A Better Idea: Let Workers Use HSAs to Save for Sick Days

In his State of the Union speech, the president emphasized the plight of 43 million American workers whose employee benefits do not include paid sick leave. Presumably, many of them feel they cannot afford to take a sick day to convalesce after an illness or to care for a sick child. However, the President’s solution was a bad one: he proposed to force employers to provide up to seven days of paid sick leave to workers (and their families) annually. Imposing another costly employer mandate is a bad idea. Instead, the president should have proposed expanding health savings accounts (HSAs), allowing workers to replace income lost to sick days (more on this further down).

Bad Idea: Mandating Sick Pay. To some, mandating paid sick days may sound benevolent, but it would hurt the people it’s intended to help.  One problem with the president’s proposal is that it’s unrealistically generous. Of the 100 million jobs that provide some paid sick leave, most likely don’t provide seven days annually. Obama also appears ignorant of the fact that his own health adviser, Jonathan Gruber, published academic research back in the 1990s showing workers themselves wind up paying the cost of mandatory benefits through lower wages. Thus, if employers are forced to provide seven paid sick days for each worker every year, employers will adjust workers’ pay downward to compensate for the cost. This would inhibit pay raises, and it would impact paid vacation days.

What Gruber and other economists have found is that fringe (and mandatory) benefits are just one portion of total compensation. In other words, many workers willingly forgo higher cash wages in return for other types of employee benefits. For instance, many workers prefer to spread 50 weeks of pay over the 52 week year to allow them to take 10 vacation days and still receive a paycheck for the two weeks they take off work. Paid vacation days are not free; they are merely a way to smooth cash flow. Paid sick leave is similar.

What determines who gets paid sick leave and who doesn’t? As the previous paragraph suggests, to a degree it’s a function of workers’ preferences. Some workers willing accept jobs with lower take-home pay because the job provides fringe benefits they prefer over higher cash wages. This often includes sick pay, when workers accept jobs with lower cash wages because they value the knowledge they will be paid for the few days each year they feel under the weather and are unable to report to work. But this is a bargain not all workers feel they can afford to make. Other workers take jobs with higher cash wages despite a lack of fringe benefits because they prefer higher pay. Consider this. Two weeks of paid vacation and a week’s worth of paid sick time amounts to 120 hours of lost productivity each year. A worker earning $15 per hour pay may prefer $1,800 in additional pay (120 x $15) to three weeks’ worth of vacation days and sick leave.  Thus, employers who don’t offer paid sick leave, paid vacation days and employee health plans often don’t because their labor force is unwilling to forgo cash wages sufficient to compensate for these added benefits.

Understandably, small employers and jobs with a disproportionate number of low-income workers tend to be the ones who don’t offer (non-cash) employee benefits. When money is tight, a job that pays higher cash wages but doesn’t offer benefits may be preferable to low-income workers on a tight budget. For a $15-dollar an hour worker, seven days of paid sick leave is potentially worth $840 (56x$15). Most employers limit the ability of workers to rollover unused sick days. This could easily result in workers losing pay equivalent to 56 hours of work to compensate for mandatory sick days workers may not even need. A better option is to allow workers themselves to decide how many sick days they need.

Mandating paid sick leave could even harm the employment prospects of workers most likely to stay home and care for a sick child. Gruber has also published research that found specific groups who are the intended beneficiaries of mandated benefits may suffer discrimination by employers hoping to avoid the costly mandate. That suggests low-income, single mothers with small children may find their job prospects lower under a mandate allowing them to take seven days off with pay each year to care for not only themselves, but also their sick children. Moreover, forcing employers to provide seven days of sick leave would likely result in not only pay reductions, but possibly cause employers to reclassify vacation days as merely paid time off for illness or leisure.

What is the solution? The president should have called for expanding Health Savings Accounts (HSAs) to all workers, allowing them to set aside funds for all sorts of medical needs.  In addition, the president could have also proposed allowing workers to use HSAs to replace income lost to sick days.

If workers themselves tend to pay their own benefits — why not give workers themselves the tools to manage the trade-off between wages and replacement income lost to sick days? Currently, those workers who have HSAs could withdraw funds from their accounts to replace income lost due to sick days (or buy a boat for that matter). However, this would be considered a “non-medical use” of the HSA and would expose the worker to a stiff penalty of 20 percent, plus ordinary income taxes. Prior to the Affordable Care Act, the penalty for non-medical use was only 10 percent — plus ordinary income tax.

Allowing workers to set aside funds in an HSA to replace income lost to sick days would allow workers themselves to set aside fund in case of need, and then reclaim those funds for nonmedical purposes in the event a sick day wasn’t used. How would this work? Under current law, seniors are allowed to convert their HSAs into retirement income (without penalty) by paying ordinarily income tax on the funds withdrawn. A senior withdrawing HSA funds for retirement expenses does not face the 20 percent additional penalty for non-medical use. It certainly makes sense to allow workers forced to take a few days off due to illness each year the same courtesy.

Another problem is that many workers either don’t qualify for an HSA through their job, or don’t know their exchange plan qualifies for an HSA. The average deductible for single coverage in employer plans was $1,217 in 2014. The minimum deductible allowed for an HSA-qualified plan in 2014 was $1,250.  Small firms are the most likely not to offer paid sick leave. Yet, 61 percent of workers employed at small firms are enrolled in health plans that have a deductible of $1,000 or more. This suggests millions of workers either are eligible for an HSA or are on the verge of being eligible for an HSA. Another way to allow more workers to take advantage of HSAs to cover higher cost-sharing and out-of-pocket medical bills would be to relax the standards for opening an HSA. The Administration could also encourage exchange plans to disclose HSA-eligibility. At the very least workers should be allowed to open an HSA to save for sick days and to cover costs below their deductible.

Comments (34)

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  1. Wes Baker says:

    “Allowing workers to set aside funds in an HSA to replace income lost to sick days would allow workers themselves to set aside fund in case of need, and then reclaim those funds for nonmedical purposes in the event a sick day wasn’t used.”

    Very well said. Choice and incentive is the solution, not compulsion.

  2. Jake Sanders says:

    “To some, mandating paid sick days may sound benevolent, but it would hurt the people it’s intended to help…”

    Sound, objective reasoning. I struggle to see how rational individuals fail to grasp the mentioned concept attributed to Jonathan Gruber.

  3. Larry says:

    “mandating paid sick days may sound benevolent, but it would hurt the people it’s intended to help. .. workers themselves wind up paying the cost of mandatory benefits through lower wages.”

    What? Employers aren’t humanitarians? Businesses aren’t charities? The madness!

  4. Devon Herrick says:

    One concern is how to tax HSA distributions for sick days. Currently, the marginal taxes due for taking $1 dollar out of an HSA to replace income lost to sick days could potentially add up to 45% for a middle-income worker. That because HSA distributions for non-medical purposes are taxed as ordinary income (~25% marginal tax bracket) and subject to a 20% penalty.

    For the sake of discussion, I’m proposing to eliminate the penalty, but (for the time being) continue to tax the distribution for sick days as ordinary income. This would remove the temptation to use HSAs as a tax shelter by upper-income workers. Lower-income workers would be subjected to a lower marginal rate. A moderate-income worker would probably face a tax rate of 15% or lower (possibly 0%) on an HSA distribution under this scenario.

  5. Gitmoray says:

    HSA’s are a great concept to make users of healthcare better consumers, however, in reality all they have become is a way for higher tax bracket individuals to get their healthcare at up to a 38% discount. Higher tax bracket individuals would be loath to call this a subsidy, or a government hand-out, but that is exactly what it is.

    Not so difficult to understand why working people who make little, and therefore have low or zero brackets, have no use for them. For a person in a lower or zero tax bracket, the HSA provides ZERO benefit.

    Rather than for Republicans to continue to push this thing and expect low income people to be stupid enough not to figure out the scam, perhaps the party in power in Congress and the Senate should figure out how to make the HSA simply provide a flat benefit that works the same through all income levels. Such as making every dollar in an HSA account worth $1.25 of health services. The low tax bracket individual is matched by the govt. up to $.25 per saved dollar. The high income person gets to deduct up to $.25 per dollar saved up to a limit.

    Build some fairness in this process and watch the acceptance of it go through the roof.

    • John Fembup says:

      I like your idea of fairness – force physicians to provide $1.25 worth of their expertise, for $1.00.

      But I don’t quite get the “force” part. In your idea. Do you instead envision the physicians would, in the name of fairness, voluntarily reduce their prices by 20%?

      • Bart I. says:

        That’s not how I read the proposal:

        “The low tax bracket individual is matched by the govt. up to $.25 per saved dollar.”

        Physicians wouldn’t be reducing their prices.

        • Jack Towarnicky says:

          Isn’t that already in place via the tax preference for HSA dollars? Assuming a 25% – 33% marginal tax bracket, the individual does get ~$125 – $133 in services for ~$100 of what would otherwise be take home pay.

          • Gitmoray says:

            Jeff, again, this favors the individual in the highest tax bracket who needs help the least! That is what is wrong with an otherwise magnificent idea. The guy with the 38% tax bracket (high earner) gets a 38% discount off his healthcare costs, or a 38 % government handout, whichever term you prefer. The guy or gal at the 3% tax bracket (low earner) gets next to nothing, does not bother to get one, and and therefore considers HSA’s a rich guy’s scam, which to an extent they are.

            • John R. Graham says:

              However, health plans with high premiums and low deductibles and no HSAs have the same problem, in that they are valued more by higher-earning workers than lower-earning ones (relative to money wages).

              If we are criticizing the effect of the progressive income tax, there is no difference between the effect on an HSA versus the effect on traditional employer-based plans.

              • Gitmoray says:

                The argument you make above is a fallacy. With no HSA, the high income earner sometimes makes a decision for the higher premium because 1- He/she can afford it, and 2- He/she prefers to buy down the deductible risk. The low income individual who cannot afford higher premiums, is usually forced to take the risk on a higher deductible. These , however, are personal choices being made by individuals . The HSA changes the calculus, because now you have the federal government kicking in up to a 38% gift to the high tax rate individual, that the low tax rate individual does not get.

                HSA’s are a great idea, but they will eventually be killed by the very people who created them, because of their refusal to accept that they have one glaring flaw. That flaw lies in the way they are applied across the tax rates, and it is becoming obvious to thinking people in legislative circles.

                • John R. Graham says:

                  It is more complicated than that, because the employee pays for most of the premium in reduced wages, not explicit premium. Because the higher-earning workers value the tax exclusion of health benefits, the low-income worker is likely “forced” to accept more health benefits than he would prefer.

    • Devon Herrick says:

      Maybe a more workable solution would be to provide a tax credit (rather than the convoluted exchange subsidies) where low-income individuals have the option of buying a Bronze plan (for example) and pocketing the balance of the credit in an HSA to use for deductibles. You’re correct that those who pay a larger percentage of their income in taxes get a greater benefit from tax favored accounts. But on the other hand, those who pay little in taxes, because of modest income, need the ability to economize. Most would choose less comprehensive benefits (if allowed) and use the remaining tax credit dollars to top up an account to cover cost-sharing below the deductible. Imagin a plan design similar to the donut hole in the original Medicare Part D. Part D plans had a modest deductible, then generous coverage for the first $2,000. Those who passed through had another deductible (coverage gap) then very generous coverage. This made for a plan design where most seniors — those with a wide range of health problems — could expect affordable plans that they all could benefit from.

      • Gerald Musgrave says:

        Considering all health care financing methods, HSAs are the “fairest of them all.” Participants are not under the thumb of government bureaucrats implementing political priorities and biases. Participants are not put into a plan that can be the darling of a union leader. Participants are not forced into a prefabricated treatment regime or restricted from obtaining the treatment they believe to be most beneficial, by corporate bureaucracies or Byzantine insurance reimbursement policies.
        As a matter of tax fairness, it would be better if MSAs were not discriminated against and were put on an equal footing with other financing methods. However , one reason MSAs are so valuable and appreciated by lower income earners especially those with zero income tax liability, is that they reduce what the political left thinks is the most unfair tax–the one for Social Security and Medicare. MSAs are the only tax break they can get.
        Higher income folks are often more educated, more informed, better able to evaluate new situations, and are often early adopters–reacting to new opportunities. It is not surprising they would adopt a smarter idea sooner than others–independent of tax benefits.
        Giving participants the widest choice of health expenditures, as Devon proposes, is appropriate.

        • James R Chaillet, Jr MD says:

          HSA’s are great. For lower income employees one option for employers is to offer high deductible plans and HSAs- and to partially or fully fund the HSAs.(I suspect, if done for a class of employees there may be legal issues.) Possibly employees could take lower salary and have employer fund HSA. There’s probably an optimal mix of income and HSA contribution by employer which minimizes taxes for employees.

          More importantly, employees need to have “skin in the game” if any serious headway is to be made in reducing the costs of care – by getting employees and their families to be cost conscious on healthcare matters and by getting them to consider price in their choice of providers. ( skip the retort that people can’t or shouldn’t consider price in a life threatening situation- most healthcare dollars are spent in non emergent situations like elective surgery or non emergent diagnostic tests or procedures).

          Regarding paid sick leave, the reality is that it will be abused by some- always has and always will. Better to protect some employees from the temptation.

          • John R. Graham says:

            Thank you. On the contrary, it is very common for employers to fund HSAs. I suspect that it is necessary to make it interesting to offer the HSA as a group product.

  6. Gitmoray says:

    John Fembup, you missed my point. Today the government gives up to a 38% subsidy to high tax bracket individuals as it allows you to use HSA tax exempt dollars to buy health services at MARKET RATES from providers.

    I simply say make it a flat 35% benefit for everyone. The high tax rate person gets up to a 35 % exemption on the dollars he/she is allowed to put into an HSA. The low bracket person should also get the same bump, so then the person at say a 5 % bracket would get a TAX CREDIT equal to 30% of the dollars he/she puts into the HSA account. Granted…the low income guy only got a 30% handout…not a 35, but they both ended up at a net 35%

    The whole point of the unfairness comment is that most high tax bracket Republicans (I am a generally conservative Independent) would immediately attack my proposal as a “boondoggle” a “handout” a “giveaway”…pick your adjective, but they don’t see the present 38% gift to high tax bracket individuals as anything but “a clever incentive to create good consumerism in healthcare decisions”

    Again my point. HSA’s are a great idea to create good consumer behavior in healthcare choices. Let’s extend that to ALL healthcare consumers, not just the high tax bracket folks.

    • John Fembup says:

      Yes I misunderstood you. You don’t intend for physicians to eat the $0.25. You expect taxpayers to. I should have noticed before; thanks for the clarification.

      • Don Levit says:

        Your idea is an excellent one.
        It is like providing a multiple of .25 to the contribution.
        We are doing something similar.
        To learn more, go to nationalprosperity.com.
        Don Levit

        • John R. Graham says:

          Or, we could have a flat income tax and not have to worry about this!

          • Gitmoray says:

            This makes a great deal of sense. Since the flat tax tends to be proposed by the high income earners, I suggest a simple two tier system.

            Keep the present system for low income earners up to $150k , and then institute a “simple” Flat , 45% tax rate on income earners over $150k.

            Cute begets even cuter!

  7. Bob Hertz says:

    For someone like me, who started in working in the 1970’s for businesses that had clear vacation days and clear sick days, this is a pretty depressing discussion.

    Outside of service businesses like restaurants,where staff must be available to service customers directly,
    most other firms would get just as much work done with employees having 10-20 vacation days AND ten pure sick days. The good workers would get more done in fewer days. The bad workers will slough off even if they are present. German firms prove this kind of thing all the time.

    There is an incessant drumbeat in libertarian posts about workers funding their own benefits. This has not been a roaring success in the pension/401K field, all observers agree.

    • Devon Herrick says:

      There is an incessant drumbeat in libertarian posts about workers funding their own benefits. This has not been a roaring success in the pension/401K field, all observers agree.

      Left to their own devices, yes, some people procrastinate when it comes to saving for the future. But let’s also agree that having the government provide benefits funded by mandatory payroll contributions (that politicians then divvy up for political purposes) has not worked well either. Our health care systems is plagued by perverse incentives, high costs and huge inefficiencies.

      Workers currently pay 15.3% of payroll into Social Security and Medicare. All the while, future taxpayers are on the hook for something like $107 trillion in unfunded liabilities.

      In the long run, workers themselves pay the bear the cost of their own benefits. So I believe they should have more control. Singapore has a system with mandatory payroll contributions for health care. But the workers control most of the funds. That’s a better mandate than foisting it on employers.

      • Jack Towarnicky says:

        And, there you have the solution. Mandate an expansion of OASDI to include sick leave benefits, funded by an expansion in the employee FICA contribution, using a separate trust, with required adjustments to ensure that the benefit is an employee-pay-all feature.

        This should be offered in response to the president’s proposal. We’ll see just how good of an idea he thinks it is when he has to propose a tax increase on individuals (versus a mandate on employers) to fund the expansion.

        The last time we saw something like that would be the Medicare Catastrophic Coverage Act of 1988 – pushed by AARP and a Democratic Congress, only to be repealed once beneficiaries understood they were funding their own benefits.

        There is precedent for this method – you’ll find it in New Jersey, California, and Rhode Island. Respond to Democratic legislative proposals like the Healthy Families Act with agreement, but only where paid for by employees.

        (Sarcastically & Cynically) I am sure the voters will want paid sick leave (as suggested by the Washington Post and others in recent stories) when they see a reduction in their take home pay.

        The entire process could be administered by a combination of added FICA taxes and “negative” FICA taxes.

        • Devon Herrick says:

          Seven days of sick leave would require a payroll contribution of 2.7% (56/2080). That’s a significant bite in weekly pay.

          What would be more likely, if employers are required to cover sick days, is what my previous employer did. I worked at a hospital years ago that dropped the employee benefit plan that provided 5 sick days and 10 vacation days and gave us 12 days paid time off (PTO). We could use our PTOs for anything we wanted. The people who abused the system complained. Those of us who didn’t abuse the system like the flexibility.

  8. Jack Towarnicky says:

    Except, of course, such pto programs are not likely to meet the requirements of a federal mandate – even if pto days are acceptable – as such a conversion (net fewer total days) could well be challenged as retaliation.

    As we know, they are attempting to use employer assets to buy votes. We also know that this is little more than the federal government mandating the mix of total rewards.

  9. Kevin T says:

    earned PTO -paid time off- companies that only have a mandated amount of vacation time given to it’s employees granted by years of service only hurts themselves. Not having the option for PTO for sickness, by earning hours of time off by working hurts the company, the illness can spread like wild fire in a inclosed area such as a office building, and loss of production is felt. If a employee does not want to loose a day of pay for illness PTO is the solution.

    • Devon Herrick says:

      Years ago I worked at a small hospital affiliate of a larger health care system. My accounting assistant was also in charge of payroll. There was a joke among some former colleagues about taking “mental health” days. That was a euphemism for being sick of work! (as an aside, I always though that’s what vacation days are for)

      We can all agree you need to stay home if you have the flu or whooping cough. However, if you are merely sick of work. Or staying home to care for a child who stayed home sick from school to avoid taking a test they didn’t prepare for, well, maybe that’s what PTOs are good for.

  10. Barry Carol says:

    Most employees could probably tell you very precisely what their wage or salary is per hour, per week or per year assuming regular hours. Most don’t have a clue about their employer’s cost for benefits which, when added to wages, equal total compensation.

    So, I think it would be in the interest of even small employers to incur the expense to issue annual statements to their employees that list all components of compensation – salary or wages, bonus, if any, employer’s share of FICA taxes, 401-K matching contribution if any, employer’s share of health insurance premiums, value of paid time off whether it’s vacation or sick leave (actually taken), or any other provided benefit for which the employer can quantify the cost.

    Some employers do this today and have done it for a long time but many others do not and have not. I think they all should. The employer’s cost of health insurance may prove especially enlightening to many employees with good comprehensive coverage for which they are required to contribute little or nothing directly.

    • John R. Graham says:

      Thank you. Your point was valid until 2012. If you look at your W-2, it should report the value of employer-based benefits. It’s in Box 12, code DD. It is one part of Obamacare that we did not criticize!

  11. Erik says:

    Yes, let’s all follow the UBER model. 1099’s for all.

  12. Gerald Musgrave says:

    Suppose cars had the same income tax treatment as health care insurance and a firm provided exactly the same model Ford F150 to every employee. Then someone said, “… look how unfair this is to the poor workers.” The rich execs would have to earn twice as much to get the spending money to buy that truck. The Federal government has to give each low wage worker at least 38% extra cash so that when they drive their new Fords down the street, they are treated as well as the execs are when they drive the same Ford down the street.
    Just look at all those exactly the same gleaming new cars in the parking lot–how unfair the system is. We must have a “Trucks PLUS Cash” program.

    • John R. Graham says:

      Yes, sir. The progressive income tax cuts both ways! Enough talk about how the HSAs disproportionately benefit high earners.

  13. Jack Towarnicky says:

    The only thing more regressive than fica and fica med taxes are the benefits they fund (bend points, maximums for social security, same Medicare for all even though no cap on wages subject to tax, coupled with part b and d surcharges, and 85 percent taxation where income exceeds a dollar threshold created in 1983, and not indexed since).

    What always surprises me is that the D’s expect employers to continue coverage and contribution structures that disproportionately benefit lower income employees (company support traditionally a higher percent of total rewards for lower income). If employers scale back, Cadillac or whatever, it will disproportionately impact lower income employees.