How HRAs Work: Step-by-Step for Advisors

Health Reimbursement Arrangements (HRAs) have become increasingly popular among small and mid-sized businesses looking for flexibility and cost control in their employee benefits strategy. However, understanding how they actually work—from initial setup through employee reimbursement—can feel overwhelming if you’re new to the model.

As a benefits advisor, I’ve helped dozens of employers implement HRAs successfully. In this guide, I’ll walk you through the complete mechanics of how HRAs function, so you can make informed decisions about whether this arrangement makes sense for your organization.

What Is an HRA? A Quick Foundation

Before diving into mechanics, let’s establish the basics. An HRA is an employer-funded, tax-advantaged benefit arrangement that reimburses employees for qualified medical expenses. Unlike a Health Savings Account (HSA), which is employee-owned and portable, an HRA is employer-owned and tied to employment.

The key advantage: employers control the contribution amount and which expenses qualify for reimbursement, while employees enjoy tax-free reimbursements up to their annual allowance.

Step 1: Design and Planning

Your first step as an advisor (or business owner working with an advisor) is designing the HRA structure that aligns with your business goals.

Determine Your Funding Strategy

You’ll need to decide how much to contribute per employee. Common approaches include:

• Flat dollar amounts ($1,500-$5,000 annually per employee)
• Percentage-based contributions (e.g., 50% of employee premium costs)
• Tiered contributions (different amounts by salary, position, or family status)
• Claims-based funding (reimburse actual claims up to a maximum)

I recommend analyzing your claims history, cash flow, and competitive positioning in your market. A $2,500 annual HRA combined with a high-deductible health plan (HDHP) can be attractive to talent while keeping employer costs predictable.

Choose Your HRA Type

The IRS recognizes several HRA types:

Integrated HRAs pair with group health insurance plans and reimburse out-of-pocket costs (deductibles, copays, coinsurance).

Excepted Benefit HRAs can stand alone and reimburse specific benefits like dental, vision, or stand-alone accident/critical illness coverage.

Individual Coverage HRAs (ICHRAs) allow employers to provide allowances for employees to purchase their own individual market plans—a newer model gaining traction.

For most small employers, integrated HRAs paired with HDHP coverage provide the best balance of simplicity and savings.

Step 2: Document Creation and Compliance

This is where many employers cut corners—don’t. Proper documentation is essential for IRS compliance and employee understanding.

Create Your HRA Plan Document

Work with your advisor or attorney to draft a formal plan document outlining:

• Annual contribution amounts
• Eligible employees and waiting periods
• Covered medical expenses (reference IRS Publication 502)
• Claims procedures and deadlines
• Forfeiture rules (use-it-or-lose-it vs. carryover)
• COBRA implications

The plan document isn’t just legal protection—it’s your roadmap for administration.

Communicate Clearly

Employees won’t use benefits they don’t understand. Your communication should include:

• Summary of benefits (what’s covered and how much the employer contributes)
• Instructions for submitting claims
• Timeline for reimbursement processing
• What happens to unused funds

A one-page reference sheet often works better than a dense manual.

Step 3: Enrollment and Setup

Once your plan is designed and documented, it’s time to implement it.

Establish Your Administrative System

You have three main options:

In-house administration: Your HR team or finance department handles claims. This works for very small groups (under 20 employees) but becomes burdensome quickly.

HRA TPA (Third-Party Administrator): A specialized vendor manages the entire process—claims submission, eligibility tracking, compliance reporting. This is most common for small employers and typically costs $3-8 per employee per month.

Insurance carrier integration: Some health insurers now offer built-in HRA administration. This simplifies coordination but ties you to that carrier.

For most clients, I recommend a dedicated HRA TPA. They handle compliance complexity, provide employee portals, and generate required documentation.

Enroll Employees

During your enrollment period, employees should:

• Acknowledge receipt of plan documents
• Confirm eligibility
• Understand their annual contribution amount
• Set up their claim submission method (online portal, email, paper)

Assign employees a plan summary card with key details and contact information for questions.

Step 4: Claims Submission and Tracking

This is where employees interact with your HRA most frequently.

How Employees Claim Reimbursement

Typical process:

1. Employee incurs qualified medical expense (copay, deductible, dental work, etc.)
2. Employee submits claim through the TPA portal, by email, or paper form
3. Claim includes required documentation (receipt, itemized bill, explanation of benefits)
4. TPA verifies eligibility and reviews expense against IRS guidelines
5. Reimbursement is approved or denied and communicated to employee
6. Payment is issued typically within 5-10 business days

Key Documents to Require

Don’t just accept any receipt. Required documentation typically includes:

• Itemized invoice showing service dates and amounts
• Explanation of Benefits (EOB) from the health plan
• Patient name and service description
• Provider name and license information

This documentation creates an audit trail and protects you from IRS challenges.

Step 5: Ongoing Administration and Compliance

HRA administration doesn’t end after reimbursement.

Balance Tracking

Your TPA should provide monthly reporting showing:

• Claims processed and approved
• Remaining balances per employee
• Claims pending

This helps you catch issues early and forecast cash needs.

Year-End Considerations

As the plan year ends, address:

Forfeiture rules: Do unused amounts disappear, or do they carry forward? (Note: recent IRS changes allow limited carryover if properly structured)

COBRA: Employees terminating employment can usually continue HRA benefits under COBRA, with the employer continuing to fund the same amount. This has significant cost implications—budget accordingly.

Reconciliation: Verify all claims are properly recorded and no duplicate reimbursements occurred.

Stay Current on Compliance

HRA regulations evolve. Stay informed about:

• Annual contribution limits
• Changes to covered expenses (IRS modifies the list periodically)
• Nondiscrimination requirements (the HRA can’t disproportionately benefit highly compensated employees)

Your TPA should flag these changes, but I recommend a quarterly check-in during the first year.

Common Mistakes to Avoid

From my advisory experience, I see these pitfalls repeatedly:

• Underestimating claims volume: Many employers set contributions too low, leading to disappointed employees. Start with historical data if switching from another plan.

• Unclear documentation of covered expenses: Vague plan language creates disputes. Be specific about what’s covered.

• Neglecting COBRA costs: Many employers don’t budget for continuing HRA contributions for terminated employees on COBRA.

• Poor employee communication: Employees who don’t understand the benefit won’t use it effectively. Invest in clear, ongoing education.

• Choosing the wrong administrator: A good TPA pays for itself through compliance expertise and smooth operations.

Getting Started With Your HRA

If you’re considering an HRA for your organization, here’s your action plan:

1. Define your business objectives (cost control, employee attraction, benefit flexibility)
2. Model the financial impact under different contribution scenarios
3. Evaluate HRA vs. other benefit structures (HSA, FSA, traditional plans)
4. Partner with an experienced advisor to navigate design and compliance
5. Select a reputable HRA administrator
6. Invest time in employee education from day one

HRAs can be powerful benefits for small employers when implemented thoughtfully. The key is understanding the mechanics, staying compliant, and keeping communication lines open with your team.

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Nexus Benefit Solutions is an independent employee benefits advisory firm based in West Michigan. Questions? Reach out at jason@nexusbenefitsolutions.com or call 616-425-9740.