HSA Funds: What's Covered and What's Not

Why It Matters:

  • HSAs can be an effective way to pay for medical expenses.
  • More employers are moving to high-deductible health plans.
  • There's a 20% IRS penalty for using HSA distributions incorrectly.

Aaron Lopez tkc.profilePicture Written by: Aaron Lopez | Transamerica
March 27, 2018

1-2 Min readClock Icon

True story: Needles, canines, and jewelry are covered by a health savings account (HSA).

OK, a little clarification…

Expenses related to acupuncture, service dogs, and medical alert/ID bracelets are allowable HSA expenditures.

According to employee benefits provider Benefitfocus, 70% of large employers* offered at least one high-deductible health plan (HDHP) during open enrollment for 2018. An HSA can be an effective way to pay for medical expenses under an HDHP, and 81% of employees are contributing to an HSA in 2018, Benefitfocus found.

What’s an HSA?

Before we review how HSA funds can be used, here’s a little background.

HSAs were created in 2003 to allow employees covered by a HDHP to use pretax contributions to pay for qualified medical expenses. Unlike a flexible savings account (FSA), money in an HSA can accrue year over year and be invested, similar to funds in a 401(k) or traditional IRA.

Triple tax advantage

HSA contributions are limited to $3,450 for individuals ($6,850 for families) in 2018 — with an additional $1,000 catch-up allowance for those 55 and older — and they enjoy a triple tax advantage. The contributions reduce the account owner’s taxable income; any accrued interest or investment growth is tax-deferred; and distributions aren’t taxed if used to pay for qualified medical expenses.

As an added bonus, HSA funds are not subject to required minimum distributions (RMDs) at age 70½. Individuals should not contribute to an HSA once enrolled in Medicare. (HSA money can be used to pay Medicare premiums (excluding Medigap policies) and other qualifying medical expenses.)

What’s covered?

We mentioned acupuncture, service dogs, and medical bracelets earlier, but there’s an extensive list of things that can be paid for through an HSA.

IRS Publication 502 defines what is considered as a “qualified medical expense.” Some highlights include:

  • Artificial limbs and artificial teeth.
  • Birth control pills.
  • Chiropractic treatments.
  • Crutches.
  • Drug addiction treatment.
  • Fertility enhancement.
  • Home improvements such as ramps or doorways to accommodate a wheelchair.
  • Insurance premiums for policies covering medical care.
  • Medical conferences directly related to a chronic illness.
  • Stop-smoking programs (but not nicotine patches or gum).
  • Tutoring or tuition costs for children with medical-related learning disabilities.
  • Vasectomies.

Many medical-related expenses are straightforward. If Billy breaks his arm, the subsequent costs likely can be paid from an HSA. But people might not be sure whether HSA funds can be used for maternity clothes (nope), wigs (in some cases), or pregnancy test kits (yes).

If used for non-medical expenses, HSA distributions are taxed as ordinary income and are subject to an additional 20% IRS penalty. If you’re ever unsure, refer to IRS Publication 502 or consult your financial or tax professional.

The IRS occasionally changes which expenses are deductible, so make sure you check on the qualification of any unusual expenses each year.

*Large employers are defined as having at least 1,000 employees.

Things to Consider:

  • If you’re in a high-deductible health plan, you can open an HSA if one is not offered by your employer.
  • IRS Publication 502 clearly lists qualified medical expenses that can be paid with HSA funds.
  • If you’ve maxed your 401(k) and/or IRA contributions, an HSA is another long-term investment option.

Neither Transamerica nor its agents or representatives may provide tax or legal advice. Anyone to whom this material is promoted, marketed, or recommended should consult with and rely on their own independent tax and legal advisors regarding their particular situation and the concepts presented herein.

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