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What is an HRA and how does it work?

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Ryan Kennelly
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For many businesses, traditional group health insurance isn’t a solution. It’s too expensive, too complex, and too one-size-fits-all to fit the needs of the business and its employees.

A health reimbursement arrangement (HRA) is a great alternative. Instead of choosing one expensive policy for all employees, businesses with an HRA offer a monthly allowance of tax-advantaged money. Employees buy the health care products and services they want, and the business reimburses them up to their allowance amount.

With an HRA, businesses have complete control over their health benefits budget, and employees are free to make the purchases that best fit their needs. As HRAs grow in popularity and availability, more and more businesses are turning to this health benefits alternative to help hire and keep talented employees.

In this resource, we’ll cover everything you need to know about HRAs, including:

  • HRA definitions
  • The history of HRAs
  • How HRAs work
  • The HRAs available in 2019
  • How different HRAs compare
  • Which businesses can offer an HRA
  • How businesses set up and manage HRAs

Let’s dive in.

 

What is an HRA?

A health reimbursement arrangement (HRA) is an IRS-approved, employer-funded, account-based health benefit used to reimburse employees for out-of-pocket medical expenses and personal health insurance premiums.

With an HRA, the business sets a monthly allowance for each employee. Employees make health care purchases, potentially including health insurance, and submit proof of those expenses to the business. The business reviews the documents and, if everything is in order, reimburses employees up to their allowance amount.

HRA reimbursements are always tax-free to the business and, depending on the type of HRA and individual employee circumstances, may be tax-free for employees too.

Where did HRAs come from?

Though they’ve evolved many times, HRAs aren’t new.

When the price of group health insurance began to rise in the 1960s, businesses and lawmakers began experimenting with innovations to ease the pressure. In 1974, Congress introduced HRAs through the Employee Retirement Income Security Act (ERISA).

The first HRA was the group-coverage HRA. With a group-coverage HRA, businesses could offer both a group health insurance policy and an HRA. Many businesses used the HRA to ease the pain of choosing a lower-cost, high-deductible group policy; they gave employees allowance amounts equal to the deductible or reimbursed employees for items not covered under the group policy.

In the early 2000s, HRAs evolved to become a stand-alone benefit. At their height, stand-alone HRAs could be integrated with both group and individual coverage and businesses could offer unlimited allowance amounts. Businesses could also offer different allowance amounts to different employees dependent on job-based criteria, like an employee’s title.

HRAs were significantly limited by IRS interpretation of the Affordable Care Act in 2013. Following the release of IRS Notice 2013-54, only three HRAs were available: the group-coverage HRA, a stand-alone HRA set up for one person, and an HRA set up for retirees.

In 2016, Congress created a new HRA with the passage of the 21st Century Cures Act: the qualified small employer HRA (QSEHRA). With the QSEHRA, small businesses with fewer than 50 employees could offer an HRA governed by new rules specified in the legislation.

HRAs continue to expand and, in 2020, two new HRAs will be available: the individual-coverage HRA (ICHRA) and the excepted-benefit HRA. These HRAs will be available to businesses of all sizes, and will in some ways more closely resemble the stand-alone HRAs of the past.

1950s

1954: Section 105 was added to the Internal Revenue Code (IRC). IRC Section 105 allows an employer to offer a plan to reimburse employees' qualified medical expenses, including insurance premiums. Under section 105, amounts received are excluded from employees' income.

1960s

1961: Revenue Ruling 61-146 was issued allowing an employer to pay for or reimburse an employee’s medical expenses tax-free, under IRC Section 106. Revenue Ruling 61-146 set the stage for Employer Payment Plans, where an employer pays directly or reimburses directly for health insurance premiums.

1970s

1974: ERISA was established. ERISA implemented fair and equal treatment requirements for employee benefit plans, including the requirement for formal plan documents. Today, all formal health insurance reimbursement plans must comply with ERISA laws.

1990s

1996: HIPAA Privacy Law was established. HIPAA protects employees’ medically private health information. Today, all formal health insurance reimbursement plans must comply with HIPAA privacy rules.

2000s

2002: The IRS issued Notice 2002-45 which confirmed an employer can offer a plan to reimburse employees’ qualified medical expenses, including insurance premiums. The Notice provided rules and guidance for Health Reimbursement Arrangements (HRAs) including the tax treatment, benefits, and coverage under an HRA.

2010s

2010: The ACA was signed into law. Among other things, the ACA requires group health plans (including health insurance reimbursement plans) to comply with new requirements effective 2014.

2013: The IRS released IRS Notice 2013-54, which limited compliant HRAs to the group-coverage HRA, the one-person stand-alone HRA, and the retiree HRA.

2016: Congress passed the 21st Century Cures Act, which created the qualified small employer HRA (QSEHRA) for small businesses with fewer than 50 employees.

2018: The Health Reimbursement Arrangements and Other Account-Based Group Health Plans (REG-136724-17) proposed the creation of the individual-coverage HRA (ICHRA) and the excepted-benefit HRA.

2020s

2020: The ICHRA and excepted-benefit HRA become available and compliant.

 

How does an HRA work?

Each HRA has unique features, but all follow the same basic structure.

For more detailed instructions, see the next two sections: “What kinds of HRAs are available in 2019?” and “How do these HRAs compare with each other?”

 

allowance-icon
The business sets an allowance amount for employees.

The business must decide how much tax-free money it will offer employees every month. This represents the maximum amount businesses will reimburse the employee for health care.

purchase-icon
Employees purchase health care.

Employees choose the health care products and services they want and purchase them with their own money. You can find a full list of eligible expenses in IRS Publication 502, though the business are allowed to limit these items according to their preference.

submit-icon
Employees submit proof that they incurred an expense.

To receive reimbursement, employees must submit proof that they incurred an eligible expense.

reimburse-icon
The business reviews employee documentation and reimburses employees.

To be approved, employees’ documentation must show the service or product purchased, the amount incurred, and the date of the service or sale. If these three items are in place and the expense is eligible for reimbursement, the business approves the expense and reimburses the employee up to their allowance amount.

 

What kinds of HRAs are available in 2019?

In 2019, there are four available and compliant HRAs:

  • The QSEHRA. The QSEHRA is available to businesses with fewer than 50 employees that do not offer a group health insurance policy. With a QSEHRA, businesses can offer up to $5,150 for single employees and $10,450 for employees with a family in 2019. Allowance amounts must be the same among all employees, though some differences may be allowed according to the employees’ age and family size.

  • The group-coverage HRA. The group-coverage HRA is available to businesses that also offer a group health insurance policy. Only employees covered by the group policy are eligible for the HRA.

  • The one-person stand-alone HRA. The one-person stand-alone HRA functions like the old stand-alone HRA. It has no allowance amount and no group health insurance requirements. However, its eligibility requirements must be structured so that only one employee can participate.  

  • The retiree HRA. The retiree HRA also functions like the old stand-alone HRA, though it may be offered only to employees in retirement.

As of 2019, Independent Health Agents offers only a QSEHRA for small business benefits.

New regulations from the Departments of the Treasury, Labor, and Health and Human services also establish two new HRAs beginning in 2020: the individual-coverage HRA (ICHRA) and the excepted-benefit HRA.

The ICHRA will be available to businesses of all sizes and functions much like the QSEHRA, though with fewer restrictions. With the ICHRA, there will be no allowance caps and businesses can offer different amounts to different employees based on the following classes:

  • Full-time

  • Part-time

  • Seasonal

  • Employees covered under a collective bargaining agreement

  • Employees in a waiting period

  • Employees under age 25

  • Foreign employees who work abroad

  • Employees in different locations, based on rating areas

  • A combination of two or more of the above

The ICHRA will be available only to employees and their families covered by individual health insurance.

The excepted-benefit HRA, meanwhile, is similar to a group-coverage HRA. It will be available to businesses with group health insurance and allow the company to reimburse employees for out-of-pocket medical expenses. The excepted-benefit HRA will be capped at $1,800 per year per employee in 2020.

How do these HRAs compare with each other?

The four currently compliant HRAs, as well as the two newly available in 2020, are similar in structure. However, there are several logistical and regulatory differences that may mean one HRA is better suited for a business than another.

 

Which businesses can offer an HRA?

Each HRA comes with different business eligibility guidelines.

  • QSEHRA: Businesses must have fewer than 50 full-time employees and cannot offer group health insurance.

  • Group-coverage HRA: Businesses must offer a group health insurance policy.

  • One-person stand-alone HRA: Available to any business.

  • Retiree HRA: Available to any business

  • ICHRA: Available to any business, though businesses cannot also offer an excepted-benefit HRA. They also cannot offer employees in the same class a choice between group coverage and the ICHRA.

  • Excepted-benefit HRA: Businesses must offer a group health insurance policy and cannot also offer an ICHRA.

Generally, all businesses can offer at least one type of HRA to at least some employees.

 

How do businesses set up an HRA?

To start offering an HRA, businesses must follow a seven-step process:

  1. Set HRA rules. These rules include employee eligibility requirements, any employee classes to be used, and which expenses will be eligible for reimbursement.
  2. Choose a start date. This is the date the HRA will begin. Though some businesses choose a start date to coincide with the calendar year, HRAs can begin at any time.
  3. If necessary, cancel the business’s group policy or remove necessary employees. If offering the QSEHRA, businesses must cancel any existing group policy first. With the ICHRA, businesses must ensure employees receiving the ICHRA are no longer eligible for a group policy.
  4. Determine a budget and set allowances. With most HRAs, the business can offer unlimited allowance amounts. With the QSEHRA, though, the business is limited to $429.17 per month for single employees and $870.83 for employees with a family in 2019. With the excepted-benefit HRA, the business is limited to $1,800 per year per employee.
  5. Create and distribute plan documents. The business must establish legal plan documents and make them available to employees. This includes a summary plan description (SPD).
  6. Communicate the new HRA to employees. Businesses should communicate clearly and effectively with employees about how the new HRA works. In some cases, as with the QSEHRA, this communication is required by law.
  7. If necessary, provide resources to help employees purchase individual insurance. For HRAs that support individual coverage, such as the ICHRA and the QSEHRA, businesses should give employees resources for comparing and purchasing personal policies.

 

 

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