Health Savings Accounts (HSA): Some TIPS for your HSA!

By: Karen M. Matticio, CPA (Apr, 2011)

Health Savings Accounts are a tax-advantaged personal savings account to be used now or in the future to pay for qualified healthcare expenses.

Many people contribute to the HSA and then use the amounts to pay for qualified medical expenses during the current year. For many of our clients, it may be more advantageous to use this as another form of tax deferred savings. Continue to fund your HSA but do not take any distributions from the HSA to pay current medical expenses. Think of this as a "medical" IRA account. The investment earnings on the account will grow tax-free.

TIP – If you are using the HSA as a savings account, check with your HSA bank for additional account options to maximize your investment income potential.

The contributions can be made by the employer, the employee/taxpayer or both. The contributions to the HSA are tax deductible or excluded from gross income if made by your employer or made by you through a company provided cafeteria plan (Section 125 plan). Depending on your personal situation, you may be in a position to pay for your current medical expenses "out-of-pocket" (that is, from non-HSA dollars) and let the contributions to your HSA grow for future years.

TIP - You should maintain records of all qualified medical expenses for you, your spouse and dependents, so in future years you will be able to take a tax free distribution. The distribution only has to be for qualified medical expenses. The expenses do not have to be incurred in the same year as the distribution.

In order to establish an HSA you must be covered by a high deductible health plan (HDHP). Unlike many other tax savings accounts there is no income limitation. The contribution limits for 2011 are $3,050 for single coverage and $6,150 for family coverage. There is also a $1,000 "catch-up" provision for those 55 and older until you enroll with Medicare.

TIP – Both taxpayer and spouse, if over 55, can make an additional $1,000 "catch-up" contribution. An additional HSA account needs to be established for the spouse.

Contributions to the HSA plan can be made at any time during the year. Any contributions should be made no later than April 15th of the following tax year. If the employer makes HSA contributions, they must make comparable contributions to all comparable participating employees' HSAs. Your contributions are comparable if they are either: the same amount, or the same percentage of the annual deductible limit under the HDHP covering the employees.

TIP - Contributions by the employer or by the employee through a cafeteria plan must be reported on the taxpayer's W-2 in box 12 with a code "W".

All contributions should be reported on Form 8889 and filed with your 1040. Distributions from your HSA should also be reported on Form 8889. If the distributions were for qualified medical expenses you will not pay tax on the distribution. Beginning in 2011, for a medicine or drug to be considered a Qualified Medical Expense it must meet the following criteria: 

  1. Requires a prescription,
  2. Is available without a prescription (an over-the-counter medicine or drug) and you get a prescription for it, or
  3. Is insulin.

If you do not use the distribution for a qualified medical purpose, you must pay tax on the distribution and a penalty. This is also reported on Form 8889. Beginning in 2011, there is an additional tax on distributions not used for qualified medical expenses. This additional tax or penalty has increased to 20%.

TIP – See IRS Publication 502 for a list of most allowable HSA expenditures.

These are just the basics for HSA accounts. Please feel free to contact your Dermody, Burke & Brown tax advisor to further discuss any questions you may have.

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