HSA Trojan Horse

[Koss]

HSA Rules

I'm not sure where anyone got the idea that the funds in an HSA cannot be used to pay the deductible. This appears to be completely false. One earlier comment suggested that perhaps the person was referring to premiums for the health care plan.

According to IRS Publication 929, funds in an HSA can generally be used for any medical expense that is deductible under the ordinary rules that are applicable to Schedule A. It also says that for 2010, nonprescription drugs are qualified expenses for purposes of an HSA, even though they do not qualify as a deductible expense on Schedule A. As noted earlier, nonprescription drugs are no longer eligible during 2011.

The premiums for the employee's health care plan are not qualified expenses for purposes of an HSA precisely because they are not deductible on Schedule A. They are not deductible on Schedule A because they are employer-subsidized, and they should already be paid pre-tax.

The deductible is not, strictly speaking, a health care expense. It is an amount the employee must pay before the insurance plan begins to pay benefits. Amounts paid by the employee that "count" toward the deductible are clearly eligible for reimbursement from an HSA.

A distribution from an HSA is tax-free, and is not subject to a penalty, if the amount was used to pay for qualified medical expenses (as this term is used for Schedule A, plus nonprescription drugs during 2010). Whether the payment of those expenses was applied to the deductible is irrelevant.

These rules appear to be virtually identical to the rules for a flexible spending account (FSA). There are certainly some important differences between an HSA and an FSA. But the definition of qualified medical expenses appears to be exactly the same.

The only interesting limitation that I noticed in Publication 929 is that the expenses are not qualified medical expenses for an HSA unless the expenses were incurred after the HSA was established.

It does not seem to matter whether the distribution occurred before or after the expense was incurred. And it doesn't seem to matter whether the distribution occurred before or after the expense was paid, as long as expenses occur after the HSA is set up.

BMK

[Gary2]

These rules appear to be virtually identical to the rules for a flexible spending account (FSA). There are certainly some important differences between an HSA and an FSA. But the definition of qualified medical expenses appears to be exactly the same.

Not quite. For example, an HSA can be used for long term care insurance or COBRA, but an FSA cannot.

It does not seem to matter whether the distribution occurred before or after the expense was incurred. And it doesn't seem to matter whether the distribution occurred before or after the expense was paid, as long as expenses occur after the HSA is set up.

The one case for which I would question this is when a tax year boundary is crossed. For example, suppose you take a distribution in Dec. 2010 but don't pay the bill until Jan. 2011? Or conversely, suppose you pay the bill out of pocket in Dec. 2010 and then take the reimbursement out of the HSA in Jan. 2011? I'm not sure what the answer is in these cases.

[Bees Knees]

HSA Planning Tips

From TTB Small Business Edition, Page 29-6:

Planning Tip: HSAs are similar to Archer MSAs in that they allow eligible
individuals to save for and pay health care expenses with tax-free
funds. A participant purchases low-cost high-deductible health insurance
(an HDHP). For medical expenses not covered by insurance due
to the high deductible, the participant can use funds in the HSA to pay
the qualified medical expenses that are not covered by insurance. The
HSA is funded with tax deductible contributions, excludable employer
provided contributions, or a combination of both. Unlike FSAs, the HSA
is not a use-it-or-lose-it account, which can be an incentive to make
wiser choices in health care spending since the participant keeps funds
that remain in the account at the end of the year. The funds remain in
the account tax free until needed for medical purposes. Like an IRA,
the HSA is owned by the individual and is not under the control of an
employer. It stays with the individual even after a job change. Unlike an
Archer MSA, the participant does not need to have W-2 earnings or SE
earnings to make deductible contributions.

[Gretel]

But, a Cafeteria Plan is use it or lose it.

I agree with you that a Cafeteria Plan has it's downside too. However, for taxpayers who work for the government (so far probably don't need to be concerned loosing their job) who were able to always match their medical expenses with what was put aside in the Plan, don't win with a HSA if they are under 55 and have stay within that limitation for the contributions.

[AJsTax]

Just for clarification:

I'm really dense. After reading all the comments, the only thing of which I am certain is that I've treated this wrong. Probably 2-3 times.

1099-SA is for $3100. Family coverage. Deductible was $2400. Employee contributions to HSA was $2900. I'm assuming this is what is meant by "W" in Box 12.

Conversation with taxpayer indicates she spent appx $3100 from the account, and did not pay the deductible $2400 separately.

My calculation was the $3100 was taxable income (or else there would be no purpose for issuing the 1099-SA). Additionally, there would be a $310 penalty for 10%.

The W in box 12 on the W-2 should include amounts contributed by the employee pre-tax and also amounts contributed by the employer as a employee benefit. This is still not being done correctly all the time. often because the employer does not tell the payroll company everything they are doing. That is experiece speaking from doing many W-2s for small companies that do not know the rules. !! Just wait until we have to report the company share of health insurance on the w-2, not the employee share as many are doing now..!!

The $3100 spent for medical expenses would counter the $3100 withdrawn from the account, (there must have been some caryover from prior year). There would be 0 taxable and only need to report to prove that it was all withdrawn for allowed purpose.

[Burke]

Employee contributions to HSA was $2900. I'm assuming this is what is meant by "W" in Box 12.

Box 12, Code W is for employer contributions. They go on Form 8889 on line 9. An employee can also make direct contributions themselves. They would go on line 2, if any were made. Lines 3 & 7 show the maximum eligible contributions for the eligible person/family. Line 14a is for any distributions from the HSA (required to be reported to the IRS on 1099-SA). Line 15 is for the TP's expenditures during the year for eligible medical expenses. Hopefully, line 14a is not more than 15. If it is, there is a taxable distribution and perhaps a 10% penalty. Otherwise, not. Form 1099-SA is much like the form 1098-T. Information provided in order to determine a taxable or non-taxable event. However, if a taxpayer receives 1099-SA and does not complete Form 8889, they will eventually get a CP2000 letter from the IRS who will assume it is fully taxable.

[AJsTax]

Almost correct

Box 12, Code W is for employer contributions. They go on Form 8889 on line 9. An employee can also make direct contributions themselves. They would go on line 2, if any were made. Lines 3 & 7 show the maximum eligible contributions for the eligible person/family. Line 14a is for any distributions from the HSA (required to be reported to the IRS on 1099-SA). Line 15 is for the TP's expenditures during the year for eligible medical expenses. Hopefully, line 14a is not more than 15. If it is, there is a taxable distribution and perhaps a 10% penalty. Otherwise, not. Form 1099-SA is much like the form 1098-T. Information provided in order to determine a taxable or non-taxable event. However, if a taxpayer receives 1099-SA and does not complete Form 8889, they will eventually get a CP2000 letter from the IRS who will assume it is fully taxable.

If an employee makes pretax contributions to the plan through the employer and withheld from paycheck, then those also go in box 12, code W. This is one area that is often done wrong.
If they make a direct contribution NOT through tax free withholding then that amount goes on line two of the form.

[Burke]

I concur with this. (Note previous thread on more than 2% shareholder/owners of SCorps who make contributions to HSA's and which may have been made thru the company.) These do not go in Box 12, Code W, and do not carry to Form 8889. The taxpayer enters the HSA contributions on Line 2 so that he is entitled to the deduction on the 1040. This is because the HSA contributions are included in Box 1 of the W-2 as wages.

[Gary2]

I agree with you that a Cafeteria Plan has it's downside too. However, for taxpayers who work for the government (so far probably don't need to be concerned loosing their job) who were able to always match their medical expenses with what was put aside in the Plan, don't win with a HSA if they are under 55 and have stay within that limitation for the contributions.

I'm not sure how you're figuring this. Is it just because the FSA has potentially higher contribution limits?

My take is that the HSA is only a win for younger people, who can sock away more into the HSA than they'll need to spend. This gives them a nice emergency fund that they can dip into later in life, tax free.

[Gretel]

I'm not sure how you're figuring this. Is it just because the FSA has potentially higher contribution limits?

My take is that the HSA is only a win for younger people, who can sock away more into the HSA than they'll need to spend. This gives them a nice emergency fund that they can dip into later in life, tax free.

I am looking at the scenario at hand. FSA limit $2,400 = $148.80 Fica/Med savings (computed using 6.2% since 4.2% is an exeption)

Limit on HSA if under 55 = $3,050, which leaves $650 potential for more tax deductible contributions. My taxpayer being in 15% tax bracket gives a tax savings of $97.50.

Most of the employees affected by this plan change will not contribute more then $2,400 to the HSA, which will leave them in the hole by $148.80.

Of course you can argue that loosing FSA funds can easily topple this number, but if nothing is ever lost than this does not apply.

I see your point about "socking" money away, that is for those who have the freedom to do so. Not everyone has money to spare to socked away.

[Snaggletooth]

Thanks to All

...my conception of the 1099-SA was wrong from the outset.

In theory, the 1099-SA has a purpose. In practice, the form is virtually worthless. Leaves any calculation of taxable portion entirely up to the taxpayer. And that transfers to us. From a practical standpoint, I'm not going to waste any time being judge/jury dragging out all account activity to determine what's taxable or not.

The govt takes the issuer of the 1099-SA off the hook. The instructions essentially tell the issuer that he is not responsible for determining the taxable amount.

[Gary2]

...my conception of the 1099-SA was wrong from the outset.

In theory, the 1099-SA has a purpose. In practice, the form is virtually worthless. Leaves any calculation of taxable portion entirely up to the taxpayer. And that transfers to us. From a practical standpoint, I'm not going to waste any time being judge/jury dragging out all account activity to determine what's taxable or not.

The govt takes the issuer of the 1099-SA off the hook. The instructions essentially tell the issuer that he is not responsible for determining the taxable amount.

And again, that's just like a 1099-R with the "taxable amount not determined" box checked.

It's not up to you, and your job doesn't include auditing the taxpayer's receipt on behalf of the IRS. The client may have a debit card limited to eligible purchases. (Unlike FSAs, I don't think HSA debit cards are required to be limited-use, but many are.) With a number like $3100, most clients should be able to reconstruct the expenses off the top of their heads. A couple of monthly prescriptions, some dental work, one or two specialists with tests can quickly justify that amount.

[Jesse]

I'm really dense. After reading all the comments, the only thing of which I am certain is that I've treated this wrong. Probably 2-3 times.

1099-SA is for $3100. Family coverage. Deductible was $2400. Employee contributions to HSA was $2900. I'm assuming this is what is meant by "W" in Box 12.

Conversation with taxpayer indicates she spent appx $3100 from the account, and did not pay the deductible $2400 separately.

My calculation was the $3100 was taxable income (or else there would be no purpose for issuing the 1099-SA). Additionally, there would be a $310 penalty for 10%.

But did she indeed pay the deductible? I don't believe you need to actually pay the bill from the HSA - you can pay with your own funds, cash or credit card and reimburse yourself with the HSA funds. The expenses must be incurred after the date the high deductible plan and HSA started. If she paid medical expenses (the deductible amount) of only $2,400 but w/drew $3,100, then only $700 would be taxable and subject to the penalty.

[Burke]

...my conception of the 1099-SA was wrong from the outset.

In theory, the 1099-SA has a purpose. In practice, the form is virtually worthless. Leaves any calculation of taxable portion entirely up to the taxpayer. And that transfers to us. From a practical standpoint, I'm not going to waste any time being judge/jury dragging out all account activity to determine what's taxable or not.

The govt takes the issuer of the 1099-SA off the hook. The instructions essentially tell the issuer that he is not responsible for determining the taxable amount.

I don't believe it is our responsibility to review and/or determine the legitimacy of the eligible medical expenses which were paid. I will accept a taxpayer's written list of (totals) for drugs, medical insurance, dr's, dentists, etc for a Sche A. I do not add up every receipt. For the 8889, the TP is the one who has to provide you with a total of eligible medical expenses to offset the HSA distribution. As long as you ask the right question, as far as I am concerned, that's it. You are right, the 1099-SA issuer is not responsible for determining the taxable amt. The TP is. The top half of the form is primarily for determining whether the TP has an HSA deduction on the 1040, and/or whether they have over-contributed to the HSA.

[Golden Rocket]

Responsibility

Responsibility of the Taxpayer, but that becomes ours in a hurry.

1) How many taxpayers know what differentiates between a legitimate charge to the account and one that is not legitimate?
2) Even if the taxpayer knows what's legit, how many of them are going to do this prior to the appointment or during??