With the high costs of healthcare affecting American families, a number of policies, procedures, plans, and laws have been implemented in an attempt to reduce the GDP impact of these costs. Some families are spending upwards of 20% of their income on medical expenses alone, including the cost of having mandated health insurance. One of the ways that families can offset some of these costs is to establish a Health Savings Account, or an HSA.
An HSA can grow over time and actually become a component of your overall net wealth. For those who are eligible to create this account, a total of over $350,000 could potentially be saved to pay for specific healthcare costs after retirement, assuming less than a 3% total return on contributions. If you find yourself a little short on HSA funds, however, an option is to take a qualified HSA funding distribution from a retirement plan.
What Distributions Can Be Made to a Qualified HSA?
If you have a traditional or Roth IRA and an HSA, then you can make a one-time contribution from your IRA to your HSA through a requested distribution. This contribution must be made through a trustee-to-trustee transfer, even if your HSA and IRA are through the same financial institution. The custodian of the HSA will receive the distribution. No funds will ever come to you, like they would through an indirect rollover.
The good news is that none of the funds that are included in this contribution are included on your income for tax purposes. You won’t be subjected to the 10% early withdrawal penalty either for requesting this type of distribution. You will, however, need to report that you are making this transaction. You will need to file Form 1099-R and Form 5498SA for the IRA and the HSA respectively.
Are There Any HSA Contribution Limits?
The primary limit to a qualified HSA distribution is that the funding is limited to the maximum deductible contribution of the HSA. This cannot be computed until the type of coverage and the amount of the deductible on the health plan are known at the time of the contribution. This contribution from the IRA will also reduce the amount of HSA contributions that will be allowed for the remainder of that tax year.
There are no tax deductions that are allowed for this monetary distribution. If you are using non-deductible contributions from your IRA for the qualified HSA funding, then the first monies that are paid out are considered to be taxable income.
A final limit is what is called the “testing period.” For the 12 months after the qualified distribution is made, a person must remain eligible for the HSA. If they become ineligible, then they will be required to pay the 10% tax penalty for an early distribution from the IRA. Should someone become ineligible because of a disability or because of death, then this rule will not apply.
What If It Is a SIMPLE or SEP IRA?
These rules do not apply to SIMPLE or SEP IRAs that someone may have. Qualified HSA funding can only come from traditional or Roth IRAs. The one way to get around this rule would be to rollover a qualifying IRA into a traditional or Roth IRA product first. Once the change would take place, you’d be allowed to then take a distribution into your HSA. This process could take as long as 60 days, however, which may be too much time to get the funding available.
What Are Eligible Expenses For an HSA?
Anything that has to do with immediate health fits into the qualified expenses for a health savings account. Items like nutritional supplements, teeth whitening, or health club dues are ineligible medical expenses. Insurance premiums are not allowed to be paid through an HSA either. On the other hand, advanced payments for lifetime care, approved surgeries, and even religious medical practitioners, such as Christian Science or Jehovah’s Witness specialties, do apply as an eligible expense.
Because this is a one-time contribution that can be made through an IRA distribution, it is important to make sure that the procedure or medicine will qualify as a legitimate expense. If you need child care to go see the doctor, then this cannot be paid out of the HSA. If you need to pay for transportation to go see the doctor and you’ve got to bring all of your kids, then this may be something that would qualify.
Why is it important to know the difference between an eligible and ineligible medical expense for your HSA? If you withdrawal funds that are used for an ineligible expense, then you will be taxed at the normal income rate for the money that was withdrawn and be forced to pay a 20% tax penalty if you’re under the age of 65. Although relieving or preventing physical disorders, pain, and illness is the general goal of the HSA, certain holistic methods do not qualify and could subject you to the penalty.
This means non-qualifying HSA expenses would be cheaper to purchase by taking an early distribution from the IRA than from the HSA.
Managing your finances as you approach retirement can be tricky. Knowing what is an HSA distribution can help households better manage healthcare expenses, but all it takes is one run of ill health to drain that account with eligible expenses. By having qualified HSA funding come from a traditional or Roth IRA, these expenses can be better managed so that debt doesn’t pile up when saving for a retirement is a top priority. Follow these rules and you’ll be able to make the most out of your HSA contribution.