The Seacoast BankNote

Health Savings Account - What You Need to Know

As the cost of medical treatment continues to grow, a health savings account (HSA) may be a benefit for many. If you have a high deductible health plan (HDHP) or if you’re considering getting an HSA vs FSA (flexible spend account), this article explains everything you need to know before opening a health savings account.

What is a Health Savings Account?

A health savings account or HSA is a tax-advantaged method used to pay for qualified medical expenses. Generally speaking, an HSA provides the following benefits:

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  • HSA interest and other earnings on your assets are tax-free
  • An HSA is portable in can move with you as opposed to being employer-specific
  • Employers can contribute to your HSA
  • HSA funds can be tax-free when used to pay for qualified medical expenses (refer to Publication 502, Medical and Dental Expenses for information on qualified medical and dental expenses)

How to Qualify for a Health Savings Account

While HSA’s have clear tax advantages not everyone qualifies for an HSA. HSA’s were created so that individuals covered by high deductible health plans could receive tax-preferred treatment for the money they save for medical expenses. These eligibility requirements include:

  • The account holder must be covered by a single high-deductible plan
  • The account holder must not be eligible to be claimed as a dependent on another’s tax return
  • The account holder must not be enrolled in Medicare.

How do I set up and HSA?

Based on IRS guidance, an HSA does not need special permission or regulatory authority from the IRS. Trustees such as banks, who have been approved by the IRS, can provide HSAs. If you are employed, your company may have a trustee they currently work with. If you’d like to learn more about opening an HSA, connect with your local banker or visit our HSA page here.

Does a Health Savings Account Have Contribution Limits?

Yes, a health savings account does have contribution limits. Limits are primarily based on your health plan coverage, age, and eligibility date. Other factors that impact your contribution limit include the following:

  • Annual parameter adjustments
  • The last month rule
    • If you are eligible on the first day of your tax year’s last month you are then eligible for the entire year.
  • If you change your coverage during the year
  • Marital status
  • Employer contributions

Generally speaking, a trustee should be able to help you access your contribution limits. However, the IRS also provides contribution worksheets to determine your maximum contribution.

Advantages and Disadvantages of Health Savings Accounts

There are two sides to every coin: this is true with an HSA. The advantages associated with an HSA include:

  • Savings on the cost of insurance
  • Tax-deductible contributions
  • Tax-free distributions for qualified expenses
  • Tax-free earnings

As discussed earlier many of the primary advantages are based on tax incentives. However, there are also some disadvantages to HSAs. These disadvantages include:

  • Distributions unrelated to medical expenses are subject to income tax as the contributions were tax-deferred and the funds received are unrelated to qualified medical expenses. More importantly, these distributions may also be subject to 20% additional taxation.
  • Withdrawal penalties
  • Management fees

Overall, the advantages of an HSA are helpful from a tax perspective especially if you are in a good position to save for health needs and have additional savings options to avoid incurring penalty fees or additional taxation.

HSA vs. FSA

HSAs are not the only medical-related financial account. Another common account often compared to an HSA is a Flexible Spending Agreement or FSA. FSAs are considered beneficial because employer contributions can be excluded from gross income. However, FSAs have several disadvantages when compared to HSAs. Some disadvantages include:

  • FSA contributions are forfeited at the end of every year
  • If contributions exceed max distribution amounts they are forfeited
  • FSAs cannot move with you, they are employer-based
  • FSAs can only be used for medical expenses

Final Thoughts on HSA Accounts

Overall, if you qualify for a health savings account, it’s definitely an ideal option for reaping both tax advantages as well as healthcare savings. More importantly, an HSA allows you and others to contribute to your long-term healthcare plans while still allowing you to grow your contributions over time. Are you ready to open an HSA? If so, find a local banker today.

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