Tax Advantages of Health Savings Accounts
While similar to FSAs (Flexible Savings Arrangements) in that both allow pre-tax contributions, Health Savings Accounts, or HSAs, offer taxpayers several additional tax benefits such as contributions that roll over from year to year (i.e., no “use it or lose it”), tax-free interest on earnings, and when used for qualified medical expenses, tax-free distributions.
What is a Health Savings Account?
A Health Savings Account is a type of savings account that allows you to set aside money pre-tax to pay for qualified medical expenses. Contributions that you make to an HSA are used to pay current or future medical expenses (including after you’ve retired) of the account owner, his or her spouse and any qualified dependent.
Caution: Medical expenses that are reimbursable by insurance or other sources and do not qualify for the medical expense deduction on a federal income tax return are not eligible.
Caution: Although they are deductible, insurance premiums for taxpayers younger than age 65 are generally not considered qualified medical expenses for HAS purposes, unless the premiums are for long-term care, health care continuation coverage (such as COBRA) or health care coverage while receiving unemployment compensation.
You cannot be covered by other health insurance with the exception of insurance for accidents, disability, dental care, vision care or long-term care, and you cannot be claimed as a dependent on someone else’s tax return. Spouses cannot open joint HSAs. Each spouse who is an eligible individual who wants an HSA must open a separate HSA.
An HSA can be opened through your bank or another financial institution. Contributions to an HSA must be made in cash. Contributions of stock or property are not allowed. An employee may be able to elect to have money set aside and deposited directly into an HSA account; however, if this option is not offered by your employer, then you must wait until filing a tax return to claim the HSA contributions as a deduction.
High Deductible Health Plans.
Contributions to an HSA can only be made, if you have a High-Deductible Health Plan (HDHP). Typically, HDHPs have lower monthly premiums than plans with lower deductibles, but you pay more health care costs yourself (your deductible), before the insurance company starts to pay its share.
A high-deductible plan can be combined with a health savings account, allowing you to pay for certain medical expenses with tax-free money that you have set aside. By using the pre-tax funds in your HSA to pay for qualified medical expenses, before you reach your deductible, and other out-of-pocket costs such as copayments, you reduce your overall health care costs.
Calendar year 2018. For calendar year 2018, a qualifying HDHP must have a deductible of at least $1,350 for self-only coverage or $2,700 for family coverage. Annual out-of-pocket expenses (e.g., deductibles, copayments, and coinsurance) of the beneficiary are limited to $6,650 for self-only coverage and $13,300 for family coverage. This limit doesn’t apply to deductibles and expenses for out-of-network services, if the plan uses a network of providers. Instead, only deductibles and out-of-pocket expenses for services within the network should be used to figure whether the limit has been exceeded.
Last month rule. Under the last-month rule, you are considered to be an eligible individual for the entire year if you are an eligible individual on the first day of the last month of your tax year (December 1 for most taxpayers).
You can make contributions to your HSA for 2017 until April 17, 2018. Your employer can also make contributions to your HSA until April 17, 2018, on account of 2017. The contribution will be reported on your 2018 Form W-2, but you will have to account for it on your 2017 tax return.
Summary of HSA Tax Advantages
- Tax deductible. You can claim a tax deduction for contributions you, or someone other than your employer, make to your HAS, even if you don’t itemize your deductions on Schedule A (Form 1040).
- Pre-tax dollars. Contributions to your HSA made by your employer (including contributions made through a cafeteria plan) may be excluded from your gross income.
- Tax-free interest on earnings. Contributions remain in your account until you use them and are rolled over year after year. Any interest or other earnings on the assets in the account are tax-free. Furthermore, an HSA is “portable” and stays with you, if you change employers or leave the workforce.
- Tax-free distributions. Distributions may be tax-free if you pay qualified medical expenses.
- Additional contributions for older workers. Employees aged 55 years and older are able to contribute an additional $1,000 per year.
- Tax-free after retirement. Distributions are tax-free at age 65 when used for qualified medical expenses including amounts used to pay Medicare Part B and Part D premiums and long-term care insurance policy premiums. However, you cannot use money in an HSA to pay for supplemental insurance (e.g. Medigap) premiums.
Questions about HSAs? Don’t hesitate to contact us.