Taking the HSA Off the Shelf

By Lauri Giesen

Health Savings Accounts (HSAs) represent a potential source of stable, low-cost deposits, customer acquisition and problem-solving for small business clients. Can banks afford to ignore them?

When Congress passed legislation creating health savings accounts (HSAs), tax-deferred bank accounts that individuals could use to pay medical expenses, many believed it could create quite a windfall for banks.

But a little more than a year after the accounts debuted as part of the Medicare Prescription Drug, Improvement and Modernization Act of 2003, only a handful of large banks have gotten into the HSA business. Most have been large banks forming partnerships with the large health insurance carriers and Health Maintenance Organizations (HMOs) that oversee the management of such accounts.

"A few banks jumped in with both feet, but most are still waiting on the sidelines," says Andrew M. Dresner, vice president of First Manhattan Consulting Group, New York (FMCG). "It's really the insurance industry that is driving HSAs, not the banks."

Despite this slow start, the potential remains for HSAs to develop into a meaningful business for banks over time. Unlike some earlier medical payment accounts that required the money to be spent in the year in which it was deposited, funds held in HSAs can be rolled over from year to year, which allows savers to build tax-deferred balances. (See sidebar.)

To banks, HSAs represent a new source of stable, relatively low-interest-bearing funds to reinvest. While the business case to be made will vary from institution to institution, the drivers include:

Deposit-gathering. Accounts that begin with just a few thousand dollars today may include tens of thousands of dollars in five to 10 years. One insurance provider, Boise, Idaho-based American Health Value LLC, says a family putting aside the maximum funds can grow the account to nearly $200,000 over 30 years, assuming the account pays an average annual interest rate of 4% and the family does not pay any medical costs from it. The same family could save up to $138,500 even if it averaged withdrawals for medical payments of $1,000 per year from the account, according to American Health.

Relationships. Once an employer sets up an account for an employee through an insurance company or HMO, the employee and insurer need to find banks to hold and manage the funds. Large banks particularly find HSAs useful for building or strengthening relationships with these large corporate customers, i.e., insurance companies and HMOs.

Service fees. Banks can charge insurance companies or employers a start-up fee to open HSAs. Account holders or their employers then pay monthly maintenance fees. Start-up fees typically range between $50 to $75 per account, while maintenance fees can typically add another $25 to $50 annually per account. If a hypothetical bank sets up 100,000 accounts during the first year, it could generate at least $5 million in startup fees that year and at least $2.5 million in annual maintenance fees. If the same bank adds 50,000 accounts each year for the next four years, it would add at least $2.5 million in start-up fees each year and generate annual maintenance revenue of $7.5 million by the fifth year.

Customer acquisition and cross-sales. HSAs can attract new retail customers to whom additional deposit and lending products can be sold. They can also provide an entrée to small business customers who are looking for ways to reduce their health care costs. A small-business client sold on HSAs may then be cross-sold other products and services.

Banks of all sizes can expect HSAs to yield benefits some years down the road. "This is not something we are looking at for the near-term in terms of profitability," says Brad Engel, national health and welfare product leader for Pittsburgh-based Mellon Financial Corp. "This product can be very profitable if you can develop it into a substantial business, but that will take some time."

Seizing the Opportunity

Given their tax advantages and the potential for so many consumers to participate in the programs, HSAs are expected to lead the growth during the next five years in overall consumer-directed health care accounts, a category that includes Medical Savings Accounts (MSAs) and Flexible Savings Accounts (FSAs).

While the financial services industry may have seemed reticent as a whole, some banks have been eager to offer them. By the time Congress passed the law in 2003, for example, J.P. Morgan Chase & Co. already had a team developing its product, which was introduced in February 2004. Although Morgan Chase signed its first insurance company customer in June 2004, its big push came in the fall during open enrollment for 2005 health care plans. Senior vice president John Prince, in charge of the bank's health care business development and strategy, estimates the bank was servicing about 10,000 accounts at the end of 2004. "Since August of 2004, we've been signing up thousands of accounts each month," he says.

Another early entrant was Waterbury, Conn.-based Webster Financial Corp. Webster was so intrigued by the product that it last year announced its intentions to purchase Eastern Wisconsin Bancorp, which owns State Bank of Howards Grove, Wis. State Bank operates under the trade name HSA Bank and has $100 million of its $144 million in deposits in HSA accounts. It was the HSA business that made State Bank attractive to Webster (see sidebar).

Notwithstanding the enthusiasm shown by Mellon, Morgan Chase, Webster Bank and a few others, there are divergent opinions on how HSAs will be used by customers. Will they be used like 401(k) accounts or Individual Retirement Accounts (IRAs) for long-term savings (and then applied to health care), or become mostly transactional accounts tapped for short-term medical emergencies?

"With the various health savings plans offered in the past, only about 10% to 15% of customers built up their accounts," says FMCG's Dresner. "Yes, HSAs are different from other accounts like MSAs and FSAs, and those differences should encourage greater savings. But will consumers really treat them any differently? Nobody really knows."

Mellon and Morgan Chase have opposing views on the question. While Mellon believes that each account initially will contain only a few thousand dollars or less - individuals are limited to putting $2,600 into an account each year, and families $5,150 - the bank is counting on the accounts to grow to substantial balances over time, according to Engel.

"We think consumers will view these accounts more like 401(k)s than transactional accounts. Many will not use the funds to pay for their short-term medical needs, but rather will save for catastrophic illnesses or for a stage in their life when their health is more likely to fail them," Engel says.

At Morgan Chase, however, Prince expects "about 80% of the accounts" to be transactional in nature. "But we are a bank that knows how to make money off transactional accounts because we know how to handle transactions efficiently," he adds.

For example, Chase expects to generate revenue from the enrollment fees paid by the insurance carriers or employers and a monthly account fee paid either by the employer or individual, Prince says. Most Chase accounts are being opened with $1,000 to $2,000, with the average first-year balance running about $1,600. "This is profitable for us right now," he says.

The HSA can pay off in other ways, too. Regional and community banks, in particular, "see it as a way to expand their existing relationships with customers by offering them another valuable service," says Frank D'Angelo, senior executive vice president of Milwaukee-based Metavante Corp., which offers an HSA package for banks. D'Angelo says about 20 of the 500 banks for which Metavante provides core processing services have signed on for HSAs. Although most of these are community banks, the list includes a few mid-sized institutions and one top 50 bank, D'Angelo says.

American Chartered Bank, a $1.5-billion asset institution headquartered in Schaumburg, Ill., is one community bank that has embraced HSAs. Unlike most of its big-bank competitors, American Chartered has no start-up or monthly operation fees for its HSA accounts, a fact the bank plays up in its promotions.

"Most of the HSAs that have been opened thus far are for customers who do not have any other accounts with our bank," says president and CEO Dan Miller. "Now we will see if we can expand those relationships by telling the customers about the other account services we offer." He notes that the insurance carrier his bank works with is opening accounts for individuals who primarily reside in American Chartered's metropolitan Chicago market - a good marketing fit.

After having introduced the product in January 2004, American Chartered had about 1,200 individual HSAs by mid-November.

Insurance Linkage

A HSA strategy favored by the largest institutions is to use the business as a way to strengthen relationships with large insurance companies and HMOs. At Mellon, for example, the HSAs are viewed as part of a broader relationship with the bank's corporate insurance customers, for which it already provides lockbox and other services. At the beginning of 2005, Mellon had partnered with 32 insurance companies and HMOs to offer HSA accounts to the insurance companies' customers. "We want to be one of the top three players in the market nationally," Engel says.

While self-employed individuals can walk into any participating financial institution and open an HSA, the vast majority of accounts will come through the insurance carriers and employees. Even self-employed individuals are expected to be referred to banks by their private insurers. And for those insurance carriers, selection of a financial institution to handle their clients' accounts is critical.

"Initially, the insurance carriers are likely to want to work with just a few bank partners and hand over all their clients to them," says Kathy Henrickson, senior analyst with Cambridge, Mass.-based Forrester Research Inc. "But long-term, consumers are going to want to have some say over who is holding their money. And over time, you'll have people switching health care plans and they'll want to consolidate all their funds in one account. That will require the insurance companies to greatly expand the number of banks that they have relationships with."

One strategy that some banks are using to assure that the insurance carriers will use them to handle the majority of their accounts is to "integrate" the bank's and the insurance company's databases. That locks in the insurance carrier to a particular bank for a substantial portion of its business because only a limited number of banks are likely to be capable of such integration. Both Mellon and Chase are offering insurance companies the account integration.

"Integration is key," says Engel. "Any bank can hold the money, but if the bank is not fully integrated with the insurance carrier, the patient may not be paying the correct amount at the time of service."

Hendrickson notes that over time third-party technology companies will provide technology so that an insurance carrier could integrate its data base with thousands of big and small banks. But initially, the carriers will find it easier to integrate with just a few large institutions, giving big banks an early edge in the market, she says.

Engel explains that most health insurance carriers negotiate special rates with health-care providers for their clients. Patients participating in an HSA through an insurance carrier may not even know at the time of service how much the service costs. But with an integrated system, the patient does not have to pay any deductible or other fees at the time of service. Instead, the health care claim will go to the insurance company for processing and then the funds needed to pay the patient's portion of the care will be automatically deducted from the patient's bank account and sent to the health care provider. The patient will receive a receipt that shows how much the insurance company paid and how much came out of his or her account.

In addition to the automatic payment, these integrated banks will also issue account holders checkbooks and debit cards to access their funds.

One disadvantage of such a linkage is that it makes cross-selling other bank products difficult. FMCG's Dresner says many of the partnership agreements the big banks have with insurance companies prohibit the banks from marketing other services to the insurance companies' customers. Neither Chase nor Mellon, for example, has plans to cross-sell consumer services to HSA participants.

"Many of the insurance companies today are trying to sell other financial products themselves, including annuities, long-term care insurance and disability insurance," Dresner says. "They probably aren't going to worry about a community bank trying to cross-sell its services to the four employees that work for a local dry cleaner. But they're not going to want any bank marketing its services to the employees of the large corporations with thousands of employees."

While banks appear to be feeling their way in offerings HSAs, it's worth noting that this is one product that has yet to draw material interest from nonbank competitors. No brokerage houses, for example, have shown interest in offering HSAs directly.

"I don't think this is a product brokerage firms will be that interested in," says Nat Brinn, executive vice president at Webster Bank. "The initial balances are not that great and you need a lot of volume to make this work. That won't appeal to the brokerage houses, but fits nicely with banks' expertise."

Additionally, banks have the ability to use the accounts to attract small businesses. Because HSAs are expected to substantially reduce small businesses' health care costs, many such businesses are likely to insist that their banks offer this service. "If HSAs take off, in many cases it will be because small businesses pushed their banks into offering these accounts," says FMCG's Dresner.

Conversely, banks can use HSAs to cross-sell other products to small business customers. "When we do cold calling to small businesses about our HSA, we get most of our calls returned. That gives us the opportunity to talk about other small business products we can offer them," says Lawrence Deegan, HSA administrator at American Chartered. Indeed, new HSA small business clients are referred to the bank's commercial lending officers.

Whether they're used to pursue high-balance accounts, to satisfy the needs of small business customers or to strengthen relationships with big insurance companies and HMOs, HSAs clearly have something to offer financial institutions. "This is a real opportunity that I would think most would not want to miss out on," says Metavante's D'Angelo.

Questions or comments about this article? Post them at the Banking Strategies blog.

Ms. Giesen is a freelance writer based in Libertyville, Ill.

Copyright © 2005 by Banking Strategies, published by BAI.

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