Be Ready to Answer These Thorny HSA Distribution Questions
Health savings accounts (HSAs) continue to be a popular choice for employers and individuals looking to offset the rising cost of healthcare and insurance premiums. According to the 2017 Midyear Devenir HSA Research Report, the number of HSAs rose to 21 million, which is a 23 percent increase in HSA assets and 16 percent growth in the number of accounts from June 2016 to June 2017. This upward trend of HSA growth shows no signs of slowing down.
As the number of HSAs continues to grow, you will see an increase in the number of HSA-related questions you get from your customers. Being able to answer to these confusing HSA distribution questions will set you apart as an HSA expert and a provider of good customer service.
Can an HSA owner use her HSA to pay for her spouse or dependent’s medical expenses even if the spouse or dependents are not HSA-eligible?
Yes, an HSA owner may use her HSA to pay for qualified medical expenses for herself, her spouse, and her dependents—even if the spouse and the dependents themselves are not HSA-eligible. Dependents must be claimed on the HSA owner’s tax return. And the medical expenses cannot be covered by another insurance plan. The determination of whether a person is a dependent can be complex. HSA owners should consult their tax advisor and see instructions on Form 1040, U.S. Individual Income Tax Return, for more details.
An HSA owner plans to enroll in Medicare in May 2018. Must he distribute all of his HSA assets before he enrolls in Medicare?
No, an HSA owner who enrolls in Medicare is no longer eligible to contribute to his HSA beginning with the month that he enrolled in Medicare. But he can continue to maintain his HSA and use the HSA assets to pay for current and future medical expenses. Enrollment in Medicare applies to all parts of Medicare—Part A, B, D, and any other part.
We’ve noticed that some of our HSA owners write checks and use their debit cards for nonmedical purposes (e.g., restaurants, daycare centers, vacations). Are HSA owners allowed to do this, and are we supposed to monitor this?
HSA assets are payable on demand. And HSA owners can take distributions for any reason. But if the distribution is nonqualified, it is taxable and subject to an additional 20 percent penalty tax unless a penalty exception applies. Financial organizations are not responsible to monitor if HSA owners use their HSA for qualified medical expenses or not; HSA owners are responsible for tracking and maintaining proof of this. Remember, too, that an HSA owner is entitled to reimburse herself for medical expenses she paid out-of-pocket. Use of check or card for an apparent nonmedical expense may be no more than a permissible noncash reimbursement.
An HSA owner incurred a medical expense in 2016 and decided to pay the expense out-of-pocket. Now it’s 2018 and she wants to reimburse herself for the medical expense she paid out-of-pocket in 2016. Must HSA owners reimburse their expenses in the same year?
Perhaps surprisingly, the answer is no. The IRS is clear in Notice 2004-50, Q&A 39. An HSA owner may take qualified distributions in the current year to pay for prior-year medical expenses as long as the expenses were incurred after the HSA was established. There is no time limit on when a distribution must occur. The HSA owner, however, must keep sufficient records to prove that distributions do not exceed qualified medical expenses and that the expenses have not previously been paid for or reimbursed from another source or taken as an itemized deduction in any prior tax year.
An HSA owner took a distribution to cover what she believed to be a medical expense, but she learned later that it was covered by her high deductible health plan. Can she put the mistaken distribution back in her HSA?
Yes, if your financial organization allows for it. You are not required to accept mistaken distributions. If you choose to accept the mistaken distribution, you may rely on the HSA owner’s representation that the distribution was a mistake. A mistaken distribution is any distribution that was a result of reasonable cause because of a mistake in fact. The IRS allows an HSA owner to “correct” the mistake by returning the distributed amount to the HSA and treating it as though the distribution never occurred. An HSA owner has until April 15 following the first year the HSA owner knew (or should have known) that the distribution was a mistake to repay the assets to her HSA.
Must we report the mistaken distribution to the IRS?
No, according to the Instructions for Forms 1099-SA and 5498-SA, if you choose to accept mistaken distributions, do not report the distribution amount on Form 1099-SA or the recontributed amount on Form 5498-SA. If you did report the mistaken distribution, you should file a correction as soon as the error is discovered.