ICHRAs vs. 401(k) Plans

What do ICHRAs and 401(k) Plans Have in Common?

The short answer is that they are both defined contribution plans. The Individual Coverage Health Reimbursement Arrangement (ICHRA) is an employer-sponsored defined contribution health plan
whereas a 401(k) is an employer-sponsored defined contribution retirement plan.

Overview of ICHRAs

An ICHRA is a new type of healthcare benefit program that became available as of January 1, 2020. Rather than providing a traditional group health plan to employees, ICHRAs allow employers to reimburse employees (and their dependents) for insurance premiums of health insurance coverage they obtain on their own in the individual market or through Medicare. Employers establish maximum monthly or annual reimbursement limits for each employee which may also allow for the reimbursement of out-of-pocket medical expenses. In other words, employers who sponsor an ICHRA have a really good idea of what their maximum spend on healthcare will be each year.

ICHRAs are different than traditional group health plans offered by many mid-size and large employers. These employers historically have offered employees a self-funded group health plan which is a type of defined benefit plan. Self-funded group health plans promise employees specific benefits, but the actual cost to the employer is based on the overall utilization of healthcare. Employers who sponsor a self-funded group health plan usually rely on historical utilization data to estimate costs for a future plan year, but the actual costs to the employer will be based on the number of office visits, hospitalizations, prescriptions and other medical services their employees need during the year. In other words, employers know the benefit they have to provide to the employees, but they don’t know their actual healthcare costs until the year is over.

So how are ICHRAs Similar to 401(k) plans?

ICHRAs have been compared to 401(k) plans even though one is a healthcare program and the other is a retirement program. Seems like two completely things, right? Certainly, healthcare plans and retirement plans can be viewed differently, but the financial concept is similar.

With a 401(k) plan, employers also fix contributions to their employee’s retirement accounts. This is usually done by contributing a specific dollar amount, a specific percentage of an employee’s salary, or by matching employee contributions up to specific limit. Whatever method the employer elects, they are defining their maximum contribution for the year. Employers have a really good idea of what their maximum spend on retirement costs will be each year like an ICHRA does with healthcare costs.

This is different from defined benefit retirement plans, the most well-known of which would be a pension plan. Pension plans guarantee a specific benefit amount to each employee in retirement. The amounts generally vary based on salary and years of service. The employer is responsible for setting enough money aside, investing that money and distributing it to employees throughout their retirement. The employer bears the risk when markets are down or if there is insufficient money to distribute to retirees from the pension fund. In other words, it’s much harder to predict costs.

401(k) plans have been around much longer than ICHRAs, but in just a short period of time some people are referring to ICHRAs as “401(k) Healthcare” due to the defined contribution similarities between the two programs.