Private medical cover is offered on a group basis by many employers, usually though an insurance policy. But with the cost of medical insurance rising and insurance premium tax reaching new heights, larger employers are exploring other ways of structuring healthcare to meet their needs and control costs. Here we look at why using a healthcare trust to provide cover to employees has become increasingly popular, and consider some of the main features of a trust-based approach.
What is a healthcare trust?
When it comes to medical insurance, many larger employers already adopt profit-sharing or cost-plus arrangements that are designed to achieve a balance between exposure to risk and cost. A natural extension of this is for the employer to take greater control of this process and to purchase various services separately by establishing its own healthcare trust.
In simple terms, the employer establishes a trust and appoints trustees to manage and administer the medical benefits. As with the insured approach, the trust is funded by employer contributions (and possibly employee contributions as well) but this money is used to set up a claims funds rather than pay an insurance premium. A third party administrator is then appointed to administer payments from that claims fund to provide medical treatment to members throughout each scheme year.
How does a healthcare trust differ from an insured approach?
The trust's governing documents, and in particular the member booklet, will set out exactly what is and is not covered under the trust in each scheme year (similar to a policy schedule). However, at the end of each scheme year, the employer can decide what it does (and does not) want to cover members for in the coming year and has the flexibility to use different providers and specialists.
The trust will need to comply with relevant trust law but the regulatory and tax legislation is relatively limited compared with other trust-based arrangements such as a pension scheme or group life trust. In order to comply with tax rules, the trust must be set up on an irrevocable basis, so once the money goes in, it cannot be returned to the employer. However, that money can be set against the future cost of providing health cover under the trust, helping the employer to save money that would otherwise have been paid out as an insurance premium. In years where the cost of meeting treatment claims is lower than anticipated, this can lead to a significant saving.
While the employer is obliged to fund benefits throughout the scheme year, there is no long-term year-on-year obligation to continue the trust. If the employer decides it no longer wants to run the trust (for example after a particularly heavy claims year) then it can bring the trust to a close at the end of that scheme year and return to an insured approach.
What happens if the costs spiral? Will the employer risk having to foot the bill?
Most employers take out supplemental stop-loss insurance when operating a healthcare trust. The purpose of this insurance is to protect the employer if claims in any one scheme year are significantly greater than estimated. Typically the stop-loss threshold might be set at 125% of the claims fund, or it could be set based on the cost of individual treatments (for example £1 million per treatment), and the intention here is that the employer knows it will be protected against costs that are over and above the level it has budgeted for.
Who else is involved in the operation of a healthcare trust?
Trustee - The trust requires a trustee. Rather than appoint individuals, an employer will often set up a separate trustee company within its own group or appoint an independent third party trustee company. The trustee's role is important, but not complicated. It will be responsible for monitoring incoming contributions and outgoing benefit payments, appointing administrators and other advisers and determining any matters of doubt.
Administrator - The key third party role is that of the administrator/provider. The trustee will generally delegate the day-to-day running of the trust to the administrator, who will arrange treatment, process claims and administer the trust in accordance with the trust deed, rules and member booklets. The relationship between the trustee and administrator is an important one, with tax as well as operational implications, so the trustee should take legal advice before entering into the administration agreement.
Benefit consultant - The set-up and ongoing running of a healthcare trust is a complex process. As well as legal advice on the documentation to set up a trust, the employer and trustee will need the help of a benefit consultant to set the claims fund, choose administrators and work out what treatments to cover members for each year.
What are the possible advantages of using a healthcare trust?
- A reduction in overall costs and insurance premium - the direct link between contributions, claims experience and benefit payments means that there may be a greater opportunity for the employer to reduce its funding costs when compared with insurance. Contributions will also be exempt from Insurance Premium Tax (IPT). In some cases, the IPT savings alone can pay for the cost of setting up a trust in its first year, with ongoing reductions in the cost of the claims fund as opposed to the insurance premium in each subsequent year.
- Employees are unlikely to see any difference between the trust and insured approach, ensuring benefit continuity and clarity - employees will have to be told of the change, but provided the healthcare trust is well run and the administrator is efficient in the provision of its functions (including telephone helplines, tailored booklets and communications setting out how to claim and what cover they have), there is unlikely to be any perceived change by employees.
- Unbundling of services to ensure access to specialist service providers - the trustee and employer will have greater flexibility in choosing service providers allowing the employer to tailor the healthcare trust to the specific needs of its workforce each year.
- Flexibility in paying contributions - the employer and trustee, rather than the insurance company, will determine how much is needed to meet the members' needs in a particular year, and isn't stuck paying a lump sum premium. The employer can start drip-feeding contributions into the trust in accordance with a pre-agreed contribution plan on which benefit in kind tax has been assessed, to meet the claims fund, rather than paying a one-off premium.
- Offsetting surplus funds in one year against contributions in the next - the contributions made to a trust cannot be returned to the employer but, in the event that a funding estimate leads to funds being left over at the end of a scheme year, those unused funds may be carried over and used to offset the cost of providing future benefits; and
- Control over the benefits - provided the trust documentation is properly drafted the employer retains the ability to set and alter the benefit structure (although it cannot alter benefits until the end of a scheme year), set limits and exclusions to match the requirements of the workforce and can even tailor specific sections in relation to different categories of employee.
Are there any areas of concern for the employer when setting up/operating a healthcare trust?
- Is the workforce big enough? - consultants and providers do not usually recommend setting up a healthcare trust if the employer has a potential membership of less than 1,000 employees, as it makes the funding of the trust too susceptible to fluctuations. You should discuss this point with your benefit consultant before considering setting up a healthcare trust.
- Ensuring a balance of powers in the trust documentation - it is important to carefully structure the trust deed and rules to ensure that the employer retains power over key features of the trust such as eligibility for membership, collecting and paying contributions and the power to amend or terminate the trust at the end of each scheme year. If the trust is to benefit fully from HMRC's tax-favoured status, it cannot grant the trustee or employer discretion over the form or amount of benefit that can be treated.
- Taxation considerations for members - while the employer's contributions are generally fully deductible for income tax (provided the trust is registered with HMRC and complies with relevant legislation), members will be subject to a benefit in kind charge on the proportion of the employer's contributions attributable to them (if the trust has been set up and is operated correctly, this is usually not the cost of the treatment they receive, just the aggregate value of the contributions divided equally among the members).
- Cost of stop-loss insurance - this can be significant depending on how much risk the employer wants to take. It's essential that the claims fund is correctly set and the employer and trustee need to work closely with the administrators and benefit consultants to set this. Insurance premium tax is payable on this insurance.
- Ensuring the employer is not capable of being considered to be providing unregulated insurance contrary to FCA rules - the employer cannot provide benefits in the form of insurance through the trust, as it would have to meet a set of potentially onerous regulatory and legislative restrictions. In order to avoid this, the trust will often mix both non-discretionary and discretionary benefit entitlement within the trust, focussed on different types of contributing members. This is a complicated area and one that we suggest you seek legal advice on.
- Trapped surplus - if the employer decides to terminate the trust then any leftover surplus cannot be returned on wind-up. This is often countered by a planned wind-up of the trust, to expend remaining assets over the final months of the trust's existence.