What is a Health Reimbursement Account (HRA)
A health reimbursement account (HRA) is an employer-funded plan that reimburses employees for medical expenses not covered by company-sponsored insurance. Because the employer funds the plan, any distributions are considered tax deductible to the employer. Reimbursement dollars received by the employee are generally tax free. A health reimbursement account is also known as a "health reimbursement arrangement."
Breaking Down Health Reimbursement Account (HRA)
A health reimbursement account is a notional defined-contribution plan set up by an employer for its employees to cover medical expenses. An employee who visits a medical professional or facility will have his health expenses reimbursed by the employer only after the expenses have been incurred. If the employee uses up all the allocated funds in his HRA before the end of the year, any subsequent health bill will have to be covered out-of-pocket.
Health Reimbursement Account Coverage
A HRA only covers qualified medical and dental expenses. According to the Internal Revenue Service (IRS), medical expenses are costs incurred to alleviate or prevent a physical or mental ailment, not including expenses to maintain general health, such as vitamins. In addition, medical expenses include premiums for qualified health insurance policies, transportation costs incurred to get medical care, and any amount paid for qualified long-term care (LTC). Employees can also use the money in their HRAs to cover the medical costs of their spouses and dependents. Depending on the company, HRA plans may vary in that a business may exclude certain medical expenses even though the expenses are qualified by IRS measures. An employer’s list of qualified medical expenses will be outlined in its HRA plan document for employees.
Examples of expenses that can be covered by a health reimbursement account include premiums on vision or dental care that have not been paid with pre-tax dollars; Medicare Part A or B; long-term care insurance premiums; annual physical exam; crutches, birth control pills; meals paid for while receiving treatment at a medical facility; psychologist or psychiatric care; substance abuse treatment; etc.
Expenses that do not qualify as a necessary medical expense include teeth whitening; medication from other countries and non-prescription medication; maternity clothes; funeral services; health club membership fees; controlled substances; childcare for a healthy baby; marriage counseling; etc.
The health reimbursement account is funded solely by the employer who also decides the maximum annual contribution for each employee’s HRA. Any money that is unspent by year-end may be rolled over to the following year, although an employer may set a maximum rollover limit that can be carried over from one year to the next. Furthermore, if an employee leaves the company to another firm, his HRA will not be transferred to the new company. Instead, the account will be canceled by the old employer and his new employer will have to set up a new HRA for his medical expenses. An HRA plan that has already been set up can be canceled or altered by the employer at any given time.
Health Reimbursement Account Tax Advantages
As a benefit to employers, contributions to the HRA are 100% tax deductible. As an alternative to more expensive retiree healthcare, an employer may use HRA to cover the health costs of retired employees. In addition, since the plans are fully funded by employers, employers know their approximate maximum expense for health benefits for the year.
While an HRA is not health insurance, it is a great resource for employees to receive health insurance benefits. Employees may use the account to pay for a wide range of medical expenses not covered by their health insurance policies. Furthermore, reimbursements for qualified medical expenses are tax free up to a maximum amount for a coverage period. This means that employees don’t have to claim any income tax deductions for reimbursed medical expenses. For some businesses, employees may have the added advantage of having other employer-provided health benefits, such as a Flexible Spending Account (FSA), in conjunction with an HRA.
Health Reimbursement Account vs. Other Accounts
An employee that has both an FSA and HRA, and has an expense that is eligible to be reimbursed through both plans cannot choose which account will cover the expense. Instead, the costs will be reimbursed by the account that the employer has set up to pay first. When this primary account has been depleted, the second account by order will be used to cover any subsequent eligible medical expenses that are reported for reimbursement. An FSA is funded using a portion of employees’ pre-tax salaries, hence, employees determine how much should go into these accounts annually. While unused funds in HRA plans may be carried over to the following year according to the discretion of the employer, unspent funds in FSAs are automatically forfeited at the end of the year.
In comparison to an HRA, a Health Spending Account (HSA) is a fully vested tax-advantaged account that is not subject to forfeiture if funds remain in the account at the end of the year. An HSA is paired with a High-Deductible Health Plan (HDHP) to pay for medical and dental expenses. The account is funded by the employee and/or employer, and like FSAs, cannot be used to pay for insurance premiums. Unlike an HRA and FSA, an employee gets to keep his HSA if he changes employers.