A Health Spending Account (HSA) is an affordable way for Canadian small business owners to minimize their medical expense costs.
As a CRA-compliant plan with tax planning and medical insurance concepts, it is helpful for the typical small business owner and its employees to understand how it works. Continue reading if you are looking for a brief breakdown on the question, "How does a Health Spending Account work for small business".
A Health Spending Account (HSA) is often referred to as a Health and Welfare Trust (HWT) or Private Health Services Plan (PHSP). These names are used interchangeably and usually mean one and the same thing. For ease of reading, I will refer to these plans as a Health Spending Account (or HSA) for the rest of the article.
A Health Spending Account is a cost-effective way to provide health and dental benefits to employees. In simple terms, health and dental benefits offered through this plan are fully tax deductible to the business and received 100% tax free by the employees. There are no premiums, hidden fees, deductibles, copay, or complex policies.
You are suitable for an HSA if you:
- Own a business
- Pay medical bills
- Pay income tax / receive T4 income
While these plans offer health benefit coverage, it is important to understand that they operate based on principles of tax planning. As a result, a Health Spending Account works differently based on your company structure (business with arm’s length employees vs. with no arm’s length employees).
For a business with 1 or more arm’s length employees:
An HSA is an affordable addition to your employee benefits package. They provide flexibility because employees can choose how, when, and where to spend their 100% tax free allowance through the plan. On the other hand, the employer can choose how much and to who they designate these allowances to. This saves the business money and helps in retaining loyal employees.
Here are some more reasons an HSA makes a great addition to your employee benefits plan:
- It transfers the value from the employer directly to the employee, instead of losing money to a premium or deductible
- It is easy to understand and use - fund the plan and the employee gets reimbursed tax free after a claim
- Funds not used by the employee are returned to the employer.
- The value of a HSA is never lost in an insurance premium
- There’s no expense for the employer until a claim is made by the employee for an eligible health or dental bill
- When the employee claims, they’re reimbursed directly for 100% of the claim, tax-free, up to their benefit allowance
- The employee can claim all their health and dental bills as needed. They pick what medical treatments matter to them.
For a business with NO arm’s length employees:
As explained above, the HSA works a little differently here since it is a single person business or business with spouse.
An HSA turns your after-tax personal medical expenses into before-tax business deductibles (through your business).
In this circumstance, it is easiest to understand the cost-savings of a HSA by a case study:
How do taxes impact the cost of my medical expenses?
As a business owner, you receive income from your corporation. In Canada, we have a progressive tax structure. Meaning the more income you make, the more the government takes. Your marginal income tax rate will have a significant effect on the total cost of your medical expenses. Your marginal tax rate is the combination of your provincial and federal tax rate.
For example: if you earn $100,000 in Alberta, you would have to gross roughly $1.78 to bring home $1.00 after-tax. $0.78 of your gross $1.78 (or 43%) would be taxed, leaving you with $1.00 after-tax.
Below is an example of a savings comparison between medical expenses paid personally vs. through your business using a Health Spending Account.
Please note that below chart references a resident of Ontario.
On the bottom left (red), you see the true cost to your company when you pay for a $3,000 medical expense personally with after-tax dollars. To get $3,000 you must withdraw $5,340 from your company. $2,340 or approximately 43% (of $5,340) is lost to income tax.
On the bottom right (green), instead of paying the government 43% tax, you pay Olympia an annual HSA membership fee of $499. Your company saves almost $2,000 in (marginal income) taxes with an HSA!
Key Takeaway for Small Business
In many cases, a Health Spending Account (or HWT / PHSP / HCSA) will be used for small companies and self-employed business owners (contractors, consultants), as these plans typically fit very well with small organizations. Instead of paying monthly premiums, you simply eliminate the income tax on medical expenses. Talk about savings!
Want more info about a Health Spending Account for small business? Check out our Complete Guide to Group Health Spending Accounts.
If you are a one-person business (ex. contractor), download this guide instead: Complete Guide to a 1-Person HSA
We've been talking about tax savings throughout this article. The tax savings are determined by your income, province of residence, and annual medical expenses. Want to find out your personal savings through an HSA? See how much you could personally save with a Health Spending Account using our HSA Savings Calculator below:
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