By: A.J. Cook


One of the hottest opportunities in taxes and retirement planning today is the new Medical Savings Account.

These tax-exempt custodial accounts sizzle with advantages for the self-employed and small businesses. The program provides tax incentives to buy high deductible health insurance while maintaining a fund for routine costs.

MSAs have these tax advantages:

• Contributions are completely deductible. If made by an individual, they are deductible from adjusted gross income. If made by an employer, they are deductible and nontaxable to employees.
  
• Withdrawals for medical expenses, which includes dental fees, eye glasses, hearing aids and even parking at the doctor's office, are paid with pretax dollars.
  
• Account income accumulates tax-deferred and if used for medical expenses is never taxed.
  

The program applies to workers, but not all workers are eligible. And the rules differ for employees and the self-employed.

• Employees must be covered under high deductible health insurance sponsored by a small employer -- one with 50 employees or less.
  
• Self-employed people, however, can buy high deductible policies for themselves -- so a sole proprietor or a partner can have a single-person plan. For example, Mary Beth is a partner in the MB partnership with two partners and 60 employees. First, assume the partnership has no health plan. Mary Beth can purchase a policy for herself and make contributions to her MSA. On the other hand, if the partnership has a high deductible policy and no other health plan, she can contribute to an MSA for herself without buying a policy.
  

For a policy to qualify as high deductible, it can cover only medical expenses for the year exceeding a certain amount.

If the number of participants is a single person, the policy covers expenses in excess of $1,500 (this can go up to $2,250). For a family of two or more, the policy covers expenses only in excess of $3,000 (this can go up to $4,500).

The participant cannot be covered by any other health policy except one covering accidents, disability, dental care or long-term care.

Like Individual Retirement Accounts, participants don't need a form or authorization from the Internal Revenue Service to establish an MSA. And like an IRA, the account must be held by a qualified custodian such as an insurance company, bank or other financial institution.

PLANNING TIP: The high deductible policies, according to insurance companies, sell for up to 60% less than traditional policies. After paying for minor medical expenses out of the savings, you can set aside any left over money for future retirement.

As a general rule, MSAs work best if you are in good health and not operating under a tight budget. For a small business with limited funds, they offer an opportunity to at least furnish some health benefits to employees.

In certain locations, you might have trouble finding an institution that accepts MSA funds. Most banks and brokerage firms don't seem interested, but several health insurance companies actively solicit the business. Don't give up looking for a custodian; this could mean funds for a more comfortable retirement in years to come.


A.J. Cook is a lawyer and CPA. His tax column appears weekly in numerous newspapers. Why isn't it published in your hometown newspaper? Ask its Business Editor to subscribe.

Copyright © 1987-2001 A.J. Cook All Rights Reserved
This information is not intended for use without professional advise.
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Released 6-16-97