HSAs Explained

HSAs Explained

A health savings account (HSA) is a tax-advantaged medical savings account available to taxpayers in the United States who are enrolled in a high-deductible health plan (HDHP).The funds contributed to an account are not subject to federal income tax at the time of deposit. Unlike a flexible spending account (FSA), HSA funds roll over and accumulate year to year if they are not spent. HSAs are owned by the individual, which differentiates them from company-owned Health Reimbursement Arrangements (HRA) that are an alternate tax-deductible source of funds paired with either high-deductible health plans or standard health plans.

HSA funds may currently be used to pay for qualified medical expenses at any time without federal tax liability or penalty. Beginning in early 2011 over-the-counter medications cannot be paid with an HSA without a doctor’s prescription. Withdrawals for non-medical expenses are treated very similarly to those in an individual retirement account (IRA) in that they may provide tax advantages if taken after retirement age, and they incur penalties if taken earlier. The accounts are a component of consumer-driven health care.

Proponents of HSAs believe that they are an important reform that will help reduce the growth of health care costs and increase the efficiency of the health care system. According to proponents, HSAs encourage saving for future health care expenses, allow the patient to receive needed care without a gatekeeper to determine what benefits are allowed, and make consumers more responsible for their own health care choices through the required High-Deductible Health Plan.

Opponents of HSAs say they may worsen, rather than improve, health care in the United States because people may hold back the healthcare spending that would be covered, or may spend it unnecessarily just because it has accumulated to avoid the penalty taxes for withdrawing it, but people who have health problems that have predictable annual costs will avoid HSAs to have the costs paid by insurance. There is also debate about consumer satisfaction with these plans.

Basics

1. An HSA is an individual owned(never jointly owned) tax deferred account. It has to follow the individual’s SSN, similar to rules on an IRA.
2. HSA contributions are most likely handled as an individual benefit. The same reason that an employer would not combine both spouses’ paychecks into one paycheck.
3. As long as an individual is covered under an HDHP and no other supplementary/secondary insurance they can receive/make HSA contributions.
4. If the accountholder is the only person qualified under an HDHP then they can only contribute up to the individual limit. Ex, $3650 for TY 2022($4650 over 55).
5. If more than one member of the household is covered under an HDHP, then the household, collectively, can contribute the multiparty limit. Ex, $7300 for TY 2022($8300 over 55).

   Example:

   Each individual contributes $3650 into 2 separate HSAs

   One individual contributes all $7300 into one HSA.

   They have 4 jobs, each contributing to an HSA and receive contributions into all 4 HSAs. Total contributions among all 4 HSAs should not exceed the subjected max defined in #3 or #4.

6. The individual is responsible for managing their HSA contributions and the contribution limit that they(or household) are subject to.
7. The household can contribute post tax dollars however they choose up to their contribution max across all household’s HSAs and contribution originations.
8. The individual owner should always refer to IRS publication 969 for any questions. Publication 969 is the governing documentation.

Triple Tax Advantage

One of the first things to understand about an HSA is that they provide a triple tax advantage.

• Contributions are tax-deductible, so they reduce your federal income taxes owed.
• Assets in your HSA account typically grow tax-free, at least at the federal level.
• Funds can be withdrawn without being taxed when used for qualified medical expenses.

However, there are two states that do not conform to the federal tax-advantaged treatment of HSAs:

• California; and
• New Jersey

Note: Alabama was a third state in the past, but it recently conformed to the federal income tax treatment of HSAs as of 2018.

Therefore, although employee contributions to an HSA will be pre-tax for federal income tax purposes, contributions will be after-tax for state income tax purposes in California and New Jersey.  Employees will also not receive the same tax-free growth as provided at the federal level.

Operation

Deposits/Contribution rules

Qualifying for an HSA (quotes from IRS Publication 969)

To be an eligible individual and qualify for an HSA, you must meet the following requirements.

• You are covered under a high deductible health plan (HDHP), described later, on the first day of the month.
• You have no other health coverage except what is permitted under Other health coverage, later.
• You aren’t enrolled in Medicare.
• You can’t be claimed as a dependent on someone else’s tax return.

For exceptions and details see IRS Publication 969.

Deposits to a health savings accounts may be made by any policyholder of an HSA-eligible high-deductible health plan, by the employer, or any other person. If an employer makes deposits to such a plan on behalf of its employees, all employees must be treated equally, which is known as the non-discrimination rules. If contributions are made by a Section 125 plan, non-discrimination rules do not apply. Employers may treat full-time and part-time employees differently, and employers may treat individual and family participants differently; the treatment of employees who are not enrolled in a HSA-eligible high-deductible plan is not considered for non-discrimination purposes. As of 2007, employers may contribute more for non-highly compensated employees than highly compensated employees.

Contributions from an employer or employee may be made on a pretax basis by an employer. If that option is not available through the employer, contributions may be made on a post-tax basis and then used to decrease gross taxable income on the following year’s Form 1040. Employer pre-tax contributions are not subject to Federal Insurance Contributions Act tax or Medicare taxes, but employee pre-tax contributions not made under cafeteria plans are subject to FICA and Medicare taxes. Regardless of the method or tax savings associated with the deposit, the deposits may only be made for persons covered under an HSA-eligible high-deductible plan, with no other coverage beyond certain qualified additional coverage.

Initially, the annual maximum deposit to a health savings account was the lesser of the actual deductible or specified Internal Revenue Service limits. Congress later abolished the limit based on the deductible and set statutory limits for maximum contributions. All contributions to a health savings account, regardless of source, count toward the annual maximum.

A catch-up provision also applies for plan participants who are age 55 or over, allowing the IRS limit to be increased For 2018, the contribution limit is $3,450 for single or $6,850 for married couples and families, plus $1,000 “catch up” for those over 55. For 2019, the contribution limit is $3,500 for single or $7,000 for married couples and families, plus $1,000 “catch up” for those over 55.

All deposits to a health savings account become the property of the policyholder, regardless of the source of the deposit. Funds deposited but not withdrawn each year will carry over into the next year. Policyholders who end their HSA-eligible insurance coverage lose eligibility to deposit further funds, but funds already in the health savings account remain available for use.

The Tax Relief and Health Care Act of 2006, signed into law on December 20, 2006, added a provision allowing a taxpayer, once in their life, to rollover IRA assets into a health savings account, to fund up to one year’s maximum contribution to a health savings account.

State income tax treatment of health savings accounts varies. Alabama, California, and New Jersey do not allow a state income tax exemption for contributions to health savings account contribution. Wisconsin did not allow a state income tax exemption for contributions to health savings accounts prior to 2011.

Family Coverage vs Individual Coverage

The IRS views Health Savings Accounts as individually owned, but your employees’ HSA funds can be used for their spouses and any other tax dependents—regardless of if they choose individual or family coverage.

In relation to HSAs, the type of qualified HDHP coverage (individual vs family) only determines the maximum contribution.

If both spouses are HSA-eligible and either has family-qualified HDHP coverage, their combined contribution limit is the annual statutory maximum amount for individuals with family-qualified HDHP coverage ($7,100 for 2020). This is true even if one spouse has family-qualified HDHP coverage and the other has self-only qualified HDHP coverage. The couple’s total HSA contributions still may not exceed the family maximum contribution limit.

Keep in mind that if either spouse has non-HDHP family coverage (such as an HMO, PPO, or non-qualified HDHP) that covers both spouses, they’re both ineligible to make contributions to an HSA. However, if one spouse has individual-only coverage under a traditional medical plan (such as a PPO), and the other has any coverage under a qualified HDHP (family or individual), the spouse with the qualified HDHP can still use HSA funds for eligible medical expenses for their spouse and tax dependents.

Contribution limits

A taxpayer can generally make contributions to a health savings account for a given tax year until the deadline for filing the individual’s income tax returns for that year, which is typically April 15th. All contributions to a health savings account from both the employer and the employee count toward the annual maximum.

Note: If you start or end your HSA-eligible health plan after January 1, your maximum HSA contribution limit (including the $1,000 catch-up contribution if you are 55 or older) will be prorated based upon your months of HSA eligibility. For example, if your coverage begins on July 1 you are eligible to contribute half of the annual contribution limit. If both spouses are over the age of 55 it is $1000 extra per HSA as HSA’s are connected to 1 persons SSN. So if Husband and Wife both have an HSA, they can contribute an extra $1000 to each HSA.

Important Exception:

If you have an HSA-eligible health plan on the first day of the last month of your tax year (December 1 for most taxpayers), and you maintain your HSA-eligible health plan throughout the following year, you are eligible to contribute the full annual contribution limit.

HSA contribution limits when you aren’t enrolled in an HSA-eligible health plan for the full year:

If you aren’t enrolled in an HSA-eligible health plan for the full year, you may only be able to contribute a portion of the allowable amount. However, if you are covered on December 1 of a given year, you may be able to contribute the maximum amount allowed.

You can calculate your prorated contribution amount by counting the number of months you were enrolled in an HSA-eligible health plan on the first of a month and dividing it by 12. Then multiply the number by the total amount you could contribute if you were eligible the whole year. If your coverage ends on June 2, 2022, for example, you could contribute $1,825 as an individual that year.

Full-contribution or last-month rule

The full-contribution rule (also known as the last-month rule) allows individuals who are eligible on the first day of the last month of their tax-paying year (December 1 for most tax-payers) to be considered eligible for the entire year. Therefore, under these circumstances, you can contribute up to the full yearly maximum for your coverage type (self or family). In this case, an eligible individual is considered enrolled in the same HDHP coverage (i.e., self-only or family coverage) as he or she has previously been on the first day of the last month of the year. For example, if an individual first becomes HSA-eligible on December 1, 2022, and has family HDHP coverage, then he or she is considered an eligible individual having family HDHP coverage for all 12 months of 2022.

The full contribution rule also applies to catch-up contributions made by eligible individuals age 55 and older who are allowed to contribute an additional $1,000 each year. The full-contribution rule applies regardless of whether the individual was eligible for the entire year, had HDHP coverage for the entire year or had disqualifying non-HDHP coverage for part of the year. However, a testing period applies for purposes of the full-contribution rule. If you fail to maintain an HSA-qualified HDHP during the entire testing period, you will have to pay taxes and penalties for making an excess contribution

 

Qualified Medical Expenses

The entire purpose of the HSA is to spend your tax free investment on medical expenses when needed. These benefits do not only apply to insurance coverage allowances but for several other options. Some of these options include, vision care, dental care, child care, and health care to name a few.

For an entire list of qualified medical expenses, click here

Foreign Medical Care: HSA Eligibility

Medical care received in foreign countries is eligible for reimbursement with a health savings account (HSA). Expenses incurred in a foreign country by a qualifying account holder or dependent would be eligible in accordance with the same rules that apply to care received in the U.S. These expenses might include dental, vision, and preventative care. The medical care received in a foreign country must be considered legal in the foreign country in which it was administered, and it must be considered legal in the United States in order to be eligible for reimbursement with a consumer-directed healthcare account (Internal Revenue Service).

Examples of medical care received in a foreign country that would be eligible for reimbursement with a consumer-directed healthcare account include doctor’s visits, treatment for illnesses or diseases, emergency procedures, surgeries, etc. These types of medical care must be the same type as what would be considered eligible and legal in the United States in order to be reimbursed with a consumer-directed healthcare account.

Medical care that includes prescription medications may also be eligible for reimbursement with a consumer-directed healthcare account, so long as the medication is consumed while in the foreign country, is legal in the foreign and in the United States, and is not imported into the United States. Medications used in this capacity, as part of medical care received in a foreign country, can be reimbursed in the same way as the actual medical care or doctor’s visit expense.