Health Savings Account Basics

The first day of the 2020 PLANSPONSOR HSA Conference featured a detailed panel discussion about the rules and regulations impacting the provision and operation of health savings accounts (HSAs).

Speakers on the digital panel included Katie Bjornstad Amin, a principal with Groom Law Group, and J. Kevin McKechnie, founder and executive director of the HSA Council at the American Bankers Association. The pair took time to dive into the heart of HSA regulations and did not shy away from the highly technical aspects of HSA management and optimization.

Right off the bat, Amin dispelled the myth that HSAs are something new and have an unproven history, noting that the accounts were created as part of a broader legislation package back in 2003. Congress created the accounts so they could be used to accumulate money on a tax-preferred basis to pay for certain medical expenses. The accounts are distinguished from other health care benefit approaches by the fact that they belong to the individual and are carried over from year to year. Congress also established that the maximum contribution amounts would be indexed each year. For 2020, the limit is $3,550 for self-only coverage and $7,100 for a family, plus a possible $1,000 “catch-up” contribution for people age 55 and over.

As the accounts have evolved, and thanks to the strict regulations in place, HSAs primarily have been used as a complement to high-deductible health plans (HDHPs)—and they have been continuously hailed for their “triple tax advantage.” This is a short-hand phrase denoting how contributions go in tax-free, grow tax-free and can then be spent tax-free on qualified medical expenses.

As of 2020, the HDHP minimum deductible to trigger HSA eligibility is $1,400 for self-only coverage and $2,800 for family coverage, coupled with a maximum out-of-pocket limit of $6,900 for self-only coverage and $13,800 for family coverage.

The panel explained that individuals can make both pre-tax contributions through payroll deductions as well as after-tax contributions. They can also deduct from their income when filing tax returns. Another notable feature is that account holders can deduct from their own income the amount of HSA contributions made to their account by other people—but not the employer. Another favorable feature is that employer’s contributions are excluded from the employee’s income employment taxes.

Amin and McKechnie warned that over-contributions are more common than they might seem. Such contributions are defined under the law as “excess contributions,” and, technically, the account holder is responsible for remedying these. If the account holder doesn’t timely withdraw excess contributions and rectify his stated net income, a penalty of 6% of the excess contributions will be assessed on the account annually, until the issue is resolved.

When it comes to the tax-free spending phase of the HSA journey, the panel explained, most medical expenses defined under Internal Revenue Code (IRC) Section 213(d) will qualify. Thanks to recent changes in the regulations, a prescription is no longer required for over-the-counter medicines or drugs to be considered qualified. Distributions are permitted for the only following types of health insurance premiums:

• If age 65 and over, Medicare Parts A and B, Medicare HMO [Health Maintenance Organization], and the employee share of premiums for employer-sponsored health coverage;
• COBRA [Consolidated Omnibus Budget Reconciliation Act] coverage;
• Qualified long-term care contracts; or
• When receiving unemployment compensation under federal or state law.

The panel further noted that HSA funds can be used for other expenses, though different penalties and taxes will apply in certain circumstances. In basic terms, nonqualified withdrawals will be subject to normal income tax plus a 20% penalty. However, the penalty doesn’t apply if the account holder becomes disabled or turns 65.