A person’s ability to contribute to an HSA account is determined individually by the health coverage that person carries. Medicare coverage is not compatible with HSA eligibility, but it is individual coverage. So if a spouse is covered by Medicare, that fact has no bearing whatsoever on the other spouse’s ability to contribute to an HSA account, since HSA accounts are individual trust accounts.
What matters is whether you carry the proper HSA-qualified health coverage and whether that health plan is just for you or covers at least one other person (including someone who is covered by Medicare or some other disqualifying coverage).
A common question to AskMrHSA.com involves an employee with HSA qualified plan covering himself and his spouse who is now on Medicare but remains covered by his HSA family plan at work. He can no longer contribute to his HSA account, but may continue to use it to pay for out of pocket medical expenses, including most Medicare premiums (after age 65) for the rest of his life. The good news is that his younger spouse who is not yet enrolled in Medicare, may open and contribute to her own HSA because she is covered by the same HSA-qualified plan. Because that plan covers more than one person, she may contribute at the family level. The couple may even use the husband’s earnings to fund her account and use her account to pay for his out of pocket expenses.
If you are not HSA-eligible but your spouse is, your employer might choose to give your spouse the same employer contribution that it offers to other employees. In this situation, your employer can make a contribution to your spouse’s account. The contribution is included in your taxable income, and your spouse can deduct it on his or her personal income tax return (or the two of you can deduct it on your joint tax return). Employers need to be careful that they do not engage in discriminatory practices by selectively offering this benefit to certain employees only.
IRC Section 223((b)(7), IRS Notice 2004-50, Q&A 2, and IRS Notice 2008- 59, Q&A 26.
The IRS considers your eligibility on the first day of each month. If your coverage changes during the year, you must pro-rate each month’s eligibility to calculate a new maximum contribution total for that tax year. You then have until April 15th following that tax year to complete your contribution.
Examples would be starting or losing your HSA-qualified coverage during the year, enrolling in Medicare or Medicaid mid-year, recieving non-preventive medical care at the VA or Indian Health Service, or changing from a family HSA plan to one that covers only you.
To pro-rate, you divide the number of months that you were HSA-eligible by twelve months, then multiply that fraction by the contribution that you were entitled to make if you did not lose your eligibility. The instructions for IRS form 8889 will walk you through the process.
For example, if you are under age fifty-five and covered on a self-only policy and you lose coverage effective July 1, 2015 (for example, by enrolling in Medicare or leaving your job without continuing your insurance), you would divide six months of coverage by twelve months (the fraction 6/12) and multiply that fraction by your statutory maximum annual contribution of $3,350 for a maximum contribution of $1,675.
If you are age fifty-five or older, you also can pro-rate your $1,000 catch-up contribution (an additional $500), for a total contribution of $2,175.
However, if you become HSA-eligible during the year and are eligible as of December 1, you can pro-rate or make a full contribution. This is commonly called the “Last Month Rule”.
If you pro-rate, you take the number of months that you are HSA-eligible and divide that figure by twelve, then multiply by the statutory maximum annual contribution for that year. If you are under age fifty-five, enroll on a family contract, become HSA-eligible April 1, 2015, and remain HSA-eligible the remainder of the year, you can contribute 9/12 of $6,650 or $4,987.50.
Alternatively, under the “last month” rule, you can make a full contribution for the year ($6,650, given the facts above) if you are HSA-eligible as of December 1 and remain HSA-eligible through the end of the following calendar year. In our example above, you need to remain HSA-eligible through December 31, 2016, to make the full contribution for 2015. If you fail to remain HSA-eligible through the “testing period” (which begins December 1, 2015, and extends through December 31, 2016, in the example above), you must include any contribution above the pro-rated amount in your taxable income and pay a 10% penalty.
Unlike a normal excess contribution, you do not have to remove the contribution from your account and the interest or other gain does not figure into the penalty. Here’s an illustration of the financial impact of losing HSA eligibility during the Last Month rule testing period.
Again, using the example above, you fail to renew your enrollment in an HSA-qualified plan April 1, 2016, after making a full $6,650 contribution for 2015. You must pro-rate your 2015 contribution ($6,650 that you contributed less the $4,987.50 pro-rated maximum equals an excess contribution of $1,662.50).
You then include the $1,662.50 excess contribution in your 2016 taxable income and pay a 10% penalty ($166.25). Your net loss is really just $166.25, because that’s your only additional actual cost above what you would have paid in taxes had you pro-rated your contribution.
IRC Section 223(b)(2) and IRS Notice 2004-2, Q&A 13. IRC Section 223(b)(8)(B), IRS Notice 2004-2, Q&A 22 and Health Opportunity and Patient Empowerment Act of 2006, Section 5.
Once you reach age fifty-five, you can make an additional annual $1,000 catch-up contribution to your HSAs.
As with qualified retirement plans, you are allowed to increase your contributions as you grow older (though the catch-up contribution for qualified retirement plans kicks in five years earlier at age fifty and often is quite a bit greater than the $1,000 additional HSA contribution).
This $1,000 figure, which is not adjusted for inflation, allows you to reduce your taxable income further and increase your HSA balance as you approach retirement.
You are eligible to make the catch-up contribution in any tax year when you are age 55 or older by December 31st. Like other contributions, you have until April 15 of the following year to complete your catch-up contribution. If you are only eligible for part of the year, the $1000 catch-up contribution must be pro-rated.
Both spouses may make catch-up contributions if both are eligible individuals and both spouses have established an HSA in their name. The catch-up contribution must be made in an HSA owned by each eligible person.
IRC Section 223(b)(3) and IRS Notice 2004-2, Q&A 14
If an individual is covered by separate medical insurance and prescription drug or behavioral health plans, both/ all plans must be HSA-qualified plans in order for the individual to remain HSA-eligible.
Sometimes, large employers assemble components of their employees health coverage rather than buying a single comprehensive plan that includes all medical benefits. In these cases, employers contract with a prescription drug or behavioral health program, then purchase a health insurance plan that “carves out” that service. You still receive comprehensive care, and you may not even notice the difference as you access care, but you technically have two or more health plans. In this case, for you to be HSA-eligible, one of two things needs to happen.
First, the two or three separate components must coordinate with each other to track your deductible, so that no plan begins to pay benefits before you reach the statutory minimum annual deductible.
Second, as a less attractive alternative, both/all plans must have separate deductibles that meet the statutory minimum annual deductible ($1,300 for self-only and $2,600 for family contracts in 2015). Under this second scenario, if your employer offers separate health and prescription drug plans and the two plans do not coordinate deductibles, each component must have a minimum $2,600 deductible (which could result in up to $5,200 or $7,800 total deductible expenses) for a family contract.
Many times, a second health plan such as Medicare, Medicaid, a full Health FSA or HRA will disqualifiy you from contributing to an HSA account.
If both you and your spouse are HSA-eligible, enrolled on a family contract and have your own HSAs, you can contribute no more than the statutory maximum annual contribution.
You can each contribute to your own HSA in any amount that you choose, as long as the sum of the contributions to the two HSAs does not exceed the statutory maximum annual contribution, less any reductions that apply to your particular situation. For many married couples, it makes sense for only one spouse to maintain an HSA, since accountholders often incur maintenance fees and either spouse’s HSA can reimburse the other’s expenses. The two-HSA approach may make sense if you prefer separate finances, have an HSA with a balance from your former employer’s coverage or the spouse without an HSA is eligible to make a catch-up contribution.
If both you and your spouse are HSA-eligible and enrolled on two self-only contracts, you can allocate your total contribution between the two HSAs as you wish, so long as you contribute no more than the statutory maximum annual family contribution in total to the two HSAs.
In some years, like 2015, the total of two individual contributions may be higher than the family total, and a married couple is limited to the family limit in total. This situation occurs most often when two working spouses with no children find that it costs them less in premiums to purchase two individual contracts than to have family coverage. If you are in this situation, you may be limited in making Cafeteria Plan contributions, because your spouse’s and your employer’s may limit each of you to the maximum contribution for a self-only contract. If you face no such limit, there may be strategic reasons to contribute more to one HSA than the other.
For example, you may want to contribute disproportionately to the older spouse’s HSA to ensure adequate balances to pay Medicare premiums at age sixty-five, since they may only be paid from an account owned by an individual age sixty-five or older.
IRC Section 223 (b)(5) (b)(2) and IRS Notice 2004-50, Q&A 32, IRS Notice 2008-59, Q&A 17
If you are covered by a general Health FSA, you are not HSA-eligible, but both Limted-Purpose FSAs and Post-Deductible FSAs are compatible with HSAs.
A Health FSA is an employer-sponsored program through which employees can elect to receive a portion of their compensation in nontaxable benefits rather than cash. Employees make an annual election, and the employer withholds this amount from their paychecks in equal installments throughout the year. The withholding occurs before the money is taxed. For the typical employee subject to 30% combined federal and state tax withholding, every dollar that he elects to place in a Health FSA reduces his take-home pay by about 70 cents, but the full dollar goes into the Health FSA and is available to the employee to spend on eligible expenses.
Expenses eligible for reimbursement through a general Health FSA include medical, prescription drug, dental and vision expenses, as well as over-the-counter equipment and supplies (and over-the-counter drugs and medicine with a valid prescription) and certain health-related travel and parking expenses.
A Limited-Purpose Health FSA reimburses dental and vision expenses only, plus select preventive services that are not covered in full.
A Post-Deductible Health FSA does not begin to pay benefits until the subscriber has met a deductible responsibility at least equal to the statutory minimum annual deductible for his contract type on an HSA-qualified plan.
The IRS defines a Health FSA as a health plan. In the eyes of the IRS, your election of $2,000 to a Health FSA really is a $2,000 premium payment that you make to receive a $2,000 benefit. In this case, even if you are covered under an HSA-qualified plan as well, your general Health FSA does not meet the design requirements of an HSA-qualified plan. You thus have disqualifying coverage and are not HSA-eligible, nor is your spouse.
If your spouse is enrolled in a general Health FSA through his or her employer, neither you nor your spouse is HSA eligible.
A general Health FSA reimburses medical, prescription drug, dental, vision, and certain over-the-counter item expenses of the plan subscriber, spouse, and dependent children. It does not matter whether you or your spouse is the general Health FSA subscriber.
Under the federal tax code, you and your spouse are automatically covered under your own or your spouse’s general Health FSA by virtue of your relationship as husband and wife.
If you are offered an opportunity to enroll in an HSA-qualified plan during your own (or your spouse’s) general Health FSA plan year, you cannot opt out of the Health FSA to become HSA-eligible immediately. You are allowed to enroll in, disenroll from, or change your election to a Health FSA midyear only with a qualifying life-change event (such as marriage, divorce, birth, adoption, or death). Your change must be consistent with the event (so that, for example, if you marry, you typically cannot add one or more people to your health plan and then decrease your Health FSA election). Merely being offered the opportunity to enroll in a general Health FSA is not a qualifying event, and you cannot disenroll from your own (nor can your spouse disenroll from his or her) general Health FSA midyear so that you can gain HSA eligibility upon enrollment in the HSA-qualified plan.
If you have a health plan anniversary and general Health FSA with a different plan year, you have as many as three options:
- Choose not to enroll in an HSA-qualified plan.
- Enroll in the HSA-qualified plan, understand that you will not be HSA-eligible until the end of the general Health FSA plan year, and pay any HSA-eligible expenses from the remaining funds in your Health FSA (you’ll get the same tax benefit, though you may run out of Health FSA funds because you made your election based on not having an HSA-qualified health plan as your insurance coverage).
- Delay enrollment in the HSA-qualified plan for a year (if you have a choice of plans during open enrollment), choose not to participate in the general Health FSA the following year, understand that you’ll have a period of time after the end of the general Health FSA plan year during which you cannot pay for eligible expenses with tax-free dollars, and then enroll in the HSA-qualified plan on your next health plan anniversary date.
Your choice of strategies will depend on your health plan options and the amount of overlap between the general Health FSA and HSA plan years. For example, if your health plan anniversary is April 1 and your general Health FSA runs through December, the third option may make more sense. If your health plan anniversary is April 1 and the general Health FSA year runs through May 31, the second approach (with only a two-month gap during which you cannot reimburse eligible expenses taxfree) may be a better option.
If you are or your spouse is enrolled in a general Health FSA at the time of enrollment in an HSA-qualified plan, you cannot establish or begin to make contributions to or receive tax-free reimbursements from an HSA until the end of the general Health FSA plan year.
If your general Health FSA has a grace period, you must act prior to the end of the twelve-month plan year to become HSAeligible before the beginning of the grace period.
Employers are permitted to add a grace period to their Health FSAs.
A grace period is an additional 2 months after the close of the twelve-month plan year during which participants continue to accumulate expenses eligible for reimbursement out of that year’s Health FSA election, thus reducing participant forfeitures.
This is a nice benefit to employees, who have 14 months to accumulate expenses that they can reimburse with that year’s elections.
If your Health FSA has a grace period, you must act decisively to become HSA-eligible at the end of the twelve-month year. You must spend your entire Health FSA election so that your FSA administrator’s books show you with zero cash balance prior to the end of the twelve-month year (prior to the beginning of the grace period).
If you spend your entire election before the end of the twelve-month year, you become HSA-eligible immediately at the end of the twelve-month Health FSA year (assuming that you are otherwise HSA-eligible).
If you carry any balance (even a penny) into the grace period, you cannot become HSA-eligible until the end of the grace period.
If you reduce your balance to zero by the middle of the first month of the grace period, for example, you cannot become HSA-eligible as of the first day of the second month of the grace period. A grace period typically runs 2 months, carrying it through the middle of a month.
Since HSA eligibility is determined as of the first day of a month, you cannot become HSA-eligible until the first day of the following month (three full months after the end of the twelve-month Health FSA plan year). If you are not HSA-eligible, you cannot use your Health FSA funds to reimburse any expenses incurred during the grace period if you have not previously established you HSA account.
If your Health FSA includes a rollover of up to $500, you need to act to protect your HSA eligibility.
In October 2013, the IRS ruled that employers could amend their Health FSA plans to allow a rollover of up to $500 into the following plan year. Under this provision, participants can roll over a limited balance amount for an unlimited time period.
(By contrast, the grace period allows an unlimited balance amount rollover for a limited time.)
The IRS says there are three ways to act to preserve your HSA eligibility when transitioning from a Health FSA with a rollover feature:
First, as with the grace period, if the Health FSA participant spends her entire FSA balance by the end of the Health FSA plan year, she can become HSA-eligible as soon as she enrolls in the HSA-qualified plan (assuming that she is otherwise HSA-eligible).
Second, employers may allow employees choose before the end of the plan year to transfer funds into a Limited-Purpose FSA. Employers are also allowed to automatically move employees’ unused dollars into a Limited-Purpose FSA for all who select an HSA-qualified plan in the following plan year.
Finally, the IRS allows for employers to give the option for an employee to simply decline or waive participation in the balance rollover provision to maintain HSA eligibility.
IRS Rev. Rul. 2004-45, Situation 1. IRC Section 223(c)(1)(B)(iii) as amended and Health Opportunity Patient Empowerment Act of 2006, Section 5(b). (IRS Memorandum 201413005 dated 3/28/14).
Unfortunately, the HSA Rules are not kind to most active duty military members and veterans. Tri-Care is a disqualifying coverage and being treated by the Veterans Administration causes you to temporarily lose HSA eligibility every time you recieve non-preventive care.
TRICARE plans do not meet the requirements of an HSA-qualified plan. Regardless of whether or not you are also enrolled in an HSA-qualified plan, your enrollment in TRICARE, which does not currently have an HSA-qualified option, makes you ineligible to establish and contribute to an HSA.
If you receive non-preventive care from a Department of Veterans Services (VA) facility, you lose your HSA eligibility for a period of three months.
If you are otherwise HSA-eligible, you can regain your HSA eligibility as of the first day of the first month after the three-month period immediately following the end of your cycle of care through the VA. Thus, being eligible to receive care through the VA system (which offers care with cost-sharing that does not meet the standards for an HSA-qualified plan) does not in itself disqualify you from being HSA-eligible.
Rather, accessing care (a situation that you can control) for non-preventive services compromises your eligibility temporarily.
There may be times when you benefit financially by receiving treatment through the VA rather than have those services subject to the deductible through your HSA-qualified plan, even if you lose HSA eligibility temporarily.
The net effect of one mid-year VA treatment is the loss of three month’s HSA eligibility for that tax year. You still have until tax day of the next year to complete 9/12ths of your total contribution for that year.
IRS Notice 2004-50, Q&A 6, IRS Notice 2004-50, Q&A 5
You can make your annual contribution up to the due date of your personal income tax return for that year.
You have 15 months to make your contribution to your HSA for a given tax year, just as you do with an IRA. This flexibility helps you to maximize your contribution.
When you make a contribution for the prior year, be sure to tell your trustee to apply the contribution to the previous year. Otherwise, a trustee will apply a contribution to the year that it is received. Your trustee typically provides some form of deposit slip or online selection for personal contributions that allows you to state the year to which to apply the contributions.
Note: You usually cannot make contributions that apply to the prior year through pre-tax payroll contributions if your employer offers a Cafeteria Plan.
Even in pro-rated situations, once you figure out your revised contribution limit, you have until April 15th of the following year to complete it. This even applies when you lose your HSA qualifying coverage or go on Medicare mid-year – if you have not maxed out your partial year contribution before losing your HSA eligibility, you may do so by the next April 15th tax day.
IRS Notice 2004-2, Q&A 21.
You can continue to contribute to an HSA after your sixty-fifth birthday, as long as you remain HSA-eligible.
A sixty-fifth birthday is a milestone but by itself does not impact an individual’s HSA eligibility. As long as you are HSA-eligible and do not enroll in any Part of Medicare, you can still contribute to an HSA. Once you enroll in any Part of Medicare at age sixty-five or older (or younger, if you are disabled or diagnosed with end-stage renal disease or Lou Gehrig’s disease), you lose your HSA eligibility.
Individuals are often confused about how and when they are enrolled in Medicare. The common perception is that individuals are enrolled automatically in Part A when they reach age 65. This is not the case, however. Rather, individuals become enrolled in Part A in one of two ways:
- They apply and are approved to receive Social Security benefits, which triggers their automatic enrollment in Medicare (unless they receive Social Security benefits before age sixty-five, in which case their automatic enrollment in Medicare is delayed until they reach age sixty-five).
- They apply for Part A benefits at age sixty-five, or earlier, if they meet the IRC definition of disabled or are suffering from End-Stage Renal Disease (ESRD) or amyotrophic lateral sclerosis (ALS, or Lou Gehrig’s disease).
Key takeaway: An individual who does not want to enroll in Part A can delay enrollment by not signing up to receive Social Security benefits and not applying for Part A benefits.
Traditionally, individuals enrolled in Part A automatically, even if they remained actively at work (or a spouse remained actively at work) and were covered on their employer’s group coverage.
Since most individuals receive Part A premium-free, they experienced no downside to receiving this coverage, even if benefits were secondary to an employer’s plan and thus did not provide any additional level of coverage. In the HSA world, Part A-eligible individuals must weigh carefully their decision whether or not to enroll in Part A because it has implications for HSA eligibility.
Medicare Part B and Part D are available only to those who affirmatively apply for benefits. An individual chooses whether to enroll in Part B and/or Part D, making that choice upon turning age sixty-five, immediately after losing Medicare creditable coverage (coverage deemed at least as rich as Medicare, as determined by CMS) after age sixty-five or during Medicare’s annual open enrollment period after age sixty-five.
Individuals who enroll after age sixty-five and do not have Medicare creditable coverage prior to enrolling in Part B and/or Part D may be subject to Part B and Part D premium penalties. See Medicare and You, 2014 edition (available online), Section 2 (Part B), and Section 6 (Part D) for more details.
IRS Notice 2004-50, Q&A 2.
Your HSA life can be broken down into three or four distinct periods.
The first is the period of time during which you are HSA-eligible and thus can contribute to your HSA.
The second is the time during which you are not eligible to contribute to your HSA due to a temporary event (you experience a gap between periods of coverage under an HSA-qualified plan, or, less typically, you access non-preventive services through the VA or Indian Health Services).
Some accountholders may experience a third distinct period – the time during which they are not HSA-eligible, but may regain eligibility at some point before they lose eligibility for good. A common example is an HSA-eligible individual who changes jobs and enrolls in her new employer’s group health insurance plan, which is not an HSA-qualified plan. She cannot make additional contributions, but at some point, she may change jobs again, or her new employer may change health plans, so that she’s once again HSA-eligible.
The final period is when your are covered by Medicare and can no longer contribute but can only spend or pass your unused HSA dollars to your spouse or heirs.
There are specific action you can take to preserve your HSA eigibility during the second and third periods and preserve the ability to later fund your account to reimburse any out of pocket expense you incur during that time – even if it numbers in years or decades. This can be a huge tax advantage if you understand and follow this strategy.
The focus of this section is how to deal with the second and third situations. Let’s start with temporarily not being HSA-eligible.
The definition of this period is broad, essentially any period between when you were HSA-eligible and a permanent event like enrollment in Medicare. You may or may not eventually regain eligibility, and you may have no intention of ever regaining HSA eligibility, but we refer to this period as temporary because there remains a possibility that you could become HSA-eligible again.
When you are temporarily not HSA-eligible, your actions and strategies may have a huge impact on your ability to enjoy additional tax savings.
Let’s look at an example. You establish an HSA effective April 1, 2006, and remain HSA-eligible until you leave your employer and enroll in your new employer’s non-HSA-compliant health plan effective April 5, 2009. Then you switch jobs again and enroll in an HSA-qualified plan effective April 24, 2016. You thus have a seven-year period between May 1, 2009, and April 30, 2016, when you were not HSA-eligible.
As you’ve learned previously, once you establish an HSA, you can reimburse eligible expenses from that day forward for the rest of your life, provided that you retain an HSA balance. The phrase “provided that you retain an HSA balance” is the key to this strategy. As long as you have a positive balance in your HSA within eighteen months of your becoming HSA-eligible again, you can reimburse tax-free any eligible expenses that you (and your spouse and tax dependents at the time of the service) incur during any gaps in HSA eligibility (Internal Revenue Bulletin – Notice 2008-59, Question 41).
In our example above, as long as your HSA had a positive balance as of November 1, 2014 (eighteen months before you regained HSA eligibility as of May 1, 2016), you can reimburse any expenses that you incurred during the seven years between your loss of eligibility. Consider, though, that you often do not know whether or when you’ll become HSA-eligible again, so it does not make sense to spend your entire balance and start the eighteen-month clock ticking if you are not certain that you’ll regain eligibility in time.
You need to wait to become HSA-eligible again to replenish your old HSA (or a new HSA) with new contributions to reimburse those expenses, but you do not lose your ability to reimburse the expenses tax-free retroactively. As long as you have a positive balance within eighteen months of establishing the new HSA, your HSA establishment date reverts to the date that you established your original HSA.
By contrast, if your HSA balance dips to zero at any time within eighteen months prior to May 1, 2016 (November 1, 2014 or earlier), you can’t reimburse any eligible expenses tax-free that you incurred since you depleted your old HSA balance with your new HSA money. When you establish your new HSA on or after May 1, 2016, you can use balances that you contribute to make tax-free distributions only for eligible expenses that you incur after the establishment date of the new HSA. Even if you make an immediate lump-sum contribution to the new HSA sufficient to reimburse some of the old expenses, the door to tax-free distributions for those eligible expenses has been slammed shut.
If you are a saver, you will not have a problem. On the other hand, if you used your HSA more like a Health FSA, without intentionally saving balances for future use, you may not have had a large balance when you lost your HSA eligibility as of May 1, 2009 in our example above. You may have begun to deplete the balance shortly thereafter, confident that you’d be HSA-eligible again soon and could start contributing and using new balances to reimburse expenses tax-free again. Time passed, you remained at the job without the HSA-qualified plan, and your HSA balance dwindled. You stopped reimbursing any expenses because you were aware of this provision in the law.
However, your balance was sufficiently low that your HSA trustee began to deduct a $4 monthly administrative fee from the account. You offered to pay the admin fee with personal funds to preserve the HSA balance, but your trustee was not set up to collect admin fees outside the HSA. You thought about changing jobs just to regain HSA eligibility, but that move would have had consequences that outweighed the HSA advantage. You lost the account continuity that would have allowed you to keep your original HSA eligibility date.
There are risks and benefits to using this strategy.