Many of us have advised a business owner on the purchase of individual disability income insurance only to hear, "That's great. I am going to pay the premiums from my corporation so I can deduct them."
Even if you began the conversation in "sales" mode, you immediately shift to "advisor" mode. You caution that by paying the policy with corporate dollars, the benefits become taxable when received. Occasionally, you have to actually refer to section 105(a) of the Internal Revenue Code (advice always carries greater weight when you can cite the law or the regulatory authority).
The client would generally agree that a small deduction on the premium today was just not worth the tax liability on their benefit over the policy's entire benefit period. After hundreds of these conversations, I concluded that Americans would do anything -- even something clearly against their own interest -- just to get a tax deduction. I began telling clients that if elephants suddenly became tax-deductible, we'd all have one (two for high wage earners in top brackets) in our backyards.
Though I haven't had a "tax-deductible elephant" conversation for a while, a review of the Senate Health Care bill and the Manager's Amendment brought me back to those discussions with DI prospects. It also reminded me of how the behavior of otherwise rational human beings could be affected merely by dangling a shiny tax deduction in front of their eyes.
Among the manure spread out over the 2,074 pages of the original bill and the additional 383 pages of the Mark are two sections that will significantly change the use of "Health Flexible Spending Arrangements Under Cafeteria Plans" -- what you and I and our clients simply call "FSAs." Although I can't support either of the proposed changes, one is easier to comprehend than the other, so let's start there.
The Manager's Mark, filed at the last minute and attached as the final article of the broader bill, is filled with changes and tweaks. One such modification is found in Section 10902 under the misdirection of the section title, "Inflation Adjustment of Limitation on Health Flexible Spending Arrangements Under Cafeteria Plans." Before the section details how FSA amounts will be so indexed, it slides in the following language: "... such benefit shall not be treated as a qualified benefit unless the cafeteria plan provides that an employee may not elect for any taxable year to have salary reduction contributions in excess of $2,500 made to such arrangement."
In other words, beginning in 2011, FSAs will be limited to $2,500. OK, I "get" this. Every dollar in an FSA is a dollar that doesn't feed the beast in D.C. The health care beast will be especially voracious, so every little corner that can be cut to save any little bit of tax exemption is precious. But don't kid yourself. Some in the liberal community have been tracking these plans as a target for some time.
Why? According to many, FSAs encourage the overconsumption of health care, and besides, they are more valuable to higher wage earners. Empirically, this is true, yet one might suggest that a consumer savvy enough to make an FSA election is more keenly aware of the value of those dollars than a non-participant. For taxpayers in any bracket, any dollar they can keep away from their rich uncle in Washington is a prized dollar.
FSAs out for over-the-counter
The populist rhetoric just doesn't add up. Nevertheless, those who despise these simple, helpful plans (and who also don't care for HSAs -- but that's another story for another time), the health care bill gives them their opportunity and they are going to take full advantage. I suspect that for some, increasing tax revenue is just the frosting, not the cake.
If you can get past the limitation in total dollar amount -- indexed for inflation or not -- you find the more confounding FSA changes in the bill itself. If you haven't had the fortitude to get through the whole bill, skip ahead to page 1,997 and you'll find Section 9003, "Distributions for Medicine Qualified Only If For Prescribed Drug Or Insulin." Subsection "C" amends Section 106 of the Internal Revenue Code of 1986. It reads, "For purposes of this section and section 105, reimbursement for expenses incurred for a medicine or a drug shall be treated as a reimbursement for medical expenses only if such medicine or drug is a prescribed drug (determined without regard to whether such drug is available without a prescription) or is insulin."
In non-legislative speak, this means that (beginning in 2011) you will not be able to use your FSA to pay for over-the-counter medications. Other than the misplaced hysteria about consumers being unable to use their money wisely (yeah, the government has shown that they are much better stewards of our money, haven't they?), this change seems a bit more opaque than the total dollar limit in the Mark. Why would the government want you to use your pre-tax money to buy prescription elephants when over-the-counter elephants are cheaper and as effective?
I guess that after more than a year of this legislative insanity, I've become a bit cynical, but there are considerations of both the practical and political varieties that spring to mind. First, it should be clear to everyone at this point that the Congress is interested in doing away with private insurance companies. It matters not whether they use the guillotine or death by a thousand cuts; they just want the insurers gone.
Prohibiting the purchase of over-the-counter drugs with FSA dollars will put an interesting strain on insureds. Since so many popular drugs have gone over-the-counter in recent years, most insurers have changed their plans to either remove the prescription variety of the drug from their formularies, or to require "step therapy," where the insured must start by using the over-the-counter drug and, with medical advice, ultimately move to the prescription drug only if medically necessary. I can imagine a great deal of pressure on carriers to change their formularies so that insureds can succumb to the siren call of those pre-tax FSA dollars. I cannot imagine carriers changing their positions on this. We'll see.
A "rock-solid deal"
The political consideration may be the realization that this is a tip of the hat from government to the pharmaceutical industry. You'll recall that former Louisiana Representative Billy Tauzin, now serving as the President of the Pharmaceutical Research and Manufacturer's Association of America (PhRMA) was the first one through the doors when the White House began its quest to make allies of the traditional health care reform foes. Tauzin was quoted (The New York Times, Aug. 6, 2009) as saying, "We were assured: 'We need somebody to come in first. If you come in first, you will have a rock-solid deal.'" This was later confirmed by Deputy White House Chief of Staff Jim Messina.
Though some specifics of the deal have leaked out, neither the White House nor PhRMA wants to spend too much time talking about the details. Ken Johnson, PhRMA's senior vice president, told the Huffington Post, "All of these reports as to what's in the agreement and what's not detract from the more important goal of making sure every American has access to high quality and affordable health care and services."
Could it be that one of those items they'd prefer not to discuss is that they make a great deal more money on prescription drugs than on their over-the-counter variants and they, too, know about the elephant buying habits of Americans with tax-advantaged dollars in their FSAs?
Of course not. That would violate the "unprecedented transparency" we were promised.
David Saltzman, RHU, DIA, is a past president of NAHU and has been a health, disability, life and employee benefits broker for more than 25 years. He is director of the large group segment for Carolina Care Plan. Readers may write to him at Carolina Care Plan Inc., 201 Executive Center Drive, Columbia, SC 29210.
