HSA Contributions: Making Sense of the Moving Parts

As we have noted, high-deductible health plans (HDHPs) with a Health Savings Account (HSA) feature are growing in popularity. Our last post on HDHP/HSA arrangements explored some of the general eligibility questions we are asked most frequently. Today we address common questions about HSA contributions.

1. Are contributions limited by the number of months an employee is HSA-eligible, or is an employee entitled to the full contribution limit for being HSA-eligible for just part of the year? HSA contributions generally may be made for months in which an individual is HSA-eligible, and the individual’s annual HSA contributions may not exceed the sum of the “monthly limitations” (the annual contribution limit divided by 12) for all months in the calendar year in which the individual actually is HSA-eligible. Said another way, an employee’s yearly contribution limit is prorated based on the period the employee is actually HSA-eligible. That is the general rule, often called the “general monthly contribution rule.” By contrast, under the “full-contribution rule” described below an individual may be treated as HSA-eligible for the entire year and entitled to make contributions up to the annual maximum HSA contribution limit if the employee becomes covered by an HDHP in a month other than January and is HSA-eligible on December 1 of that year.

2. How do you determine the maximum contribution amount in the case of a non-calendar year plan?Suppose an employer operates its group health plan on an October 1 to September 30 plan year, corresponding to the health insurance policy renewal, and is implementing an HDHP/HSA arrangement effective October 1, 2012. The “full-contribution rule” allows a full year’s worth of HSA contributions, even for someone who is HSA eligible for only a portion of the year. Under the full-contribution rule, an individual who becomes covered under an HDHP in a month other than January and who is an HSA-eligible individual on December 1 of that year is treated as having been an eligible individual during every month of that year, and will be allowed to make and receive contributions for those months during that year before the individual actually enrolled in an HDHP. An individual who makes contributions in reliance upon the full-contribution rule must remain HSA eligible during a 13-month testing period (i.e, until December 31 of the following year) to avoid income tax and a 10% penalty tax on the additional contributions. The penalty does not apply if the individual becomes ineligible due to death or disability, but does apply to individuals 65 or older. As discussed in our first HSA post, any individual who has an overlap of participation in a medical flexible spending account or a health reimbursement account and HDHP coverage will not be an eligible individual and will not be able to make any contributions for the calendar year in which the individual first elects HDHP coverage. In our example, such an employee would not be able to make or receive HSA contributions in 2012, but would be able to make and receive contributions in 2013.

Note that the full-contribution rule can only increase the amount that an individual would otherwise be able to contribute under the general monthly contribution rule. In other words, an individual to whom the full-contribution rule applies (i.e., an individual who is HSA eligible on December 1) would be able to contribute to his or her HSA for that year the greater of (i) the amount determined under the general monthly contribution rule, or (ii) the amount determined under the full-contribution rule based upon his or her HDHP coverage (i.e., self-only or family) on December 1 of that year. Practically speaking, this rule would likely only affect individuals who switch from family to self-only coverage late in the calendar year.

3. If an employer has a non-calendar year health insurance renewal (or plan year), is an employee who switches from HDHD to non-HDHP coverage during open enrollment entitled to the full contribution limit even though he or she is covered under the HDHP only part of the year? Picking up our earlier example, suppose an employer operates its group health plan on an October 1 to September 30 plan year, such that an employee who switches from HDHP to non-HDHP coverage during open enrollment would be covered under the HDHP for 9/12 of the year. An individual who ceases to be an eligible individual during a year (and does not become eligible again on December 1 of that year) may contribute to his or her HSA only for the months of the year in which he or she was an eligible individual. In our example, for 2012 an employee with single coverage would be entitled to contribute $2325, or 9/12 x $3100; an employee with family coverage would be entitled to contribute $4687.50 (9/12 x $6250).

4. What is the contribution limit for an employee who terminates coverage mid-year? An employee who terminates HDHP coverage before December 1 would only be entitled to prorated contributions based on the period the employee is HSA-eligible (again, the so-called “general monthly contribution rule”).

5. Can we/should we limit the monthly contribution amounts allowed by employees to ensure that employees do not exceed contribution limits and to minimize potential adverse tax consequences?It is not permissible for an employer to limit employee monthly contribution amounts, except to the extent of not allowing an employee to make pre-tax contributions from wages for any month in which the employee is not HSA-eligible.

6. How are contributions of/for participating employees who have spouses or dependents receiving Social Security and/or Medicare/Medicaid benefits handled? As discussed in our first HSA post, individuals enrolled in Medicare are not eligible to make or receive HSA contributions. An employee who is not enrolled in Medicare but has a spouse or dependent receiving Social Security/Medicare benefits may receive contributions up to the statutory limit for family coverage, provided the employee elects family HDHP coverage. In other words, other coverage of dependent children or spouses does not affect the individual’s contribution limit, except that if the spouse is not otherwise eligible to contribute, no part of the HSA contribution may be allocated to the spouse under the allocation rules. HSA funds can be used, on a tax-free basis, for the qualified medical expenses of spouses and dependents receiving Social Security/Medicare benefits. Note that the HSA rules were not amended by health care reform to allow medical expenses of nondependent children under age 27 to be reimbursed tax-free from a parent’s HSA. In other words, the old tax dependency rules apply for purposes of using HSA funds, though nondependent under-27 children may still be covered under the HDHP.