QUERY: What is an “HSA”?

RESPONSE: The following material is found in Ceridian's Benefits Compliance Reference System:

Health Savings Accounts (HSAs)

Introduction

In recent years, consumers and employers have expressed a renewed interest in engaging the consumer more directly in health care purchasing decisions.  In response, many health insurance plans have developed consumer choice health plans, which encompass a variety of approaches to health care financing designed to improve consumer awareness of costs and quality of their health care.  Sometimes called consumer-directed, consumer-driven or consumer-centric health plans, the emergence of this category of health insurance benefit design remains an ongoing, evolving process.

The development of consumer choice health plans received a boost when Congress authorized the creation of health savings accounts (HSAs) as part of the 2003 Medicare Modernization Act.  HSAs can be set up by consumers or by employers and give individuals the opportunity to use tax-free funds to pay medical bills and to save for future health care expenses.  HSAs are established in combination with insurance coverage under a qualifying high deductible health plan.

Overview

Eligibility

To establish and contribute to an HSA, an individual must adhere to the following rules:

• Be covered by a high-deductible health plan (HDHP) that meets federal requirements.
• Not have other health insurance.  (Individuals with certain limited benefit policies, such as accident-only, dental, vision, workers’ compensation, disability, or long-term care coverage may still be eligible for an HSA.)
• Not be enrolled in Medicare.  Medicare beneficiaries cannot contribute to an HSA; however, they may spend money contributed to an HSA prior to their enrollment in Medicare.
• Not be claimed as a dependent on someone else’s tax return.

Establishing an HSA

If an individual’s employer does not offer an HSA, the individual can establish an HSA with the following:

• A health insurance plan.  A growing number of health insurance plans offer HDHPs and administer HSAs.
• A bank or credit union or another organization that has been approved by the Internal Revenue Service (IRS) to serve as an HSA trustee.

Note:  These entities can only establish the HSA.  They do not provide HDHP coverage.

High-Deductible Health Plans

An HDHP, according to the rules governing HSAs, is a health plan with the following:

• An annual deductible of at least the following:
  • $1,100 for self-only coverage.
  • $2,200 for self and family coverage.
• Limits on annual out-of-pocket expenses (deductibles, co-insurance, and co-payments), which may not exceed the following:
  • $5,600 for self-only coverage.
  • $11,200 for family coverage.

Note:  These are the requirements for 2008; the dollar amounts are indexed annually for inflation.

Preventive Care

The IRS has ruled that a HDHP may cover certain types of preventive care without a deductible or with a lower deductible than the annual deductible applicable to all other services.  According to IRS guidance, the types of services that may be considered preventive care include the following:

• Routine prenatal and well-child care.
• Immunizations for children and adults.
• Periodic health evaluations, including tests and diagnostic procedures ordered with routine examinations, such as annual physicals.
• Smoking cessation programs.
• Obesity weight-loss programs.
• Screening services (such as mammography, Pap testing, screening for glaucoma, or tuberculosis).
• Limited categories of medications, including the following:
• Medications used as part of procedures to provide any of the preventive services previously listed.
• Medications to prevent a disease or condition when a person has risk factors but no symptoms of the disease or condition (such as cholesterol-lowering medication to help prevent heart disease for people with high cholesterol).
• Medication to prevent recurrence of a disease from which a person has recovered (such as ACE inhibitors by individuals who have previously suffered a heart attack or stroke).
• Treatment that is incidental or ancillary to a preventive care service or screening where it would be unreasonable or impractical to perform another procedure to treat the condition (such as removal of polyps during a diagnostic colonoscopy).

The exceptions for preventive care do not include any service, benefit, or medication to treat an existing illness, injury, or condition.

Federal Tax Benefits of HSAs

Among the federal tax benefits of HSAs are the following:

• Individuals can deduct from their federal income taxes the amount of their HSA contributions, whether or not they itemize.
• Employer contributions to an HSA on an individual’s behalf are not counted as taxable income.
• If someone else makes an HSA contribution on an individual’s behalf, only the individual can deduct the contribution.
• Individuals can withdraw funds from an HSA tax-free to pay qualified medical expenses.
• All earnings on HSAs are tax free.
• Employer contributions are not subject to withholding for purposes of the Federal Insurance Contributions Act (FICA), Federal Unemployment Tax Act (FUTA), or the Railroad Retirement Tax Act.

Contributions

Contributions to HSAs may be made by the following:

• An employee.
• An employer on behalf of an employee.
• A self-employed individual.
• Individuals without job-based health insurance.
• Any person, such as a family member, on behalf of an eligible individual.

Contribution Limits

In 2008, total contributions to an HSA cannot exceed $2,900 for self-only coverage and $5,800 for family coverage. 

Individuals age 55 and older may also make additional catch-up annual contributions of the following amounts:

• $900 for 2008.
• $1,000 for 2009 and later.

Individuals are responsible for ensuring that their annual HSA contributions do not exceed the maximum allowed by law. 

Salary Reduction

Employers can arrange for employees to contribute to HSAs through salary reduction.  Employers contributing to HSAs are not required to make the entire contribution available at the beginning of the year.  Once an employer contributes to an HSA, the funds become the employee’s property.  Employers are not permitted to take back unused HSA contributions.

Use of Funds

The individual controls use of funds in HSAs and can decide when and how much to contribute (up to the allowable maximums).  Individuals also decide on the following:

• Which custodian or trustee will hold the account.
• Whether to invest any of the money in the account.
• Which investments to make.

Expenses Payable by HSAs

Individuals can withdraw HSA funds tax free to pay qualified medical expenses as defined by the IRS.  These medical expenses include, but are not limited to, the following:

• Doctors’ office visits.
• Hospital care.
• Dental care.
• Vision care.
• Prescription drugs.
• Over-the-counter medications.
• Co-payments.
• Deductibles.
• Co-insurance.

Health Insurance Premiums

Individuals can use HSA funds to pay for the following types of health coverage:

• COBRA continuation coverage.
• Health coverage purchased while an individual is receiving unemployment compensation.
• Qualified long-term care insurance.
• When age 65 or older, premiums for any health insurance, except Medicare supplemental policies (also known as Medigap).