What is a 'Health Savings Account - HSA'

A Health Savings Account (HSA) is a tax-advantaged account created for individuals who are covered under high-deductible health plans (HDHPs) to save for medical expenses that HDHPs do not cover. Contributions are made into the account by the individual or the individual's employer and are limited to a maximum amount each year. The contributions are invested over time and can be used to pay for qualified medical expenses, which include most medical care such as dental, vision and over-the-counter drugs.

BREAKING DOWN 'Health Savings Account - HSA'

A Health Savings Account is one of the ways an individual can cut costs if he or she is faced with high deductibles. A deductible is the portion of an insurance claim that the insured pays out-of-pocket. A high-deductible health insurance plan (HDHP) is an insurance plan that has a higher annual deductible than typical health plans, with a minimum and maximum deductible of $1,300 and $6,550, respectively, for individuals. For families, the numbers are minimum $2,600 and maximum $13,100 deductibles. When an individual has paid the portion of a claim s/he’s responsible for, the insurance company will cover the other portion, as specified in the contract. For example, under the HDHP, an individual with a deductible of $1,500 who makes a medical claim for $3,500 will have to pay $1,500 from his personal coffers since the insurer is only responsible for the excess, that is $2,000. To supplement the funds that an insured has to pay out-of-pocket, a Health Savings Account (HSA) can be used.

Qualifying for an HSA

An individual who has an HDHP may qualify for a Health Savings Account. The HSA is usually paired with qualified HDHP and offered by a health insurance provider. An HSA can also be opened at a number of financial institutions. To qualify for an HSA, the taxpayer must be eligible, as per standards set out by the Internal Revenue Service (IRS). An eligible individual is one who has a qualified HDHP, has no other health coverage, is not enrolled in Medicare, and is not a dependent on someone else’s tax return.

Any eligible individual can contribute to an HSA in cash only. An HSA owned by an employee can be funded by the employee and/or his employer. Any other person, such as a family member, can also contribute to the HSA of an eligible individual. Individuals that are self-employed or unemployed may also contribute to an HSA, provided they meet the qualifications of owning a Health Savings Account in the first place.

For 2017, the contribution limit to an HSA is $3,400 for self-coverage. Individuals with families can contribute up to $6,750. Individuals who are 55 years or older by the end of the tax year can contribute an additional $1,000 to their HSAs. Contributions made by an employer to an HSA are included in the limit. For example, an individual who opts for the maximum contribution limit of $3,400 can contribute only $2,000 if his employer contributes $1,400.

Tax Advantages of an HSA

The HSA is advantageous to account owners because funds are contributed to the account using pre-tax income. The portion of pretax income that is used to fund an HSA, lowers a taxpayer’s total taxable income, translating into a lower tax liability for the individual. In addition, contributions made to an HSA are 100% tax deductible, and any interest earned in the account is tax-free. However, excess contributions made to an HSA incur a 6% tax and are not tax deductible.

As long as withdrawals from a Health Savings Account are used to pay for qualified medical expenses that are not covered under the HDHP, the amount withdrawn will not be taxed. Qualified medical expenses include deductibles, dental services, vision care, prescription drugs, co-pays, psychiatric treatments, and other qualified medical expenses not covered by a health insurance plan. Insurance premiums usually don’t count towards qualified medical expenses unless the premiums are for Medicare or other health care coverage if 65 years or more, health care insurance while unemployed and receiving unemployment compensation and long-term care insurance. Any distributions made from an HSA that are for reasons other than paying for medical expenses, the amount withdrawn will be subject to both income tax and an additional 20% tax penalty. Individuals that are 65 years old or older will no longer be able to contribute to an HSA, but can withdraw any funds accumulated in the account for any expense without incurring the 20% penalty. However, income tax will still apply to any non-medical usage.

Contributions made to an HSA do not have to be used or withdrawn during the tax year. Any unused contributions can be rolled over to the following year. Also, an HSA is portable, meaning that if an employee changes jobs, he can still keep his HSA. In addition, an HSA plan can be transferred to a surviving spouse tax-free upon the death of the account holder.

The Health Savings Account is often compared with the Flexible Savings Account (FSA). While both accounts can be used for medical expenses, some key differences exist between both. For example, unused funds in the FSA during a given tax year are forfeited once the year ends. Also, while the elected contribution amount for the year can be changed by an employee with an HSA anytime during the year, the elected contribution amount for an FSA is fixed, and can only be changed at the beginning of the following tax year. (For More See: Comparing Health Savings and Flexible Spending Accounts)

RELATED TERMS
  1. High-Deductible Health Plan - HDHP

    A high-deductible health plan is health insurance with a high ...
  2. Health Reimbursement Account (HRA)

    A health reimbursement account (HRA) is an employer-funded plan ...
  3. Pretax Contribution

    A pre-tax contribution is any contribution made to a designated ...
  4. National Insurance Contributions ...

    National Insurance Contributions are payments made by employees ...
  5. IRS Publication 502: Medical And ...

    A document published by the Internal Revenue Service detailing ...
  6. Aggregate Deductible

    Aggregate deductible is the limit deductible a policyholder would ...
Related Articles
  1. Insurance

    Surprising Ways to Use Your HSA Savings

    While HSA accounts are intended to cover healthcare expenses, you may be surprised by the many ways that you can use the funds.
  2. Insurance

    Don't Overlook HSAs During Open Enrollment

    Health savings accounts shouldn't be overlooked during open enrollment. Here's why and how they work.
  3. Retirement

    Your HSA: A Triple Threat Investment Tool

    Thanks to unique tax advantages, a Health Savings Account may be the best retirement option you never knew you had. Here are some ways to take advantage.
  4. Managing Wealth

    Pros And Cons Of A Health Savings Account (HSA)

    Health Savings Accounts let you pay health care costs with pre-tax dollars.
  5. Insurance

    Saving Your Health Savings Account for Retirement

    Use the following strategies to get the most out of your HSA in retirement.
  6. Insurance

    Fighting The High Costs Of Healthcare

    If your employer is cutting medical benefits, a health savings account may be right for you.
  7. Insurance

    High-Income Benefits From A Health Savings Account

    Health savings accounts are the only tax break offering triple benefits. Here's a look at how they work.
  8. Investing

    How to Take Advantage of an HSA Account

    If you are eligible for a Health Savings Account, be sure to take full advantage of what it offers.
  9. Investing

    HSA: The Premier Investment Account

    Millennials would be smart to take advantage of the everything a health savings account has to offer.
Trading Center