Travis H. Long, CPA, Inc. Blog

Originally published in the Cedar Street Times

February 5, 2016

Why Would an HSA Be Valuable to Me?

A Health Savings Account, or HSA for short, is a fantastic vehicle to pay for out-of-pocket qualified medical expenses which insurance does not cover in-part or in-full.  It effectively allows you to get a tax deduction for nearly all of your unreimbursed expenses whether or not you itemize deductions.  It also works great for those who itemize, but do not have enough medical expenses to get over the 7.5 percent or 10 percent (depending on your age) of adjusted income threshold before those deductions are counted.  Many people assume they are receiving a tax benefit for these expenses when they are not.  Simply look at your Schedule A, line 4.  If it says $0, or if you do not even have a Schedule A, you are not benefitting from your itemized medical deductions.  Even if you have a number there, line three will show you how much you are getting zero benefit from due to the threshold.

How do I Qualify and What Kind of Account Is It?

In order to qualify for an HSA, you must have a “high deductible” health insurance plan.  For 2015, this means you have to have a minimum annual deductible of $1,300 for self-only coverage, or $2,600 for family coverage (or approximately the cost of breathing the air in a hospital lobby).  Your plan must also have a maximum annual out-of-pocket limit of $6,450 for self-only coverage or $12,900 for family coverage.  If you meet these requirements, you are eligible to set up an HSA account for yourself.

An HSA account is kind of like having a checking account just for qualified medical expenses, but is shares characteristics with an IRA account.  A lot of people think the accounts are married to the health insurance providers, but they are not.  Lots of banks and investment companies offer them.  The account is a custodial account held for your benefit, and you get to choose the company that is the custodian, and you can move the money from one custodian to another, just as you could move your IRA from Fidelity to Vanguard, for instance.  You often get a checkbook and/or a debit card.  The custodian follows certain rules laid out by the IRS, and reports to the IRS at the end of each year the total contributions to and distributions from your account.  The custodian is not responsible, however, for verifying that your expenses are qualified medical expenses, as that responsibility falls to you.

If you have health insurance through an employer and the plan qualifies, often your employer and its health insurance representative are instrumental in getting this account established, and they will select an initial custodian.  Many employers will even contribute a monthly amount to your HSA account since the high deductible aspect often saves the employer money on the premiums.  But even if your employer does not set an HSA up, you can do it.  And as long as your health insurance plan qualifies, you can contribute to it.

How Do I Put Money Into the HSA?

Anyone is actually allowed to contribute to your HSA account (if you should be so lucky!), but there is a total contribution limit of $3,350 per year for self-only plans, and $6,650 for family plans in 2015.  And you get an above-the-line tax deduction for the amount put into the account each year.  Unlike IRAs, there are not even any income phaseouts that would prevent you from getting the tax deduction if you are a high-income earner.  If your employer does not contribute enough to max out the contribution limit, you can always write a check to the account for the difference.  You even have until April 15 (18 this year) to make the contribution for the prior year (similar to an IRA).  If you are over 55 years old (IRAs are 50), you can make an additional $1,000 contribution each year.

If you are enrolled in Medicare or are being claimed as a dependent on someone else’s return, you cannot contribute to an HSA.  In years where you change from self-only coverage to family coverage, or if you get married, or go through a divorce, stop insurance, start insurance, etc. be aware that there are special rules and limitations on contributions during those years, and you could subject yourself to a penalty if handled incorrectly.  If you find that you have overcontributed for any reason, you generally have until the extended due date of your tax returns to get the money out without penalty.  You do have to take out any earnings it generated as well, and those would be taxable in the year you physically take the money out of the account.

Can I Transfer Money Into My HSA from an IRA?

If you are desperate to get some additional money into your HSA, you can make a once in a lifetime transfer from your Traditional or Roth IRA to the HSA via a trustee to trustee transfer.  However, it is still limited to the annual contribution cap, and it would be reduced by any other contributions you made to the account during the year!  So it has very limited usefulness.  If you were going to do that, your first choice would almost inevitably be the traditional IRA since the Roth IRA is already a tax-free account.

What/Who Can I Spend the Money On?

All medical expenses that would normally qualify for a deduction on Schedule A, would be a qualified HSA distribution, except for insurance.  Generally, you cannot pay your health, vision, dental premiums, etc. from your HSA.  Exceptions to this which you could pay from your HSA include long-term care insurance for the HSA account holder (subject to normal limits on long-term care insurance deductions found in the Schedule A instructions), COBRA insurance premiums for you, your spouse, or your dependents, or health insurance paid while you, your spouse, or dependents are receiving federal or state unemployment compensation.  Also, if you are 65 or older, you can pay your Medicare and other health insurance premiums (except supplemental Medicare policy premiums) from your HSA.

For the bulk of the qualified medical expenses, you can deduct them for yourself, your spouse, your dependents, or for someone you could have claimed as a dependent except that they were disqualified simply because they filed a joint return, had gross income over $4,000, or were married filing jointly and one of the spouses could have been claimed as a dependent.  If you are divorced with children, you can also pay for your children’s medical expenses whether or not you are a custodial parent or claim a dependency exemption, as long as least one of you qualifies to claim the dependency exemption.

If you take money out of the account and do not use it for medical expenses, it will be taxable income, and you will hit a 20 percent tax penalty as well.  When you reach age 65, however, you can take the money out and use it for any purpose with no penalty (as opposed to 59.5 for most IRA owners).  So in a lot of ways, should you never use it for medical expenses, it acts like another IRA.

Also for people that become permanently disabled, they can escape the 20 percent penalty tax even if used for nonqualified expenses.

In two weeks we will conclude the discussion on HSA accounts and discuss topics such as whether or not you have to pay qualified medical expenses directly from your HSA, strategy for large bills that exceed your HSA balance, having separate accounts for spouses, what happens to the account when you pass away, pitfalls to avoid, and a discussion of the Form 8889 itself.

If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .

Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041.