The John Robinson Group

Member of the Trusted Advisor Network

Determining a more tax efficient solution for employee benefits

aIn today's marketplace, employers are faced with skyrocketing costs for employee benefits. On average, we see premium increases of 15% per year. According to the insurance carriers, this is due to cutbacks in our provincial health care system along with increasing prescription and dental fees, which in turn result in higher group insurance claims by employees. An average increase of 15% will cause premiums to double every five years.

Is There Any End In Sight?

Frankly, we do not see any conclusion other than higher and higher premiums for employers with traditional group insurance plans. When employers really examine the various benefits offered to their employees (life insurance, A.D&.D, long term disability, extended health & dental) half of them, namely extended health and dental, are not really insurance at all. In fact, upon closer examination we know 65-70% of the overall premium is paid for just these two benefits alone. Extended health and dental benefits are really just an amortization of the premium. Upon inspection of the average employee benefit plan you'll find annual limits, co-insurance of 80/20% or 50/50%, deductibles, exclusions and so on. The insurance carriers know on average how much will be claimed on an annual basis by a single person or a family of four. The insurance carriers simply add their profit margin and average it out. In truth, dental and extended health benefits are not really insurance at all but rather a return of a portion of premiums paid.

Where It Really Gets Interesting

You can force your insurance carrier to provide what is known as a 'claims ratio'. In other words, a survey of premiums paid by the employer vs. the claims reimbursed to the employees over the last few years. Simple arithmetic will yield the difference and it stays with the insurance carrier. Most insurance carriers actuarially project a claims ratio of about 65%. In other words, for every $1.00 of premium paid out by an employer, the insurance carrier keeps at least $0.35. Fasten your seatbelt if you encounter a year with higher than normal claims. This will result in a substantial increase in premium well beyond the 15% average increase for the employer at the next annual renewal and if costs are shared, for the employees as well. Employers are left with only two choices, pay the increased costs or reduce the benefits offered.

Is There a Better Solution?

Yes! Remove the two most expensive benefits (extended health & dental) and set up a Health & Welfare Trust instead. Should the employer decide to keep some of the other benefits like life insurance and long term disability, most insurers will offer them on a stand alone basis. When this is done several advantages occur. Once the insurance company is removed from the picture there is an automatic increase of about 30-40% (depending on size) which can now be used to pay extended health and dental expenses claimed through the Health & Welfare Trust. The employers enjoy immediate cost control and will not be faced with future annual premium increases forced upon them by their insurance carrier. The employer is now only obligated to contribute a fixed annual limit per employee which is usually very similar to the previous group insurance cost. If the annual limit is not utilized by the employee it is simply carried forward and used for next year's claims. The employee now has a set annual spending limit with a dramatically increased list of claimable expenses, with no co-insurance, exclusions or deductibles. In fact, the list of qualified expenses is 36-pages long; refer to CRA's Interpretation Bulletin IT519R2.

Who Benefits Most from a Health & Welfare Trust?

The Corporation

The company gets immediate cost control and will avoid the annual letter at renewal time issuing a 15% increase. Once an annual contribution to the Trust is agreed upon, the company is not obligated to increase this amount. Most Trusts run a surplus after the first year; this leaves the company in control, but with an interesting decision. Does the company then reduce its contribution in year two or would it like to reward employees by carrying forward unused benefits amounts? The company chooses.

As the company owns the Health & Welfare Trust it makes all the rules. They can structure different classes of benefits with different annual allotments.

Example

Class A: Owner/Shareholder	No annual limit
Class B: Senior Management	$4,000 per year
Class C: Long Term Employees	$2,000 per year
Class D: New Employees > two years	$1,500 per year

Alternatively the company can make any rules to suit its desired purposes, i.e.; to prevent employee turnover or to encourage tenure. Further, you have the flexibility to reward senior employees in the case where they had an extremely high year of expenses, i.e.; braces. Rather than the senior employee paying with after-tax dollars, simply reduce salary by amount needed for procedure and contribute to Health & Welfare Trust. This is now NON-taxable to employee and they can spend 100% (minus fee).

Owners/Shareholders

Generally, we recommend that owners are set up with no limit. The logic here is that if the owner is going to spend the money anyways on various procedures, it should be deductible to the company and non-taxable to the owner/shareholder. You don't have to think about this too long before you realize that this is simply a way for the owner/shareholder to legitimately spend the company's funds without tax being paid. As mentioned, the list of qualified expenses is 36-pages long (IT519R2), see previous page for partial list.

Employees

Health & Welfare Trust benefits are non-taxable to employees. Unlike group insurance, there are no deductibles or co-insurance, i.e. 80/20 or 50/50 on dental. Health & Welfare Trusts pay 100% of expenses up to your annual spending limit. Think of the Health & Welfare Trust as your family's "health spending account" and spend it wisely.

Again unlike a group plan, you are free to use your entire spending limit on one item or procedure, whereas group plans usually have many restrictions and limits for each category. Now you can customize your spending to your family's particular needs.

Money Flow

Employers will contribute funds to the company's Health & Welfare Trust. You will have access to a pre-determined annual spending amount which is non-taxable to you. When you go to the dentist, just pay for the procedure yourself and receive a receipt. Simply submit a claim form with receipt and the Trustee will Electronic Fund Transfer (EFT) within 3-4 business days. Note that paper cheques take longer.

For employees who may have a spouse who is covered by a traditional group insurance plan, you are in great shape. Example: Crowns (major restorations) are covered on most plans 50/50. Submit your claim on your spouse's group plan first and receive 50% reimbursement, then claim the other 50% from your health spending account. In short, a Health & Welfare Trust is a more flexible way to manage your family's healthcare needs.

What Are The Costs?

Most trustees have a one-time set-up fee of $200 to $350. Claims are adjudicated for a 10% administration fee plus GST on the administration fee only, (i.e.; $1,000 claim + $100 fee + $7 GST = $1,107 total deducted from the trust account). Compare this with the 30-40% your insurance company retains as their profit margin on extended health & dental benefits and you are already ahead. Trustees provide a fairly detailed statement of account activity to the employer's administrator. However, new privacy legislation will not allow an employer access to specific details on each employee claim such as the type of drug or service, but rather only a dollar amount. We find once a Health & Welfare Trust is set up it runs very smoothly at a fraction of the cost of traditional group insurance.

Why Haven't Health & Welfare Trusts Become More Popular?

Our experience shows there are three reasons. First, group insurance brokers have NOT embraced Health & Welfare Trusts because it means getting rid of some or all of the insurance benefits and when the insurance goes so does the broker's compensation.

Secondly, it really does take a few moments to get your mind around the differences between traditional group insurance and a Health & Welfare Trust. We often see most accountants and comptrollers taking the default position and opting for traditional group insurance because it is simple and easy to understand.

Finally, Health & Welfare Trusts have been ignored either out of complacency or accountants just do not know where to send their clients to get one. However, a number of accountants are slowly becoming aware of this tax-effective and cost saving vehicle for their more progressive clients. To answer a lot of the frequently asked questions and offer accountants specific tax and case studies, we have set up a website www.trustedadvisor.ca (under Health & Welfare Trust).

Transition to a Health & Welfare Trust and Risks

If a traditional group plan is already in place, we recommend a 60-day transition period before cancelling the group plan and switching over to a Health & Welfare Trust. During this time, we strongly encourage all employees and their dependents to visit the dentist, refill prescriptions and claim these expenses from the group plan so the Health & Welfare Trust is not hit initially with a wall of claims. We will provide you with a sample memo for company-wide distribution to notify employees.

Catastrophic events occasionally occur, i.e.; cancer or travel accident. We recommend (not required) that each employer install a very cost effective Stop Loss / Travel Medical plan that covers employees up to $1,000,000 in the event of catastrophe. See plan highlights and costs on page 7.

The Final Analysis

With a little retooling, a business owner can achieve massive advantages for his company and employees. Rules can be set up to reduce employee turnover, prevent employee prosthelytization by competitors and give valued employees non-taxable raises. In the end, a Health & Welfare Trust lets everyone win except the insurance companies and CRA.

John Robinson, CFP is senior advisor with The Robinson Group Inc. and a member of the Trusted Advisor™ Network in Vancouver, BC. John's practice specializes in tax driven risk management tools for the business owner. For more information, contact June Borlé at (604) 874-4429 or toll-free at (888) 880-2266 or visit the Trusted Advisor™ website at www.trustedadvisor.ca.