Medical benefits are complex and can be confusing for both employers and employees. In my blog last month, I talked about Flexible Spending Accounts (FSAs). FSAs are often mistaken for Health Savings Accounts (HSAs).
Although FSAs and HSAs both allow people to use pre-tax income for eligible medical expenses, there are considerable differences between the two account types. These include the qualifications, contributions limits, rules for rollovers and changing contribution amounts, and withdrawal penalties.
What is an HSA?
HSAs are tax-advantaged savings accounts that can help you and your employees pay for medical expenses tax-free now and in the future. It’s like an extra emergency fund for medical costs. Employees can contribute pre-tax money, up to a certain limit, into their HSAs each year. Distributions used for qualified medical expenses are also not taxable. Unused funds continue to roll over each year, so employees can even hold on to their account into retirement and use it tax-free for medical expenses.
HSAs were created in 2003 as part of the Medicare Modernization Act to incentivize individuals covered by high-deductible health plans to save tax-preferred money for medical expenses. By 2019, 26 million health savings accounts held approximately $61 billion.
People choose between two primary healthcare options: high annual deductible with low monthly payments vs. low annual deductible with high monthly payments. Employees who cannot afford the high monthly payments or employees that prefer low payments opt for the higher deductible.
Choosing a high deductible can make sense if you are under the age of 65, healthy, want to save for potential health care expenses in the future, or can pay more out of pocket. However, many Americans face bankruptcy due to high healthcare costs.
One of the concepts behind HSAs is to encourage people who want lower monthly premiums to save money for their healthcare costs in the case of a medical crisis, enabling them to pay their annual deductible or other medical costs now or in the future.
HSA Eligibility and Limitations
Each year the IRS sets forth the amount that qualifies as a high annual deductible and the amount people can contribute to their savings plan.
- Individual: Deductible = $1,400; Maximum contribution = $3,600
- Family: Deductible = $2,800; Maximum contribution =$7,200
- Individual: Deductible = $1,400; Maximum contribution = $3,650
- Family: Deductible = $2,800; Maximum contribution =$7,300
If you’re 55 or older at the end of the year, you can put in an extra $1,000 in “catch up” contributions with some additional restrictions.
- Tax savings: The biggest advantage of having and using an HSA is the triple tax benefit.
- Employees make contributions pre-tax or contributions are tax-deductible.
- Savings can accrue tax-free.
- Withdrawals for qualified medical expenses are tax-free.
- Contributions: Employees can automatically deduct money from their paychecks to contribute to their HSAs. Family members may make contributions on behalf of other eligible family members. Employers may also contribute to employee accounts.
- Roll-over: Unused funds roll over year to year.
- Wealth over health: Critics believe that an HSA system encourages short-term savings over long-term medical health.
- Poor health: Researchers say 97 percent of Americans are failing to meet ideal ‘healthy lifestyle’ criteria. If someone has high medical expenses, they may not be able to put money aside in their HSA and be responsible for a high deductible.
- Costs: Maintenance and investment fees do vary across programs
- Recordkeeping: Individuals have to track withdrawals and be prepared to prove that they used the funds for qualified medical expenses.
- Penalties and taxes: Excess contributions are taxed at 6% and are not tax-deductible. Also, any non-qualified expenses or withdrawals will incur a 20% penalty if you are under 65.
- Administration: HSAs are more complicated to administer
Do you need advice about your health care offering? The PT Business Solutions team is here to help you sort through your options and create a plan that is right for your company and employees.