SECTION. 1. MEDICAL INCENTIVES ACCOUNTS.

    (a) In General.--Part III of subchapter B of chapter 1 of the 
Internal Revenue Code of 1986 is amended by redesignating section 137 
as section 138 and by inserting after section 136 the following new 
section:

``SEC. 137. MEDICAL INCENTIVES ACCOUNTS.

    ``(a) Exclusion.--Gross income of an employee shall not include any 
amount contributed during the taxable year by the employer to a medical 
incentives account of such employee.
    ``(b) Limitations.--
            ``(1) Maximum exclusion.--
                    ``(A) In general.--Subsection (a) shall not apply 
                to contributions for the taxable year in excess of 
                $3,000.
                    ``(B) Medical care cost adjustment.--
                            ``(i) In general.--In the case of any 
                        taxable year beginning in a calendar year after 
                        1994, the dollar amount in subparagraph (A) 
                        shall be increased for such calendar year by 
                        the medical care cost adjustment for such 
                        calendar year.
                            ``(ii) Medical care cost adjustment.--For 
                        purposes of clause (i), the medical care cost 
                        adjustment for any calendar year is the 
                        percentage (if any) by which--
                                    ``(I) the medical care component of 
                                the Consumer Price Index (as defined in 
                                section 1(f)(5)) for August of the 
                                preceding calendar year, exceeds
                                    ``(II) such component for August of 
                                1993.
                        If any increase under the preceding sentence is 
                        not a multiple of $50, such increase shall be 
                        rounded to the nearest multiple of $50.
            ``(2) Employee must have employer-provided health 
        insurance.--Subsection (a) shall not apply to any employee 
        unless--
                    ``(A) such employee is covered under insurance 
                which constitutes medical care (as defined in section 
                213(d)), and
                    ``(B) any portion of the cost of such insurance is 
                provided by such employee's employer.
    ``(c) Definitions.--For purposes of this section--
            ``(1) Medical incentives account.--The term `medical 
        incentives account' means a trust created or organized in the 
        United States exclusively for the purpose of paying (or 
        reimbursing) the medical expenses of the account beneficiary, 
        the spouse of such beneficiary, or any dependent (as defined in 
        section 152) of such beneficiary, but only if the written 
        governing instrument creating the trust meets the following 
        requirements:
                    ``(A) No contribution will be accepted unless it is 
                in cash, and contributions will not be accepted for the 
                taxable year in excess of the limitation under 
                subsection (b)(1).
                    ``(B) The trustee is a bank (as defined in section 
                408(n)) or another person who demonstrates to the 
                satisfaction of the Secretary that the manner in which 
                such person will administer the trust will be 
                consistent with the requirements of this section.
                    ``(C) The interest of an individual in the balance 
                in his account is nonforfeitable.
                    ``(D) No part of the trust assets will be invested 
                in life insurance contracts.
                    ``(E) The assets of the trust will not be 
                commingled with other property except in a common trust 
                fund or common investment fund.
            ``(2) Medical expenses.--The term `medical expenses' means, 
        with respect to the account beneficiary, the amount paid by 
        such beneficiary during the taxable year which would be 
        allowable as a deduction for the taxable year under section 213 
        but for the threshold based on adjusted gross income.
            ``(3) Account beneficiary.--The term `account beneficiary' 
        means the employee for whose benefit the medical incentives 
        account is established.
    ``(d) Tax Treatment of Distributions.--
            ``(1) In general.--Any amount paid or distributed out of a 
        medical incentives account shall be included in the gross 
        income of the account beneficiary unless such amount is used 
        exclusively to pay (or reimburse) the medical expenses of such 
        beneficiary, the spouse of such beneficiary, or any dependent 
        (as defined in section 152) of such beneficiary. The preceding 
        sentence shall not apply to the extent that the aggregate of 
        such payments and distributions during any taxable year which 
        are not so used does not exceed the account balance as of the 
        close of the preceding taxable year.
            ``(2) Penalty for amounts included in income.--If any 
        amount is includible in the gross income of the account 
        beneficiary for any taxable year, such beneficiary's tax 
        imposed by this chapter shall be increased by 10 percent of the 
        amount so includible.
    ``(e) Tax Treatment of Accounts.--
            ``(1) Exemption from tax.--Any medical incentives account 
        is exempt from taxation under this subtitle unless such account 
        has ceased to be a medical incentives account by reason of 
        paragraph (2) or (3). Notwithstanding the preceding sentence, 
        any such account shall be subject to the taxes imposed by 
        section 511 (relating to imposition of tax on unrelated 
        business income of charitable, etc. organizations).
            ``(2) Account terminates if individual engages in 
        prohibited transaction.--
                    ``(A) In general.--If, during any taxable year of 
                the individual for whose benefit the medical incentives 
                account was established, such individual engages in any 
                transaction prohibited by section 4975 with respect to 
                the account, the account ceases to be a medical 
                incentives account as of the first day of that taxable 
                year.
                    ``(B) Account treated as distributing all its 
                assets.--In any case in which any account ceases to be 
                a medical incentives account by reason of subparagraph 
                (A) on the first day of any taxable year, paragraph (1) 
                of subsection (d) shall be applied as if there were a 
                distribution on such first day in an amount equal to 
                the fair market value (on such first day) of all assets 
                in the account (on such first day) and no portion of 
                such distribution were used to pay medical expenses.
            ``(3) Effect of pledging account as security.--If, during 
        any taxable year, the individual for whose benefit a medical 
        incentives account was established uses the account or any 
        portion thereof as security for a loan, the portion so used is 
        treated as distributed to that individual and not used to pay 
        medical expenses.
    ``(f) Custodial Accounts.--For purposes of this section, a 
custodial account shall be treated as a trust if--
            ``(1) the assets of such account are held by a bank (as 
        defined in section 408(n)) or another person who demonstrates 
        to the satisfaction of the Secretary that the manner in which 
        he will administer the account will be consistent with the 
        requirements of this section, and
            ``(2) the custodial account would, except for the fact that 
        it is not a trust, constitute a medical incentives account 
        described in subsection (c).
For purposes of this title, in the case of a custodial account treated 
as a trust by reason of the preceding sentence, the custodian of such 
account shall be treated as the trustee thereof.
    ``(g) Reports.--The trustee of a medical incentives account shall 
make such reports regarding such account to the Secretary and to the 
individual for whose benefit the account is maintained with respect to 
contributions, distributions, and such other matters as the Secretary 
may require under regulations. The reports required by this subsection 
shall be filed at such time and in such manner and furnished to such 
individuals at such time and in such manner as may be required by those 
regulations.''
    (b) Exclusion Applies for Employment Tax Purposes.--
            (1) Social security taxes.--
                    (A) Paragraph (20) of section 3121(a) of such Code 
                is amended by striking ``or 132'' and inserting ``132, 
                or 137''.
                    (B) Paragraph (17) of section 209(a) of the Social 
                Security Act is amended by striking ``or 132'' and 
                inserting ``132, or 137''.
            (2) Railroad retirement tax.--Paragraph (5) of section 
        3231(e) of such Code is amended by striking ``or 132'' and 
        inserting ``132, or 137''.
            (3) Unemployment tax.--Paragraph (16) of section 3306(b) of 
        such Code is amended by striking ``or 132'' and inserting 
        ``132, or 137''.
            (4) Withholding tax.--Paragraph (19) of section 3401(a) of 
        such Code is amended by striking ``or 132'' and inserting ``, 
        132, or 137''.
    (c) Tax on Prohibited Transactions.--Section 4975 of such Code 
(relating to prohibited transactions) is amended--
            (1) by adding at the end of subsection (c) the following 
        new paragraph:
            ``(4) Special rule for medical incentives accounts.--An 
        individual for whose benefit a medical incentives account 
        (within the meaning of section 137(c)) is established shall be 
        exempt from the tax imposed by this section with respect to any 
        transaction concerning such account (which would otherwise be 
        taxable under this section) if, with respect to such 
        transaction, the account ceases to be a medical incentives 
        account by reason of the application of section 137(e)(2)(A) to 
        such account.'', and
            (2) by inserting ``or a medical incentives account 
        described in section 137(c)'' in subsection (e)(1) after 
        ``described in section 408(a)''.
    (d) Failure To Provide Reports on Medical Incentives Accounts.--
Section 6693 of such Code (relating to failure to provide reports on 
individual retirement account or annuities) is amended--
            (1) by inserting ``or on medical incentives accounts'' 
        after ``annuities'' in the heading of such section, and
            (2) by adding at the end of subsection (a) the following: 
        ``The person required by section 137(g) to file a report 
        regarding a medical incentives account at the time and in the 
        manner required by such section shall pay a penalty of $50 for 
        each failure unless it is shown that such failure is due to 
        reasonable cause.''
    (e) Clerical Amendments.--
            (1) The table of sections for part III of subchapter B of 
        chapter 1 of such Code is amended by striking the last item and 
        inserting the following:

                              ``Sec. 137. Medical incentives accounts.
                              ``Sec. 138. Cross references to other 
                                        Acts.''
            (2) The table of sections for subchapter B of chapter 68 of 
        such Code is amended by inserting ``or on medical incentives 
        accounts'' after ``annuities'' in the item relating to section 
        6693.
    (f) Effective Date.--The amendments made by this section shall 
apply to taxable years beginning after the close of the calendar year 
which includes the date of the enactment of this Act.
Output: Amends the Internal Revenue Code to exclude from the gross income of an employee amounts contributed by an employer to a medical incentives account.