As a preface, let me say that I support anything that is a viable way to strengthen and expand private employee health coverage. Any system should make sense legally, economically...and be humane for workers. So, my comments are not against good intentions. I merely want us to avoid deluding ourselves with unrealistic fantasies. So, please don't shoot the messenger who is merely trying to be a voice of practical reality.
IMPORTANT: The terms & concepts of "defined contribution", "individual responsibility", etc. have many and vastly-different meanings to different people. So, not all of the factors mentioned below necessarily apply to all variations of things people call "defined contribution". Most turnout to be hybrids of traditional & "defined contribution" concepts. THEREFORE, this simply re-emphasizes that what you might see or hear often is not what you think the words mean, and the person telling you may not understand your legal position & responsibility. Thus, for your safety, all assumptions on which the concept are based (rollovers, build up savings, services to support the concept, etc.)...and applicability of various laws need to be absolutely positively verified before proceeding.
Here's the fantasy scenario driving Defined Contribution (also known
as Individual Choice, Individual Responsibility and various other names):
Employers contribute a set amount of money to a fund.
(1). That employer contribution will be predictable and will avoid the steep
rises in medical costs. So, employers assume they'll save big money.
(2). Employers assume they get to wash their hands of most or all benefit administration
responsibilities.
(3). Workers are "free" to use that money to select whatever kind of health
coverage best fits their needs.
(4). Because employees have an actual or psychological feeling of ownership,
they will be very savvy consumers, and use the money & benefits frugally, with
the hope of getting to keep or build up the leftover for later use. They will
also never fall victim to medical fraud, waste or abuse, and they'll always
get discounts.
(5). All sides live happily ever after. Nice dream!
However, reality...legal, economic, and psychological...are very different. That's why Medical Savings Accounts (MSAs), which used to be described with the same wishful thinking, have flopped miserably. (MSAs even had some important changes in law to smooth the way for them.)
Psychology & Economics: Americans like to talk about being rugged independent individualists. However, it is well-proven that we actually want and expect womb-to-tomb protection from someone else. It shows up in the ever-increasing government services & protections demanded by voters, and it shows in the way people make decisions regarding retirement. We talk big, but we want someone else to be responsible, take the risk, and take care of us.
The MSA experience also proved that the infra-structure services & economics never arose enough to support or encourage the market for such plans. Insurers, banks, credit cards, doctors, hospitals, etc., which MSA proponents assumed would be eager vendors to an economically-attractive market, never really evolved. (Ironically, some of the early MSA supporters were the infra-structure entities who faded away when the law was passed and they examined reality.) So, MSAs (with many of the assumptions now being attributed to Defined Contribution) was an immediate double flop, (a flop in customer appeal and a flop with necessary service suppliers) despite some excellent work by many people who wanted them to be a success.
Let's look at some of the individual pieces of the fantasy:
"Employers get to save money and pay less." This is either na•ve or hard-hearted. If medical costs for employees and their families are rising and you're paying less, it still adds up to costing the employee more after-tax dollars to protect his family. Furthermore, a price of individualism & "freedom" is that the employee will lose many of the efficiencies, savings, oversight, and protections of being in a well-administered group plan. So, yes, employers can save money, but please don't pass this off as something positive for workers,...and be prepared for demands for higher salaries by workers to pay for the higher after-tax costs of "choice".
Ironically, this will cost employers a lot more than the current system. Why? Employer payments for health benefits are free from state, local & federal taxes, as well as FICA, WC, unemployment and the many other add-ons that can leach away as much as 50% of a salary dollar. So, instead of paying $ X for a tax-free health benefit plan, you'll be paying $ X + as much as 50% more in taxes to achieve the same useable (after-tax) amount for your employees. If not, your best employees will be lured by someone who does see the full economic equation.
What do you do about your older or sick or worried employees....and those (probably most) who live from paycheck to paycheck? All these "individual responsibility" concepts are great for the healthy and the wealthy. However, the elderly, plus people with current or increasing ailments, plus those on tight budgets (including your senior executives paying college tuitions) need depth of coverage, probably at a cost to them less than they will end up using from the plan. The whole concept of "insurance" (self-funding or insurance company) is spreading the risk. If the healthy & wealthy bail out to take advantage of the Defined Contribution option, what happens to the rest? It is called "anti-selection", which is a fancy word for saying that it will get more and more expensive as only the sicker and sicker stay in. Will employers be loyal to their workers and keep the old plan going (even though going to Defined Contribution created a fatal cancer in the economic viability of the old plan)? Will the old, sick, and people on tight budgets simply be told that they have $X and the "freedom" to buy whatever coverage they want? They will have a terrible time finding such coverage and (for the same anti-selection reasons) it will be horribly expensive for decent coverage. This is why most "Defined Contribution" schemes are actually hybrids including retention of or back-up by a traditional plan, so the employer actually finds himself with more than one arrangement to juggle.
So, the moral of the story about employers "saving money" is that it is possible, but the price is a terrible blow to employees, generating morale problems, and many workers (the smartest, who see what is happening) seeking jobs elsewhere. So, this fails my critera for economics and being humane...and some fail the viability criteria.
There's no question that Uncle Sam & states have made employee benefits a massive administrative headache. (Taxes and just about everything else have undergone the same fate.) Some employers considering Defined Contribution think they'll be miraculously relieved of the hassles. Nope! Most of the laws & requirements still apply...possibly in multiples, if the arrangement is deemed as sponsoring several "plans". Some employers say they'll side-step the administration & plan responsibility. Well, the more you step away, the more IRS can argue to deny you a business deduction for every penny paid for the benefits. (How can you take deductions for payment to a "plan" if you say you don't have a "plan"?)
On the subject of legal/regulatory considerations, let me highlight a few of the types of technicalities that demonstrate that the assumptions under-pinning the dream of Defined Contribution are not realistic under existing law. (Obviously, what laws, regulations, and impact will vary by each different design of an arrangement. The intent is not to nit-pick, but to show that many of the dreams & assumptions would not be able to come to fruition.)
Wishful assumption 1: Employees will be better and more frugal consumers of health services because any savings go into their personal health saving account (HSA), and roll-over for later use...possibly even for things not strictly medical. It might be a non-tax-deductible medical use such as face-lifts...or a "cash out" for completely non-medical use.
Wishful assumption 2: A departing or retiring worker can take any accumulated amounts in his health care spending account (HSA) with him and use it later.
REALITY: There is a collision with sections 105, 106 and 125 of the Internal Revenue Code (the primary tax basis for employee benefit plans). Any money "cashed out" (one of the dreams often mentioned in connection with these kinds of plans) or used for costs other than IRS-approved medical care is taxable as salary income, and employers pay FICA, WC, etc.. Sections 105 & 106 were not written to include any concept of money given by an employer as a tax deductible contribution for approved medical care becoming a revenue source for the employee. However, the spirit of Section 105 & 106 are definitely against this idea.
Section 125 might give false hope. A Defined Contribution health spending account (HSA) might be able to fit the definition of a health Flexible Spending Account (FSA). OK, but under FSA, carry-overs, and reimbursement for premiums paid, may not be made. Similarly, Section 125 prohibits cafeteria plans from offering any benefit that defers receipt of compensation from cafeteria plans funded by pre-tax employee contributions.
So, there are all sorts potential pitfalls for the employer and for pre-tax amounts contributed by the employee. The impacts & prohibitions will vary with various aspects of how plans are designed. However, the key point is that the goal of getting to use money contributed (with tax incentives) intended only for approved health care for anything else is contrary to the basis of tax policy. So this is not a situation of needing just a few minor technical changes or easy loopholes.