrolled in a High-Deductible Health Plan (HDHP). Here are its main characteristics:

• Employee and Employer Contributions: Both an employee and an employer can contribute to an HSA, up to annual IRS limits.

• Tax Advantage: Contributions are tax-deductible, growth is tax-free, and withdrawals for qualified expenses are also tax-free.

• Portability: The account is the employee's, even if they change jobs or retire.

• Investment Opportunities: Many HSAs allow individuals to invest funds in mutual funds or other financial products, potentially growing savings over time.

• Qualified Expenses: HSA funds can be used for a wide range of medical expenses, including deductibles, copayments, and prescriptions.

What is an HRA?

A Health Reimbursement Arrangement (HRA) is an employer-funded account that reimburses employees for qualified medical expenses. Here are some key features:

• Employer-Funded: Only the employer can contribute to an HRA. Employees cannot add money to the account.

• Reimbursement-Based: Individuals pay for healthcare expenses upfront and submit a claim for reimbursement.

• Flexible Design: Employers have discretion over what expenses are eligible for reimbursement, such as doctor visits, prescriptions, or even certain over-the-counter items.

• Non-Portable: The account is not the employee's when they change jobs or retire. Typically, access to the HRA funds would be lost in these circumstances.

• No Contribution Limits: Unlike HSAs, there are no legal caps on how much an employer can contribute, though they set their own limits.

What is a QSEHRA?

A Qualified Small Employer Health Reimbursement Arrangement (QSEHRA) is a type of HRA specifically designed for small businesses with fewer than 50 full-time employees. It allows employers to reimburse employees for medical expenses, including health insurance premiums. Key features of QSEHRA include:

• Eligibility Requirements: Employers must have fewer than 50 full-time employees and cannot offer a group health plan alongside the QSEHRA.

• Contribution Limits: Employers are subject to annual contribution limits set by the IRS.

• Tax Benefits: Reimbursements are tax-free for employees if they have health insurance that meets minimum essential coverage standards. For employers, contributions are tax-deductible.

• Flexibility for Employees: Employees can use QSEHRA reimbursements to purchase individual health insurance plans or pay for out-of-pocket medical expenses.

• Portability: Similar to standard HRAs, QSEHRA funds are tied to employment and do not follow the employee if they leave the company.

Choosing Between an HRA and an HSA

Employers need to remember that HSAs require employees to be enrolled in an HDHP, while HRAs can pair with a variety of insurance plans. For individuals, the choice between an HRA and an HSA often depends on the employment situation, health insurance plan, and personal financial goals. An HRA might be better if a person's employer offers generous reimbursement options and/or they prefer not to manage an account or make contributions themselves. An HSA might be better if they're enrolled in a High-Deductible Health Plan, they want to take advantage of tax savings and the ability to grow funds, and/or they’re looking for a portable account.

HSAs and HRAs are valuable tools to help manage healthcare expenses, but they serve different purposes. An HRA offers flexibility and employer-driven funding, while an HSA provides tax benefits and long-term savings opportunities. Understanding these differences will empower you to make informed decisions about your healthcare and financial planning.