2. What Are the Advantages of an HSA?

Tax benefits include an income tax deduction on the federal level and in most states, payroll tax avoidance, tax-deferred earnings growth and tax-free distributions.

The nontax benefits of HSAs are also significant. The account balance rolls over from year to year. The HSA is transferable and remains after separation from service.

Account owners own the money in their HSA and can use it as they see fit, and they pay lower insurance premiums.

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3. What Are the Disadvantages of HSAs?

Many of the disadvantages of HSAs are only in comparison with traditional low- or no-deductible health insurance. Under current law, HSAs must be paired with a high-deductible health plan.

An account owner may face a large medical expense before they have time to build a sufficient balance in the HSA. They also must take more responsibility to "shop around" for their health care spending. They must handle tax reporting and save medical receipts, along with learning the HSA rules and following them to avoid negative tax consequences.

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4. Who Is Eligible for an HSA?

For the purposes of an HSA, an eligible person is one who, for any month, is covered under an HDHP as of the first day of that month and is not also covered under a non-high-deductible health plan providing coverage for any benefit covered under the high-deductible health plan. A person enrolled in Medicare Part A or Part B may not contribute to an HSA. Mere eligibility for Medicare does not preclude HSA contributions.

A person may not contribute to an HSA for a given month if they have received medical benefits through the Department of Veterans Affairs in the previous three months. A person shall not fail to be eligible because of receiving hospital care or medical services under a law administered by the secretary of veterans affairs for a service-connected disability.

A separate prescription drug plan that provides any benefits before a required deductible is satisfied will normally prevent a beneficiary from being eligible for an HSA. The IRS has ruled that if an individual's separate prescription drug plan does not provide benefits until an HDHP's minimum annual deductible has been met, then the individual will be eligible under Section 223(c)(1)(A).

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5. What Are the Limits on Amounts Contributed to an HSA?

An eligible individual may deduct the aggregate amount paid in cash into an HSA during the taxable year, up to $3,650 for 2022 ($3,600 for 2021) for self-only coverage and $7,300 for 2022 ($7,200 for 2021) for family coverage.

For 2006 and prior years, the contribution and deduction were limited to the lesser of the deductible under the applicable HDHP or the indexed annual limits for self-only coverage or family coverage.

The determination between self-only and family coverage is made as of the first day of the month. The limit is calculated monthly, and the allowable deduction for a taxable year cannot exceed the sum of the monthly limitations.

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6. Are HSAs Covered by ERISA?

HSAs are generally not subject to the Employee Retirement Income Security Act of 1974 (ERISA). HSA plans avoid much of the complexity that goes with an ERISA-covered plan, making it a good choice for employers desiring greater simplicity. An employer that exercises too much discretion over employees' HSAs could cause an employer HSA program to become an ERISA plan, but that is not likely.

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7. What Is a High-Deductible Health Plan?

For the purposes of an HSA, the requirements for a high-deductible health plan (HDHP) differ depending on the coverage. For 2020-2022, an HDHP is a plan with an annual deductible of not less than $1,400 for self-only coverage. The family coverage deductible limit is $2,800 in 2020-2022. Annual out-of-pocket expenses for an HDHP cannot exceed $7,050 in 2022 ($7,000 in 2021) for self-only coverage. For family coverage, the annual out-of-pocket expense limitation is increased to $14,100 in 2022 ($14,000 in 2021). These annual deductible amounts and out-of-pocket expense amounts are adjusted for cost of living. Increases are made in multiples of $50.

In response to the evolving COVID-19 pandemic, the CARES Act permits HDHPs to cover the cost of telehealth services without cost to participants before the HDHP deductible has been satisfied. HDHPs providing telehealth coverage do not jeopardize their status as HDHPs. Plan members similarly retain the right to fund HSAs after taking advantage of cost-free telehealth services. Remote health services can be provided under a safe harbor rule through Dec. 31, 2021.

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8. How did the DOL Fiduciary Rule Affect HSA Programs?

The 5th Circuit vacated the Department of Labor fiduciary rule in 2018. As of the date of this publication, the Labor Department has proposed a new exemption to the prohibited transaction rules that would replace the 2016 rule. The exemption closely follows the basic concepts of the original rule. It remains uncertain how this new standard would affect HSA programs.

Labor's 2016 rule expanded the definition of a fiduciary so that it would apply in the context of providing investment advice for an HSA. The rule made HSA custodians (and potentially others) fiduciaries if they provide investment advice or recommendations for a fee or other compensation with respect to HSA assets.

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9. How Are Amounts Distributed From an HSA Taxed?

A distribution from an HSA used exclusively to pay qualified medical expenses of an account holder is not includable in gross income. Any distribution from an HSA that is not used exclusively to pay qualified medical expenses of an account holder must be included in the account holder's gross income.

Any distribution that is includable in income because it was not used to pay qualified medical expenses is also subject to a penalty tax. The penalty tax is 20% of includable income for a distribution from an HSA. For distributions made prior to Jan. 1, 2011, the additional tax on nonqualified distributions from HSAs was 10% of includable income.

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10. When May an Account Owner Transfer or Roll Over Funds Into an HSA?

Funds may be transferred or rolled over from one HSA to another HSA or from an Archer MSA to an HSA provided that an account holder effects the transfer within 60 days of receiving the distribution.

An HSA rollover may take place only once a year. The year is not a calendar year, but a rolling 12-month period beginning on the day when an account holder receives a distribution to be rolled over.

There is no limit on the number of transfers from one HSA trustee to another during a year, and there is no 60-day requirement.

Beginning in 2007, a taxpayer may, once in their lifetime, make a qualified HSA funding distribution — a transfer from an IRA to an HSA in an amount that does not exceed the annual HSA contribution limitation for the taxpayer.

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