Tag Archives: Qualified Medical Expenses

How to File Form 8889 For Your Old HSA Funds When You No Longer Have HSA Coverage

This was a reader question submitted by HSA Edge reader Beata. If you have a question get in touch and we’ll try to help. Email us at evan@hsaedge.com any time.

I was no longer under the High Deductible Plan with my new employer in 2017, however I had some left over funds in my HSA account from my previous employer. No contributions were made in 2016.

I used up all the funds in 2016 for qualified medical expenses. Do I skip parts I and III on the form and just fill out part II about the distributions?

Overview

This is a pretty common scenario that occurs as life goes by and people change insurance coverage. Frequently, people who previously had and contributed to an HSA eventually change coverage to a non-HSA eligible plan, due to a job change, insurance change, or life event. One of the great benefits of Health Savings Accounts is that the money remains yours forever, even if your coverage changes. This contrasts with other health plans like FSA’s where there is a “use it or lose it” clause on the plan, forcing you to predetermine a contribution amount and spend it in the year. Thus, the good news is you still have your HSA funds to spend on qualified medical expenses, but how do you file HSA tax Form 8889?

If You Spent Funds, You Need to File Form 8889

First things first, you definitely need to file Form 8889 if this situation applies to you. Even if you had the HSA plan 10 years ago, and are no longer contributing to the account, as long as you are spending funds from the HSA the government wants to know about it. The hard and fast rule is if money is going into or out of your Health Savings Account, you need to file Form 8889 for the tax year in which that spending occurred. This form is due by your tax filing deadline, and can be extended if extension is filed. It will be best just to file it with your regular taxes.

Note that if you don’t contribute to or withdraw from an HSA in a given year, you likely do not need to file Form 8889 for that year.

What follows is a summary discussion of filing Form 8889 if you no longer have HSA coverage but spent old HSA funds this year. More detailed information can be found about How to File Form 8889.

Part I – Contributions

Form 8889 consists of 3 parts, and the first one should be fairly straightforward. It’s main focus is determining your contribution limit and the amount you (and others) contributed during the year. Since the topic of this post is that you no longer have HSA coverage (but have funds in an HSA account), you will neither have 1) a contribution limit or 2) (allowable) HSA contributions. As such, this section will be all $0’s, which logically follows that your deductible amount (Line 13) will also be $0 and flow over as such to Form 1040.

Part II – Distributions

The second part of Form 8889 details the funds that exited your HSA, and this is where you will have to do some work. Line 14a and 15 are the main tasks here, and they are asking “How much exited your HSA” and, “How much did you spend on Qualified Medical Expenses?”. Ideally, both of these amounts should be the same: any money I withdraw from my HSA should be spent appropriately. If that is the case, you will face no taxes and penalties, but as you can see in subsequent lines 16 and 17b, any delta between those numbers will be taxed and penalized.

This 2016 Form 8889 was prepared by EasyForm8889.com.

Form_8889_Part_2_HSA_Distributions

Part III – Taxes & Penalties

Part 3 of Form 8889 involves a calculation of various taxes and penalties you might owe. These can arise from failure to comply with the Testing Periods set forth in the Last Month Rule and Qualified Funding Distributions. Hopefully, these do not apply to you if you are simply spending remaining funds from an old HSA. If so, this section will be blank and you can just add $0’s there as well.

However, if you recently ended insurance and in the prior year 1) utilized the Last Month Rule to increase your contribution or 2) utilized a Qualified Funding Distribution from a IRA/Roth IRA, you could be in trouble. Both of these contain a Testing Period that stipulates continued HSA eligibility conditional with their use, in an effort to prevent tax abuse. If you fail to maintain coverage for the specific Testing Period, your contribution is considered “excessive” and will be taxed and penalized for the tax year in question. It is best to fully understand these rules before engaging them, and if you are facing a penalty, thoroughly review how they are calculated or use a service like EasyForm8889.com.

HSA vs. FSA – How to choose between a Health Savings Account and a Flexible Spending Account

HSA vs FSA: which is better?

The age old debate – which should I use, a Health Savings Account or a Flexible Spending Account? Maybe both? Each person’s health care situation is different with different needs and objectives. The goal of this article is to educate you on the similarities and differences so that you can choose the plan that makes sense for you and your family. But the name of this site may provide a hint as to which (I feel) is superior.

Flexible Spending Account defined

A Flexible Spending Account (technically, Arrangement) or FSA is an employer established benefit plan that allows employee and employer contributions to a tax advantaged account to offset the cost of medical expenses. Contributions and distributions to/from the account are tax deductible if they are used for qualified medical expenses. FSA monies generally expire at the end of the year, sometimes with a 3 month grace period or maximum amount ($500) allowed to be rolled over.

Health Savings Account defined

A Health Savings Account or HSA is a tax advantaged account managed and owned by the individual used for medical expenses. Only individuals with certain types of insurance (High Deductible Health Plans, or HDHP’s) are allowed to open HSA’s. Monies contributed to, or distributed from, HSA’s are tax deductible if they are used for qualified medical expenses and have advantages if saved for retirement. HSA funds are owned by the individual, can be invested, and remain theirs forever.

Differences between HSA and FSA

While they sound similar, there are subtle differences between Health Savings Accounts and Flexible Spending Accounts and how they operate.

	FSA	HSA
Established by	Employer	Employer or Individual
Insurance Required?	No	Yes
Type of Insurance?	Any or none	HDHP only
Managed by	Employer	HSA holder
Contribution Amount	Determined at enrollment	Determined during year
Contribution available	Immediately	As contributions occur
Contribution method	Deducted from paycheck	Deducted from paycheck or contributed post tax
Contribution Limit	$2,550	$3,400 / $6,650 (single / family)
55+ Contribution Amount	none	$1,000
Ideal Contribution	Amount you will spend that year	max Contribution Limit
Unused Contributions	Expire at year end	Yours forever
Invest Contributions	No	Yes
Prior Year Contribution	No	Yes
Employee leaves job	Unspent contributions lost	Takes HSA with them
Self Employed	Ineligible	Eligible
Tax reporting	none	IRS Form 8889
Retirement benefits	none	many

As you can see, the list is long and there are some key differences there. Overall, HSA’s appear more flexible and offer more options for how you manage those contributions long term.

Similarities of both HSA’s and FSA’s

Being government sponsored and tax friendly accounts, both Health Savings Accounts and Flexible Spending Accounts share some similarities in how they operate.

	FSA	HSA
Employee Contributions	Yes, optional	Yes, optional
Employee Contributions	Yes	Yes
Payroll Contributions	Yes	Yes (optional)
Tax Deductible	Yes, if spent on Qualified Medical Expenses	Yes, if spent on Qualified Medical Expenses
Can be spent on	Qualified Medical Expenses per IRS 502	Qualified Medical Expenses per IRS 502

Advantages of HSA over FSA

There are many advantages of a Health Savings Account over Flexible Spending Accounts, and I believe it to be the better plan all things considered. The biggest one is that HSA contributions are yours forever, no matter if you change jobs, change insurance, get fired, get old, retire, or what have you. They are yours to keep and can be spent on qualified medical expenses in a tax free manner at any time (or year) your wish. That is huge because you worked hard for that money, you shouldn’t forfeit it because the year changed. The fact that HSA contributions remain yours have other benefits, too. It provides flexibility to spend them as you need them, not try to cram all of your spending into the given year. You can save them for a rainy day, and even invest and grow your HSA. Once you turn 65, your HSA can be spent on whatever you want without penalty (you just pay tax on it, which you would have paid anyway). Hopefully at that point, your tax rate is low and and your HSA has grown for many years tax free. In this way, it is similar to a 401(k) or IRA investment account

Advantages of FSA over HSA

Notice in the “Differences” chart that the Contribution Available row for FSA says “Immediately”. That is because employers actually make the full year’s FSA contribution at the beginning of the year, and you pay them back every paycheck throughout the year. So for example, if you elect to contribute $24 to your FSA, on January 1st the employer puts $24 in your FSA. That money is immediately available and you can go out that day and spend $24 on a copay (for example). The advantage is the employee gradually “pays back” the contribution through the year, which smooths the contribution and doesn’t take so much out of pocket. So in each bimonthly paycheck that year you pay back $1, which is a huge cash flow advantage.

This advantage can (perhaps nefariously) be taken a step farther. With an FSA program, employers take on the risk of gain or loss with each employee’s FSA account since they make the full year contribution at the beginning of the year. This is because employees can leave or be terminated throughout the year. This occurs because 1) employees are not required to pay back spent but not contributed FSA amounts, and 2) employees do not receive FSA benefits that are contributed but not spent. This is best illustrated with some examples:

1) Employee wins

Let’s assume that John signs up for an FSA and contributes the full amount for 2015, $2,550. This amount goes into his account immediately at the beginning of the year, so on January 1st his employer contributes $2,550 to John’s FSA. Per the FSA, John agrees to contribute $2,550 over the course of the year, so John will have $106.25 deducted from each bimonthly paycheck. Let’s say on January 4th John has a surgery and uses his full FSA to pay for it. His account is now at $0, he has spent $2,550 and has contributed $0. On January 7th, John gets an offer from BigCorp and decides to leave his FSA employer. Guess what – John does not owe back the FSA amount of $2,550. Employees are not responsible for making up FSA amounts spent but not contributed You read that right, as John gets away free and the employer takes it on the chin.

2) Employer wins

However, the reverse is also true. Assume Paul elects to contribute the full amount of $2,550 to his FSA for 2015. Paul is healthy and doesn’t spend anything through December, and has diligently contributed $106.25 from each paycheck. He has an FSA with $2,550 available to spend and has personally contributed something like $2,444 as of December 15th. The next day, his company BigCorp lays off John unceremoniously just before the holidays. Unfortunately, John is given no warning and cannot spend the $2,550 in his account. This amount will expire when he is terminated and all of that money he contributed is lost. Ironically, the employer recognizes this unearned money as a gain.

Choosing between an HSA and FSA

As you can see above, there are many factors that apply to Health Savings Accounts and Flexible Spending Arrangements. Some of those may apply to your situation, and some may not. You will probably give some factors different weight in your decision than I do in mine. That said, here are some general guidelines in choosing between an HSA and FSA. [Note that you generally cannot contribute to both an HSA and FSA in the same year unless your FSA is a limited-purpose, or HSA compatible, FSA].

All things equal, choose the HSA. You will thank me later.
If there is money on the table, that should weigh heavily. If your employer is generous enough to contribute to a program free of charge to you, that is probably a good choice to make.
Choose an HSA if your spending is long term. If you are considering contributing amounts close to the max of either plan, the HSA will allow you to keep those amounts and roll them over year over year.
If your only option is FSA, choose it, but contribute wisely. You definitely still want a tax advantaged plan for your medical spending, and an FSA will do this. However, be very cautious over contributing to an FSA as you will lose that money at year end (or be forced to buy a bunch of stuff you don’t really need).

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Note: if you do go with an HSA, please consider using my service TrackHSA.com to manage your Health Savings Account. You can store purchases, receipts, and reimbursements securely online.

Health Savings Account Rules You Should Know

This post provides a summary of the main rules for HSA’s, for both their creation and use. Following these rules, you can understand 90% of what HSA’s are all about and avoid major pain points. Of course, due to the complicated nature of the IRS there exist corner cases you may encounter based on your situation, for which hopefully this site is a good resource.

Rule #1: You must have qualifying health insurance

You can only open a health savings account if you have a High Deductible Health Plan (HDHP). This is an IRS tax guideline, the definition of which changes each year based on inflation and other adjustments. Basically what this means is that HSA’s are an advantage only allowed to a certain subset of health insurance accounts that fall under the HDHP umbrella.

For 2017, the requirements that define HDHP insurance are below. Thus to open an HSA, your health insurance must conform to the following:

Self Only Coverage	2016	2017
Maximum annual deductible for HDHP	$1,300	$1,300
Maximum annual out of pocket limit for HDHP	$6,550	$6,550
Maximum annual HSA contribution	$3,350	$3,400
Family Coverage
Maximum annual deductible for HDHP	$2,600	$2,600
Maximum annual out of pocket limit for HDHP	$13,100	$13,100
Maximum annual HSA contribution	$6,750	$6,750

Note: besides having HSA eligible insurance, there are 3 other requirements for opening an HSA that you should be aware of but we not be covered here: 1) you cannot be enrolled in Medicare, 2) cannot be claimed as a dependent on someone else’s tax return, 3) do not have any other health insurance.

Rule #2: You must open a Health Savings Account

You must actually apply for an open an HSA account from the banking institution of your choice. Perhaps your employer helps you do this, or perhaps you open the HSA yourself. Either way, the Health Savings Account must be open before you can any expenses incurred qualify for payment from (future) HSA funds. Per IRS form 969 (2015 PDF):

You can (only) receive tax-free distributions from your HSA to pay or be reimbursed for qualified medical expenses you incur after you establish the HSA.

So the actual HSA contributions do not need to be in your account, but any medical costs you incur before opening the account are not qualified and cannot be paid with (tax free) HSA dollars.

Rule #3: Know your HSA contribution limit for the year

There is a maximum amount you can contribute to your HSA each year called your contribution limit. This amount varies based on a number of factors that may apply to your situation. The simple case is if you had health insurance all year, the contribution limit for 2017 for self only insurance is $3,400 and for family insurance is $6,750. If you are 55 or older, you can add an additional $1,000 to that. If you are married and both have HSA’s, you have to share the $6,750.

If you had partial year coverage, more complicated rules apply. Generally a pro rata (by month) allocation of the contribution limit for your insurance occurs. If you began HSA coverage this year, you may take advantage of the Last Month Rule. This optionally allows you to contribute up to the contribution limit for the year, even if you had partial year coverage. However, do so with caution: if you fail to maintain the Testing Period, these contributions will be considered excessive and taxes and penalties attached.

Rule #4: Spend your HSA only on Qualified Medical Expenses

In order to receive tax benefits of HSA’s, you must play by the IRS’s rules regarding how they are spent. They detail these as Qualified Medical Expenses which include a wide variety of medical items such as prescription drugs, copay’s, doctor’s visits, dental work, eye care, child care, surgeries, tests, hospital fees, acupuncture, etc. For HSA contributions to be spent tax free, they must be spent on qualified medical expenses. If HSA funds are spent on anything other than qualified medical expenses, they will be taxed and penalized.

This tax/penalty calculation occurs when you file HSA tax Form 8889 for your yearly taxes, as you will be asked two questions regarding your HSA.

How much was spent from your HSA during the year?
How much was spent was spent on qualified medical expenses during the year?

Any difference noticed above (amount not spent on QME) will be taxed and penalized.

Rule #5: Record all of your HSA transactions

So how does the IRS know that you spent your HSA funds on qualified medical expenses? For one, they require that you maintain proof regarding all of your purchases made with your HSA. While they do not ask for it each year, they reserve the right to audit your HSA tax filings at any time. In this scenario, the burden is on you to substantiate all of your HSA spending for a given year(s). You are required to provide proof that the amounts you deducted for your HSA were spent entirely on qualified medical expenses, and likely show receipts that this spending occurred. Not being able to prove this could result in your HSA spending being reclassified as “non qualified” and taxes and penalties assessed.

There are a number of ways you can store this information, from the simple file or shoebox to the high tech excel file or custom website such as TrackHSA.com. Whatever method you choose, be sure that you maintain this information to protect yourself from the tax man.

Rule #6: Account for your HSA taxes correctly

The best laid HSA plans are all for not if you file your taxes incorrectly. Imagine if you save in your HSA for years, use the funds correctly, and diligently record all of your medical expenses and maintain records. If this activity fails to make it to your 1040 tax form in the proper manner, it does not matter and the whole effort has been wasted. In this scenario, you will find yourself paying excessive taxes which could have been avoided.

Form 8889 is the crucial link to insure that the HSA’s tax advantages make there way to Form 1040 in the correct manner. I recommend the use of EasyForm8889.com to accurately complete your HSA tax form 8889, no matter what your HSA situation for the year. With Form 8889 being the main HSA input, the main output on Form 1040 will be your tax liability, which hopefully your HSA has helped reduce.