Shifting the Cost of Coverage to Employees

Health insurance is increasingly costly to employers. There are several ways in which business owners can reduce their costs without putting employees out in the cold.

Sharing the Cost of Premiums

Instead of employers paying the entire cost of insurance, employers can shift a portion of the cost to employees. For example, employers may provide free coverage for employees but shift the cost of spousal and dependent care coverage to employees.

Flexible Spending Arrangements

Businesses can set up flexible spending arrangements (FSAs) to allow employees to decide how much they want to pay for medical expenses. Employees pay for qualified medical expenses (prescription drugs and insulin as well as doctor-prescribed over-the-counter medications) on a pretax basis. At the beginning of the year, they agree to a salary reduction amount that funds their FSA. Contributions to an FSA are not treated as taxable compensation (and are not subject to FICA). Employees then use the amount in their FSA to pay for most types of medical-related costs, such as medical premiums, orthodontia, or other expenses during the year that are not covered by medical insurance (including over-the-counter medications, such as pain relievers and cold remedies, not prescribed by a doctor). This plan cannot be used to pay for cosmetic surgery unless it is required for medical purposes (such as to correct a birth defect).

The downside for employers is that employees can use all of their promised contributions for the year whenever they submit proof of medical expenses. This means that if employees leave employment after taking funds out of their FSA but before they have fully funded them, the employer winds up paying the difference. So, for example, if an employee who promises to contribute $100 per month submits a bill for dental expenses of $1,200 on January 15 and leaves employment shortly thereafter, the employee has contributed only $100; the employer must bear the cost of the additional $1,100 submission.

Of course, the flip side benefits the employer. If employees fail to use up their FSA contributions before the end of the year or the 2½ month grace period (referred to as the “use it or lose it” rule), the employer keeps the difference. Nothing is refunded to the employees.

Cafeteria Plans

Employers can set up cafeteria plans to let employees choose from a menu of benefits. This makes sense for some employers, since cafeteria plans allow working couples to get the benefits they need without needless overlap. For example, if 1 spouse has health insurance coverage from his employer, the other spouse can select dependent care assistance or other benefits offered through a cafeteria plan. Cafeteria plans do not require employees to reduce salary or make contributions to pay for benefits. Benefits are paid by the employer.

Premium-Only Plans

In these plans, employees choose between health coverage or salary. If they select the coverage, it is paid by means of salary reduction. In effect, employees are paying for their own coverage, but with pretax dollars. The employer deducts the compensation (whether the employee chooses the coverage or takes the salary). The only cost to the employer under this type of plan is the cost of administering it. (Many payroll service companies will administer the plan for a modest charge.) Bonus: Both the employer and employee save on FICA if the medical coverage is chosen.