Health Savings Accounts

An Overview of the Rules and Open Issues

February 2004

Health Savings Accounts

Tax-free accounts combined with high deductible health plan (HDHP)

Minimum HDHP deductible: $1,000 individual/$2,000 family

Employee and employer contributions Tax-free distributions for qualified

medical expenses Accounts are fully portable Effective January 1, 2004

Who Can Set Up an HSA?

An individual or an employer Eligible individual:

– Covered by HDHP– Not covered by another health plan– Not eligible to be claimed as a dependent– Not eligible for Medicare

Funds managed by trustee or custodian

What is a HDHP?

Annual deductible of at least $1,000 May not have total annual out-of-

pocket expenditures in excess of $5,000

Both are doubled for family coverage May provide first dollar coverage for

preventative care

Network Plans

A plan may have different in-network and out-of-network benefits

A network HDHP may require charges for services provided outside of the network that exceed the annual out-of-pocket limit

The annual deductible for out-of-network services is not taken into account in determining the annual contribution limits

Other Permitted Insurance

General rule: the individual must be enrolled in only a HDHP

Exception for Permitted Insurance:– Worker’s Compensation– Coverage for tort liabilities– Coverage for property (e.g., car or

homeowners)– Specified disease or illness policies– Insurance paying a fixed amount for

hospitalization– Coverage for accidents or disability– Dental, vision, or long-term care coverage

Contribution Limits

Individuals, their family members, and employers may contribute

Contributions must be in cash 2004 contribution limits are the

lesser of:– 100% of the deductible for the

HDHP, or– $2600 for self-only, $5150 for family

(indexed for inflation)

Contribution Limits (Cont.)

Catch-up contributions are allowed between ages 55 and 65– $500 per year in 2004– Increases $100 per year until the

amount reaches $1000 in 2009 MSA balances may be rolled over

Qualified Medical Expenses

Internal Revenue Code Section 213(d) May not be used for insurance

premiums, except the following:– COBRA– Health coverage while the individual is

receiving unemployment compensation– Health insurance (other than Medicare

Supplement coverage) for individuals age 65 and over

– Qualified long-term care insurance

Tax Treatment: Individual Contribution

HSAs may be offered through a cafeteria plan– Employee contributions made through salary

reduction– Pre-tax contributions

For an individual HSA, the individual may take deduction on their federal income tax return– Above the line deduction– Do not need to itemize

Tax Treatment: Employer Contribution

Employer is allowed a deduction Contribution is excludable from

the employee’s gross income and is not subject to withholding from wages for income tax, FICA, or FUTA

Excess employer contributions are subject to a 35% penalty

Tax Treatment: Earnings

Earnings on an HSA are not considered income for federal tax purposes

Tax Treatment: Excess Contributions

Contributions in excess of the contribution limits are considered income to the individual

The income accrues regardless of who made the contribution

Account holder will be subject to a 6% excise tax on the excess contribution amount

Treasury correction procedures

Tax Treatment: Distributions

Qualified distributions for expenses of the individual or family members are excluded from the individual’s gross income

Non-qualified distributions are includible in gross income and subject to a 10% excise tax

Exception after death or disability, or when the individual reaches age 65

Do Nondiscrimination Rules Apply?

HSA statue includes a “comparable contribution standard”: an employer must make a comparable contribution available to all eligible individuals

It appears an employer may define who is covered

Internal Revenue Code Section 105(h), which prohibits discrimination in favor of highly compensated employees, does not seem to apply

Other Frequently Asked Questions

Are HSAs subject to ERISA? Can employers impose a vesting

schedule? If an employee sets up an HSA separate

from the employer, can the employer still contribute?

Can HSAs be used to pay for long-term care expenses?

Can employers still establish and/or contribute to MSAs?

Open Issues Timing of final Treasury guidance Definition of preventive services Carve out of Rx coverage and or other

services from HDHP Employer matching contributions Amount of contribution available if health

expense exceeds HSA balance Coordination of HSAs, FSAs, and Health

Reimbursement Arrangements (HRAs) HRA rollovers Which cafeteria plan rules apply Possible state tax laws Reasonable lifetime caps on HDHP

Possible Legislative Changes

Use for retiree health premiums Ability to deduct premiums for

HDHPs purchased in the individual market

Federal preemption

Questions about HSAs?