HSAs in Operation: Ten Common Questions

It’s open enrollment season and many employers are implementing high-deductible health plans (HDHPs) with a Health Savings Account (HSA) feature. Our prior posts about HDHPs and HSAs have explored the general eligibility requirements for HDHP/HSA arrangements and HSA contributions. Today we address common questions about the operation of an HDHP/HSA arrangement.

1. Can employees change their HSA contribution amounts at any time during a plan year or are they restricted to making a change only if a qualifying event occurs as defined by the IRS? Generally employees may make prospective changes to their HSA contribution amounts at any time and for any reason, though employers may restrict election changes to once a month and upon loss of HSA eligibility. HDHP coverage, however, is subject to the familiar election change rules.

2. Can HSA funds be used to pay for medical expenses incurred prior to the establishment of the HSA, but while an individual was covered under the HDHP? Qualified medical expenses generally must be incurred after the HSA is established in order to be reimbursable on a tax-free basis. State trust law determines when an HSA is established, and most state trust laws require that a trust actually be funded (i.e., a deposit made) in order to be established. Note, it is the employee’s responsibility to determine whether the reimbursement is subject to tax.

3. Can an employee who is not currently eligible to contribute to an HSA use funds remaining in his or her account? An individual who is not eligible to make or receive HSA contributions may still use his or her HSA balance, on a tax-free basis, for qualified medical expenses.

4. If the account holder dies with an HSA balance, is the money taxable to the beneficiary or can it be used by the beneficiary for eligible medical expenses? If the beneficiary is the deceased account holder’s surviving spouse, then the spouse becomes the account holder of the HSA, the transfer is not taxable, and the surviving spouse would be subject to income tax only to the extent that any distributions from the HSA were not used for qualified medical expenses. If the beneficiary is someone other than the deceased account holder’s surviving spouse, then the HSA ceases to be an HSA and an amount equal to the fair market value of the account assets as of the date of the account holder’s death is includible in the beneficiary’s gross income.

5. Can HSA funds be used for to pay for Medicare Part B, Pact C, or Part D premiums, or Medicare supplemental policy premiums? Technically, HSA funds can be used for any type of expense, but HSA funds used for expenses that are not “qualified medical expenses” are included in the individual’s gross income and are generally subject to an additional 20% tax. When premiums for Medicare Part A, Part B, Part C, or Part D are deducted from Social Security benefit payments received by an HSA holder who is age 65 or older, he or she can take a tax-free HSA distribution equal to the Medicare premium deduction. In contrast, HSAs generally cannot be used by retired or disabled HSA holders to pay health insurance premiums prior to age 65—with the exception of COBRA or USERRA coverage or premiums paid while receiving unemployment compensation. Medicare supplemental policies are not qualified medical expenses.

6. Is an HDHP considered creditable coverage for Medicare Part D purposes? Some HDHPs do provide creditable coverage; the broker, consultant, or actuary with whom you are working should be able to answer this question.

7. How do we provide notice of creditable coverage by the required date (October 15) if we do not know who will enroll in the HDHP? CMS has not issued guidance directly on this question and CMS representatives with whom we have spoken have not been able to provide further information. We advise clients to include the notices with open enrollment materials, at least for the first year of the HDHP, which is permissible provided the form and content requirements are met. If open enrollment materials have already been distributed, we advise clients to provide a separate notice for the HDHP.

8. Are we required to offer HDHP coverage to COBRA qualified beneficiaries? COBRA qualified beneficiaries are entitled to change benefit and coverage options at open enrollment to the same extent as active employees. Note that an employer is not required to make contributions to the HSAs of former employees.

9. Are we required to offer HDHP coverage to retirees who have elected retiree medical? If retirees are covered under the same plan as active employees but under different terms or conditions (including available coverage or amount/percentage of premium paid by the employer), then COBRA coverage must be offered at the same time retiree medical coverage is offered. In this way a retiree would be eligible to participate in the HDHP. Note, as we have discussed in a prior post on COBRA and retiree medical, an employer may expressly condition receipt of retiree coverage on the waiver of COBRA coverage.

10. Do employees have COBRA continuation rights for the HSA? Participants and beneficiaries have a COBRA right for the HDHP, but not the HSA.