The ABCs of 401(h) Plans For International Paper Employees

In 2023, health insurance plans are requesting an average premium increase of 10%, with some plans requesting increases between 5% and 14%. As opposed to previous years, only four of the 72 issuers are reducing their premiums. The reason for this is the rising cost of medical care. In the filings for 2023, many insurers anticipate a 4% to 8% health cost trend. The trend in costs reflects the rising prices paid to hospitals, doctors, and drugmakers as a result of inflation, as well as how much the plans anticipate patients will consume in the coming year. Considering this, International Paper employees who have a 401(h) may benefit from learning how to maximize their plan. Here is a summary of key information regarding these plans:

 

Summary of Discussion

International Paper retirees should be aware that a '401(h)' plan is a retiree medical benefit account established within a defined benefit pension plan to pay benefits for sickness, accident, hospitalization, and 'medical expenses' for retired employees, their spouses, and dependents. It is essential to recognize how 401(h)(1)-(6) of the Internal Revenue Code must be satisfied for payments to be made.

 

213(d) of the Internal Revenue Code defines medical expenses as costs incurred because of medical care (1). This includes expenditures for:

 

Transportation primarily for and essential to medical care, Qualified long-term care services, or Insurance (including Part B Medicare premiums and any qualified long-term care insurance).

It is essential for retired International Paper employees to consider how plan document language determines the timing of distributions, the coverage extent of benefits, and who is eligible for the plan. Regarding coverage, contributions, and benefits, a 401(h) account cannot discriminate in favor of officers, shareholders, supervisory employees, or highly compensated employees.

The contribution amount to the 401(h) cannot exceed the total cost of providing the benefits, which must be amortized over the course of future service. In accordance with Treasury Regulation 1.401-14(c), a qualified 401(h) account must provide:

Medical benefits for retirees must be subordinate to pension benefits. The 401(h) medical benefits for retirees must be held in a separate account within the pension trust.

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For key employees, a separate account must be maintained for the employee's benefits (or spouse or dependents). Moreover, medical benefits payable to this employee can only be paid from this account. Employer contributions to the account must be reasonable and quantifiable.

It is required that contributions made to 401(h) accounts during or after the taxable year be used to pay for medical plan benefits. These contributions cannot be used for any other purpose. The plan's terms must also stipulate that any remaining funds in the 401(h) account must be returned to the employer upon liquidation of the plan's liabilities to provide retiree medical benefits.

Retirees of the International Paper must be aware that the subordinate requirement is incomplete until the plan establishes that the aggregate contributions for retiree medical benefits do not exceed 25 percent of total contributions. The 25% includes actual contributions to the plan's life insurance but excludes contributions to fund past service credits. This limitation is known as the 'subordination limit,' as its purpose is to ensure that medical contributions are subordinate to pension contributions. Those retiring from International Paper companies should also be aware that plan sponsors with overfunded, terminating defined benefit plans may make tax-free 'qualified transfers' (commonly referred to as '420 transfers') to related 401(h) accounts. In addition, there are restrictions to consider, as the transferred amount is not considered a reversion subject to income or excise taxes. The provision expires on December 31, 2025, following the transfer of assets.

 

The Positives of 401(h) Plans

Employers may deduct contributions to a certain extent on their tax returns. Contributions cannot surpass the total cost of the benefits.

The benefit is earned by retirees tax-free. The funds grow tax-free, and as long as they are used for qualified medical expenses, distributions are also tax-free.

Employers can contribute as little or as much as they wish (up to a maximum of 25%) per year. They are not required to contribute, but they may do so if they choose.

The funds can also cover the medical expenses of any dependents, including spouses and children.

 

The Drawbacks to 401(h) Accounts

The plan itself is complex and requires expensive setup and management fees. Because it is not an IRS-approved plan, it requires more time, administration, and supervision to operate.

Employers must keep the account active until all retirees have exhausted their medical account benefits.

As actuaries are frequently required to manage and oversee the account, it can be difficult to find the appropriate personnel.

 

Conclusion

With Pharmaceutical companies increasing list prices of arthritis, cancer, and other prescription drugs by an average of 5.6% at the beginning of this year, International Paper retirees who have a 401(k) may be in a favorable position (h). In addition, a substantial number of pension plan sponsors may be enticed to use 401(h) accounts to fund retiree medical benefits. If the plan's terms permit it, a 401(h) account may receive employer and/or employee contributions as well as transfers of excess pension benefits for International Paper employees considering this plan. Contributions to 401(h) accounts are tax-deductible, earnings are tax-deferred, and withdrawals are tax-free. When uncertain about how their 401(h) works, retirees of International Paper companies may benefit from seeking professional financial advice. By contacting The Retirement Group, you can receive a free cash flow analysis and speak with a consultant who will help you determine which decision best meets your needs.