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Updated May 23, 2015.
A health reimbursement arrangement is a program set up by your employer to offset your health care costs. A health reimbursement arrangement makes getting health insurance and health care less expensive for you because part of the money you spend comes from your employer. An HRA also saves you money because you don’t pay income taxes on it.
Notice that HRA stands for health reimbursement arrangement, not health reimbursement account.
Your HRA is literally an arrangement between you and your employer, created so that your employer can reimburse you for health care expenses.
How Does a Health Reimbursement Arrangement Work?
Your employer sets up your HRA and sets usage guidelines for the money in it. When you have a health care expense that meets those guidelines, you’re reimbursed by your HRA for that expense.
The HRA money comes from your employer. Unlike a Health Savings Account or Flexible Spending Arrangement that you can contribute funds to yourself, you’re not allowed to put money into your HRA yourself. All of the HRA funds come directly from your employer. There’s no limit to the amount of money your employer is allowed to contribute to your HRA.
Tax benefits come from the fact that the money your employer puts into your HRA isn’t included in your income. Neither do you pay income taxes on any of the funds coming out of your HRA to reimburse you for health care expenses as long as the money was used for a qualifying medical expense as defined by the IRS.
Examples of How an HRA Works
There are many different ways your employer might structure your reimbursement arrangement. These examples will give you an idea of how an HRA can work, but yours might work somewhat differently. As long as your employer stays within federal HRA guidelines, it has flexibility as to how it structures the specifics of your reimbursement arrangement. Your employee benefits department should be able to tell you exactly how your particular HRA is structured.
Example 1: Let’s say that every year, your employer commits $2,000 to your HRA. Your employer also provides employee health insurance with an annual deductible of $2,500. This year, you get appendicitis and have to have surgery. The surgery and hospitalization is expensive; you have to pay the entire $2,500 health insurance deductible.
However, you claim the deductible as an eligible medical expense, requesting reimbursement from your HRA. Two weeks later, you receive a reimbursement check from your HRA for $2,000 of that $2,500 deductible. In effect, the HRA makes it seem as though your deductible was only $500 because you got reimbursed for the rest of it.
You save money in income taxes. Since the $2,000 reimbursement was for an IRS-qualified medical expense, you don’t have to pay income taxes on it. You also save money because part of your deductible is reimbursed. Your employer saves money on employee health insurance premiums by buying cheaper, high-deductible health insurance for its employees. Even though they have a high deductible, employees are happy with their employer-provided health plan because the HRA reimburses them for most of that deductible.
Example 2: Your employer allocates $2,000 per year to your HRA as well as providing group health insurance with a deductible of $2,500. In year one, you're healthy all year and don't have any reimbursable medical expenses. Your employer credits the unspent $2,000 toward your year-two reimbursable medical expenses. In year two, your employer also allocates $2,000 to your HRA. You now have $4,000 allocated to your HRA.
In year two, you get appendicitis and have to have surgery. You have to pay the entire $2,500 deductible, plus you owe $1,000 in coinsurance. Your HRA reimburses you for all $3,500 of your hospitalization expenses. You have $500 remaining in your HRA for later use.
Arrangement Vs Account
If you’re familiar with health savings accounts or flexible spending arrangements, you may be tempted to think of your HRA as an account with money sitting in it waiting for you to incur medical expenses. This may or may not be the case.
Technically, an HRA is an arrangement, not an account. Some employers might choose to put the promised funds into an account at the beginning of each year. However, some employers choose to wait until you request reimbursement for a qualified medical expense before actually producing the funds promised by the reimbursement arrangement.
HRA Changes Due to the Affordable Care Act
Prior to 2014 implementation of the Affordable Care Act, employers that didn't provide employee health insurance sometimes used an HRA to reimburse employees for premiums paid for individual health insurance. While the IRS still considers health insurance premiums to be an HRA-eligible expense, few employers allow HRA reimbursement for individual health insurance premiums any more. Most HRAs are now associated with some sort of group health insurance plan.
Why? HRAs themselves are considered to be a type of group health plan. As such, an HRA must comply with the ACA's prohibition against annual or lifetime caps on benefit amounts. Most employers feel stand-alone HRAs (HRAs not used in conjunction with a group health plan) used to reimburse individual health insurance premiums don't comply with the ACA's prohibition against annual or lifetime caps on benefits.
Sources:
IRS Notice 2013-54,
IRS Publication 969,
IRS Publication 502.
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