A Health Savings Account (HSA) is a tax-exempt trust or custodial account that you set up with a bank or other US financial institution which allows you to pay or be reimbursed for qualified medical expenses. The HSA must be used in conjunction with a High Deductible Health Plan (HDHP). The HSA can be established using a qualified trustee or custodian that is separate from the HDHP provider. Contributions to an HSA must be made in cash or through a cafeteria plan. Contributions of stock or property are not allowed.
Benefits of an HSA
There are quite a few benefits to an HSA:
- Contributions to an HSA are deductible from income – even if you don’t itemize deductions;
- If your employer makes contributions to an HSA on your behalf (such as via a cafeteria plan) the contributions can be excluded from your gross income;
- Your account contributions can remain in the account year-after-year until you use them – there is no annual “use it or lose it” clause;
- Growth in the account (via interest, dividends, or capital gains) is tax-free;
- Distributions from the account are tax-free if used for qualified medical expenses; and
- Your HSA is portable – not tied in any way to your employment with a particular employer. You take the account with you if you change employers or leave the workforce.
Qualifications for an HSA
In order for you to qualify for an HSA, the following conditions must be met:
- You have an HDHP;
- You (and your spouse, if married) cannot have any other health plan beyond the HDHP, with the exception of another plan that is limited to the following coverages:
- dental care,
- vision care,
- long-term care,
- benefits related to worker’s compensation laws, tort liabilities, or ownership or use of property,
- specific disease or illness, or
- a fixed amount per day (or other period) of hospitalization.
- You are not entitled to Medicare benefits (i.e., beginning with the first month that you are eligible for benefits under Medicare, you can no longer contribute to an HSA. You are still allowed to take distributions from your existing plan, however.); and
- You cannot be claimed as a dependent on someone else’s tax return.
Qualified Medical Expenses
Qualified medical expenses are those that qualify for the medical and dental expenses deduction under §213. Examples include amounts paid for doctors’ fees, prescription and non-prescription medicines, and necessary hospital services not paid for by insurance. Qualified medical expenses must be incurred after the HSA has been established.
You cannot deduct qualified medical expenses as an itemized deduction on Schedule A (Form 1040) that are equal to the tax-free amount of the distribution from your HSA.
In Part 2 we’ll cover the contribution limits as well as some of the other special considerations for the HSA.
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