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Small firms will once again face double-digit medical insurance premium increases. In 2004, employer-sponsored health insurance premiums increased an average of 11.2 percent. Most firms use 4 to 7 percent of their total payroll costs to provide medical coverage as part of a total package of employee compensation. Controlling that cost is becoming onerous. Although shifting the costs to employees through increased premium sharing, higher deductibles and co-pays is a major trend being followed by most law firms to alleviate seemingly out of control premium hikes, but doing so runs the risk of increased employee dissatisfaction and its subsequent deleterious effect on business efficiencies. What’s going on, and what can small firms do to ameliorate the effects of a health care insurance system whose escalating costs show no sign of slowing? THE BAD NEWS The Henry J. Kaiser Family Foundation’s annual survey of employer health benefits for 2004 cites some startling statistics. 2004 was the fourth straight year of double-digit premium increases, and since 2000 premiums for family health coverage have increased by 59 percent. The survey projects premium increases to continue at double-digit or near double-digit rates for the foreseeable future. As a logical response, many small businesses have simply dropped coverage. The Kaiser survey cites statistics showing a 5 percent decline since 2001 in small businesses offering coverage at all (currently 63 percent, down from 68 percent in 2001). The small businesses that retain coverage report that, on average, 80 percent of covered employees make contributions of 16 percent of the total premium for single coverage; over 90 percent of employees make contributions of 28 percent or more of the total premium for family coverage. Small firms tend to contribute far less for family coverage than do their larger counterparts, but on average, a much higher percentage of law firms (over 90 percent) tend to offer coverage to its employees. This is due primarily to the highly competitive nature of professional staffing, the mix of professional and non-professional personnel, and the high cash flow characteristics of multiple-lawyer law firms. HOW WE GOT HERE Americans have become accustomed to receiving their health insurance from their employers as part of their compensation, and employers have happily complied. But a number of emerging trends have begun to force an unraveling of this implied contract, causing employers the annual anguish of answering the question: To insure or not to insure? Among these trends are: � the cost of advanced medical technology and general medical industry inflation � the demand created by advanced prescription drug therapies (estimated to be 18 percent of the cost of premium increases over the last 10 years) � the medical profession’s response to an aging population — more expensive specialists, fewer modest-fee generalists � the so-called malpractice crisis — greater liability insurance costs for all doctors and the passing along of the additional costs to medical consumers � the Managed Care backlash — fewer providers seeking higher fees � consolidation of insurers and medical professionals into fewer plans and group practices � government mandates and regulations CONSUMER RE-TRAINING Many experts believe that the only reasonable response to the health care insurance crisis — and the only one that might impose a measure of restraint on an out of control market — is the introduction of so-called Consumer-Driven Health Plans, which require employees to become more savvy and judicious users of medical services. With a direct financial interest in their health insurance, consumers will seek out the most competitive rates from providers and the increased competition will likely have the effect of forcing the market-place to “behave.” Employees who are responsible for a larger portion of the cost of health care are setting the stage for the emergence and acceptance of high deductible policies coupled with tax advantaged accounts — Health Savings Accounts. Already, as evidenced by the Kaiser survey, a small but growing number of employers have indicated interest in moving to this kind of coverage over the next few years. MORE ABOUT HSAs HSAs are 401k-like accounts that allow individuals to contribute tax-deferred monies equal to the yearly deductible amount of the high-deductible health insurance plan that must be in place at the account’s inception. (For 2004 contributions must be the lesser of the deductible amount or $2,600 for an individual and $5,150 for a family). The high deductible insurance plan must have a deductible of no less than $1,000 for individuals or $2,000 for families. Premiums on these policies are substantially less expensive than typical PPO or HMO policies — savings on premiums of 40 to 60 percent are the norm. These health policies are designed to meet catastrophic medical expenses, and medical payments from the policy do not kick in until the high deductible is met. HSAs were created to provide an incentive (in the form of a tax advantage) to use these policies by helping to finance the lower-cost medical expenses that fall below the deductible. The tax-deferred monies contributed to this account can be withdrawn to pay a long list of medical (and dental) expenses including deductibles, however, an HSA is not an annual “use it or lose it” plan — account monies can be rolled over yearly, until age 65, leaving the contributions in the account to grow tax-free, using standard investment instruments. Employees own the account even if they leave their job and can even use contributed amounts to finance premiums on COBRA accounts after a termination. With HSAs, firms continue to pay tax-deductible premiums, but at a substantially lower cost. Employee and employer can contribute pre-tax dollars to a vested investment account — with the option to use those dollars tax-free to pay medical expenses up to the deductible. In the alternative, the account can be used as a retirement vehicle by accruing and investing, tax-deferred, any unused amounts. (Accrued amounts can be withdrawn no earlier than age 65 and are taxed at the individual’s then-current tax rate.) So, what’s not to like? Partners or employees with substantial health problems or with young families, lower wage employees who can’t afford to contribute to their HSA all will be disadvantaged by participation in a high deductible policy and HSAs because their personal costs will outweigh any savings potential. But firms can still realize savings by maintaining both a standard policy and a high deductible policy to accommodate each group. Because some insurers will not allow two types of polices (especially with lower census groups), firms can still benefit by establishing a high deductible policy and HSA accounts. Under the rules, firms can contribute tax-deductible amounts into individual accounts on behalf of employees. Even with these contributions, firms can still realize overall savings, given the substantial reduction in premium costs. WHAT CAN SMALL FIRMS DO? These are just some of the many ways that small firms can control their health insurance costs: � Find a broker with access to multiple markets, stick with that broker and shop annually. Insurers are constantly jockeying for market share — take advantage of their fear of losing your business. � If you are happy with your current plan or fear any move will upset too many of your employees (or your partners), think about increasing deductibles or co-pays. This will have a direct effect on your premium. You’ll have some selling to do to your employees, but it’s a good time to involve them and educate them about the reality of the health insurance marketplace — the high costs aren’t going away anytime soon. � Establish premium sharing — ask your employees to contribute 10 to 15 percent of the premium. Make it easier for them by setting up a Section 125 plan, a so-called Cafeteria Plan. Some of the pain of their additional expense can be mitigated by providing this vehicle through which employees can pay their share of premiums with pre-tax dollars, lowering their marginal tax rate and putting a few extra dollars in their pocket. The firm benefits further by avoiding its share of the payroll tax on the sheltered dollars. � Look for “Health Management” or “Wellness” programs to couple with your plan — premium discounts are often given when these programs are implemented. � Set up an HSA program. With the passage of the Medicare prescription-drug coverage bill President Bush signed in December 2003, law firm owners can now set up Health Savings Accounts (HSAs) together with high deductible insurance plans to reap substantial cost reductions. Additionally, HSAs act as generous tax shelters for both employee and employer. Michael Koehne is a principal of Law Firm Management Services, San Francisco. He can be reached at [email protected] Read Koehn’s bio.

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