The Medicare Prescription Drug Bill signed into law on December 8, 2003 amends the US Tax Code to allow additional itemized deductions for individuals contributing to Health Savings Accounts (HSAs). The new tax benefits began on January 1, 2004.
Here are some frequently asked questions about HSAs. This overview is not meant to take the place of legal guidance. Rather it it designed to assist agents and their clients in understanding HSAs and the new health insurance program that Congress has established.
- What is an HSA?
- Who is Eligible to have an HSA?
- What is a "high-deductible health plan" that makes someone eligible for an HSA?
- Who can underwrite the high-deductible health plan?
- Who can provide the high-deductible health plan?
- What
kinds of other health coverage makes an individual ineligible for an HSA?
- What other kinds of health coverage may an individual maintain without losing eligibility for an HSA?
- Are HSAs allowed under a cafeteria plan?
- How does an eligible individual establish an HSA?
- Who is a qualified HSA trustee or custodian?
- Who may contribute to an HSA?
- How much may be contributed to an HSA?
- What is the tax treatment of HSA contributions?
- What is the tax treatment of earnings on amounts in an HSA?
- When is an individual permitted to receive distributions from an HSA?
- How are distributions from an HSA taxed?
- What medical expenses are eligible for tax-free distributions?
- Can HSA funds be used to purchase LTC insurance?
- How do HSAs differ from Flexible Spending Accounts (FSAs), Health Reimbursement Accounts (HRAs) and Medical Savings Accounts (MSAs)?
| Eligibility |
HSA |
FSA |
HRA |
MSA |
| Small Employers | Yes |
Yes |
Yes |
50 or fewer
employees |
| Large Employers | Yes |
Yes |
Yes |
No |
| Self-Employed |
Yes |
No |
No |
Yes |
| Requirements |
HSA |
FSA |
HRA |
MSA |
| Plan Document |
No |
Yes |
Yes |
No |
| High-Deductible Insurance Required | Yes |
No |
No |
Yes |
| Annual IRS-DOL Form 5500 | No |
Yes |
Yes |
No |
| COBRA Applies | No |
Yes |
Yes |
No |
| HIPAA Certification | No |
Generally, No | Yes |
No |
| Account retained by employee upon termination of employment |
Yes |
No |
No but terminated employees may be covered by plan |
Yes |
| Contributions |
HSA |
FSA |
HRA |
MSA |
| Employer
Contributions | Optional |
Optional |
Required |
Optional |
| Employee Contributions | Optional |
Optional |
No |
Optional |
| Employee Tax | Contributions
are deductible "above the line" on IRS Form 1040 |
Contributions
are tax-free | Claim
reimbursements are tax-free | Contributions
are deductible"above the line" on IRS Form 1040 |
| Account Prefunded by Employer | No |
Yes |
No |
No |
| Permitted
Uses | HSA |
FSA |
HRA |
MSA |
| Roll Unused Dollars to Next Year | Yes |
No |
Yes |
Yes |
| Reimburse IRC Section 213(d) Medical Expenses | Yes |
Yes |
Yes |
Yes |
| Long Term Care Premiums Paid from Account | Yes |
No |
Yes |
Yes |
| Convert to Taxable Income | Yes |
No |
No |
Yes |
What
is an HSA?
An HSA is a tax-exampt trust or custodial account established
for the purpose of paying medical expenses in conjunction with a high-deductible
health plan. The HSA cannot stand alone -- it can only be combined with a high-deductible
health insurance plan. A number of the rules that apply to HSAs are similar to
rules that apply to individual retirement arrangements (IRAs).
For example, like an IRA, an HSA is established for the benefit of an individual, and is "portable." Thus, if the individual is an employee who later changes employers or leaves the work force, the HSA does not stay behind with the former employer, but goes with the individual. However, because HSAs differ from IRAs in some important respects, taxpayers cannot use an IRA as an HSA, and cannot combine an IRA and an HSA into a single account.
Who is Eligible to have an HSA?
An individual is an eligible individual if such individual:
- is covered under a high deductible health plan, and
- is
not, while covered under a high deductible plan, covered by any other health plan
...
- which is not a high deductible health plan, and
- which provides coverage for any benefit which is covered under the high deductible health plan.
- is not entitled to Medicare
- may not be claimed as a dependent on another person's tax return
What is a "high-deductible health plan" that makes someone eligible for an HSA?
A high deductible plan is a health plan with an annual deductible of at least $1,000 in the case of individual coverage and at least $2,000 in the case of family coverage.
Who can underwrite the high-deductible health plan?
A high-deductible health plan may be offered by a variety of entities, including insurance companies and health maintenance organizations (HMOs).
Who can provide the high-deductible health plan?
An employer or an individual may provide the high-deductible plan.
What kind of other health coverage makes an individual ineligible for an HSA?
An individual is ineligible for an HSA if the individual is covered under a health plan (whether as an individual, spouse, or dependent) that is not a high-deductible health plan (including being covered as a beneficiary under Medicare).
What other kinds of health coverage may an individual maintain without losing eligibility for an HSA?
An individual remains eligible for an HSA if, in addition to a high-deductible health plan, the individual has coverage (whether provided through insurance or otherwise) for accidents, disability, dental care, vision care, long-term care, insurance for a specified disease or illness, insurance that pays a fixed amount per day (or other period) of hospitalization; or insurance under which substantially all of the coverage provided relates to liabilities from workers' compensation laws, torts, or ownership or use of property (such as automobile insurance).
Are HSAs allowed under a cafeteria plan?
Yes. Section 125(d) has been amended to allow HSAs to be offered under cafeteria plans.
How does an eligible individual establish an HSA?
Beginning January 1, 2004, any eligible individual can establish an HSA with a qualified HSA trustee or custodian, in much the same way that individuals establish IRAs with qualified IRA trustees or custodians. No permission or authorization from the Internal Revenue Service (IRS) is necessary to establish an HSA.
Who is a qualified HSA trustee or custodian?
Any insurance company or any bank (including a similar financial institution as defined in Internal Revenue Code section 408(n)) can be an HSA trustee or custodian.
Contributions to an HSA can be made by individuals, employers, or rollovers from Archer Medical Savings Accounts (MSAs).
How much may be contributed to an HSA?
The annual contribution limit is the lesser of (1) 100% of the annual deductible under the high deductible plan or (2) the maximum deductible permitted under an Archer MSA, as adjusted for inflation. For example, the 2004 estimated maximum high deductible is $2,600 for individual coverage and $5,150 for family coverage. Individuals 55 and over may make additional contributions as follows:
| 2004 - $500 | 2007 - $800 |
| 2005 - $600 | 2008 - $900 |
| 2006 - $700 | 2009 & thereafter - $1,000 |
What is the tax treatment of HSA contributions?
Individual contributions are deductible whether the individual itemizes or not. Contributions constitute an adjustment to adjusted gross income -- in other words "above-the-line". Employer contributions are tax-free to employees.
What is the tax treatment of earnings on amounts in an HSA?
Earnings on amounts in an HSA are not taxable prior to distribution from the HSA.
When is an individual permitted to receive distributions from an HSA?
An individual is permitted to receive a distribution from an HSA at any time.
How are distributions from an HSA taxed?
Distributions from an HSA are excludable from gross income if used for medical expenses of the HSA account holder and the account holder's family, with certain exceptions, and are includible in gross income if used for any other purpose. If included in gross income, distributions generally are subject to an additional 10 percent tax. However, if distributions that are included in gross income are made after the account holder turns age 65, becomes disabled or dies, the additional 10 percent tax does not apply.
What medical expenses are eligible for tax-free distributions?
Medical expenses are defined under section 213 of the Code, but do not include expenses for insurance other than long-term care insurance, premiums for COBRA-type health care continuation coverage, or premiums for health care coverage while an individual receives unemployment compensation.
Can HSA funds be used to purchase LTC insurance?
Tax-free HSA withdrawals can be used to purchase the age-based amount of "Qualified" Long-Term Care Insurance, but not to purchase other health insurance.
How do HSAs differ from Flexible Spending Accounts (FSAs), Health Reimbursement Accounts (HRAs) and Medical Savings Accounts (MSAs)?
There are a number of differences between HSAs and other health accounts. See chart for a comparison.