Health Savings Account (HSA)
If you have maxed out on your 401(k) and your IRA and are looking for additional ways to set aside money for retirement without
paying Uncle Sam for it today, consider opening a health savings account on your own or through your employer. HSA's are the new Triple Crown of tax planning:
tax-free contributions, tax-free earnings and tax-free distributions.
Money magazine calls HSA's the new health IRA because they combine two ideas in one: they act like an IRA in that the amount contributed to the account can reduce
your taxable income; interest and earnings also accumulate tax free.
But unlike an IRA, you can withdraw money from the account at any time for current and future qualified medical expenses, including deductibles and other out-of-pocket
expenses. The premise behind an HSA: you manage the account yourself. Therefore, you have a financial incentive to shop for health care services in the same way you might
before buying a car. You also have a reason to stay healthy.
With an HSA, the emphasis is on savings. Like a passbook account, unused funds may be carried over from one year to the next. You own it.
The HSA goes with you whenever you retire or leave your employer.
By law, an HSA must be paired with a high deductible health plan (HDHP) that does not offer first-dollar medical coverage other than for preventive care services.
Typically, the HDHP is part of a network so you can take advantage of provider discounts. In 2006, the plan must have a minimum deductible of $1,050 for individuals and $2,100
for families. After you satisfy the deductible, the HDHP pays a percentage of your health care expenses; you pay the balance up to a flat dollar amount.
To be eligible, you must be under age 65 and not enrolled in Medicare. If someone else can claim you as a dependent on their tax return, that's a no-no.
Furthermore, you cannot have another medical plan in addition to the HDHP; disability, dental, vision and long-term care insurance are exceptions.
How It Works
Once your HDHP is in place, deposits to your HSA can begin; anyone - you, your employer, or a family member can contribute to it. Like most retirement plans, there
is a maximum contribution - the lesser of your deductible or (in 2009) up to $3,000 for single coverage and $5,950 for family coverage. If you are 55 or older, you can
contribute an additional $900. These "catch-up" contributions for those 55+ go up by $100 each year until they reach a $1,000 ceiling in 2009.
Say your employer contributes $525 to your HSA and you contribute an equal amount, for a total of $1,050; this figure equals your annual deductible.
Your doctor charges $100 to treat a strep throat. Later that year, you purchase medications totaling $400. So at the end of the year, you've withdrawn $500 from the account
to cover qualified medical expenses; the balance of $550 will roll over to next year.
Because of the high deductible, the rates on an HDHP are considerably less than a conventional medical plan. Often you can save as much as 20 to 40 percent in premiums.
These rates make HSA's attractive to businesses both large and small-as well as to the self-employed or uninsured.
Contributions tax-free: Because an employee's contributions to an HSA are generally pre-tax, your taxable income goes down when you contribute to an HSA.
How much? Let's say a woman with a family income of $60,000 deposits $2,000 into an HSA. If she is in the 28% federal tax bracket, she saves $560 in taxes.
And many states also allow you to deduct the amount of your contribution for state tax purposes.
Self-employed individuals can contribute on an after-tax basis and take an above the line deduction. Plus, they can deduct 100% of the cost of the premiums for their
HDHP from their federal income taxes.
If your employer contributes to an HSA on your behalf, you are not subject to tax on those contributions either.
Withdrawals tax-free: Once the funds are in the account, you can withdraw them, tax-free, provided you spend the funds on health care expenses that the IRS considers to be eligible.
What are these expenses? These are the same expenses that the IRS allows you to deduct once they exceed 7 1/2 % of your adjusted gross income.
Typical expenses are items like prescription and over the counter drugs, dental expenses, eyeglasses, hearing aids, as well as any coinsurance or deductibles.
Earnings tax-free: One of the biggest benefits of an HSA is that interest and investment return accrue to the account on a tax-free basis.
You would incur tax only if you withdraw funds to use for expenses that are not qualified-and you would also incur a 10% penalty. Beginning at 65, you can withdraw the funds
for any purpose without paying the penalty-and while you'll pay income taxes on the distribution, presumably it will be at a time when your income is lower.
When a Health Savings Account (HSA) distribution is used to pay for "Qualifying Medical Care Eligible Expenses" of the account beneficiary, his or her spouse, or dependent children,
the distribution is excluded from gross income.
You're in charge and there's flexibility. You may open an HSA with any institution that has IRS approval to offer them - for example, a bank or an insurance company.
Typically, your employer will be working with an institution that can assist you with setting up your account. Your investment options will differ, depending on the institution
that holds your account. Among the choices that may be offered are:
•Certificates of deposit
•Money market accounts
Some of these options, such as mutual funds, may require a minimum balance to open. Also, the institution generally charges some administrative fee for managing the account.
Most employees prefer the convenience of a typical savings account with a debit card option that can be used to pay for any eligible expense right in the doctor or providers facility.
The IRS lists the following expenses as examples of qualified HSA expenses that may be eligible for HSA reimbursement: Refer to See
IRS Pub. 502 for a complete list.
The term "qualified medical expenses" are expenses paid by the account beneficiary, his or her spouse or dependents for medical care as defined in section 213(d)
(including nonprescription drugs as described in Rev. Rul. 2003-102, 2003-38 I.R.B. 559), but only to the extent the expenses are not covered by insurance or otherwise.
Some examples may include:
•Medicine, drugs, birth control pills, and vaccines that your doctor prescribes and that are FDA approved.
•Medical doctors, dentists, eye doctors, chiropractors, osteopaths, podiatrists, psychiatrists, psychologists, physical therapists,
acupuncturists and psychoanalysis (medical care only)
Medical Exams, x-ray and laboratory services, insulin treatment and whirlpool baths the doctor prescribed.
•Nursing help. If you pay someone to do both nursing and housework, you can be reimbursed only for the cost of the nursing help.
•Hospital care (including meals and lodging), clinic costs and lab fees.
•Medical treatment at a center for substance abuse.
•Medical aids such as hearing aids (and batteries), false teeth, eyeglasses, contact lenses, braces, orthopedic shoes,
crutches, wheelchairs, guide dogs and the cost of maintaining them.
•Ambulance service and other travel costs to get medical care.
If you use your own car, you can claim what you spend for gas and oil to go to and from the place you received the care; or your can claim 10 cents a mile.
Add parking and tolls to the amount you claim under either method.
The IRS lists the following expenses as examples of expenses that may NOT be qualified under your HSA for reimbursement:
Refer to See IRS Pub. 502 for a complete list.
•Health insurance premiums other than those listed above, including Medigap policies
Life insurance or income protective policies.
•The hospital insurance benefits tax, withheld from your pay as part of the Social Security tax or paid as part of Social Security self-employment tax.
•Nursing care for a healthy baby.
•Illegal operations or drugs.
•Travel your doctor told you to take for rest or change.
Exceptions To Insurance Premiums That Qualify
Some insurance premiums are considered Qualifying Medical Care Expenses:
•Qualified long-term care insurance.
•COBRA health care continuation coverage.
•Health care coverage while an individual is receiving unemployment compensation.
•For individuals over age 65 -- premiums for Medicare A or B, Medicare HMO, and the employee
share of premium for employer-sponsored health insurance.
If you're considering an HSA distribution for an expense not addressed here, consult your tax advisor or refer to the
If you are healthy and can forestall dipping into your HSA for medical expenses year after year, there is potential for creating a nest egg
for retirement through the magic of compounding. The amount of that nest egg will vary depending on the rate of return on your investment(s),
the amount you and your employer contribute each year, your age when you started making contributions, how much you have withdrawn from the account over the years,
and market conditions.
For more information on HSA's and how they can benefit your company contact AVI Services
or visit the Department of Treasury online.