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Six keys to help your employees unlock the potential of HSAs

Benefits Administration and Outsourcing|Health and Benefits|Retirement
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By Kim Tippens | October 9, 2020

The who, what, when, where and how of HSAs, a powerful tool to expand the financial and health care security of your employees.

Health savings accounts (HSAs) may be the most powerful tool available to set your employees up for financial and health care security. Working alongside high-deductible health plans (HDHPs), HSAs allow employees to save for future medical expenses while reducing their tax burden. As a fully portable account owned by the employee, they also provide a safety net for employees who leave your organization.

We’ve identified six questions to help you understand how HSAs work and how you can help your employees take full advantage of their potential.

  1. 01

    What exactly is an HSA?

    An HSA is a triple tax-advantaged savings account attached to a HDHP. Employees with HDHPs who meet eligibility requirements can:

    • Contribute to their HSA on a pre-tax basis ($3,550 for a single person or $7,100 for a family in 2020), lowering taxable income
    • Earn tax-free interest
    • Withdraw funds to pay for eligible health care expenses tax-free
  2. 02

    How are HSAs different from other health benefits?

    • Unlike other benefits, the employee owns the HSA and retains all the money in the account, even if they leave your employment unlike a flexible spending account (FSA).
    • The employee can change the amount of their contribution at any time, without a corresponding life event similar to a 401(k) retirement plan.
    • The employee makes the decisions about which health expenses to cover with the balance similar to an FSA. Employees with an HDHP often use the money in an HSA to help with out-of-pocket costs until the deductible is met, but others may choose to save their balance instead.
    • Like a 401(k) plan, employees can invest HSA balances, potentially giving them money toward future medical expenses including in retirement.

    An HSA combines some of the best features of FSAs and 401(k) plans to provide flexibility for employees to meet their needs, depending on their current circumstances and plans for the future.

  3. 03

    How does an HSA work jointly with an HDHP?

    Making paycheck contributions to an HSA not only offers tax benefits, but also is a great way to help employees adapt when a new HDHP strategy is introduced. Typically, employees set aside pre-tax dollars to help with out-of-pocket health care costs until they meet their deductible. Then once their deductible is met, HSAs can help pay for the medical co-insurance, or portion of the medical expense the participant pays. Think of it as easing the transition from day one up to the point where their health plan's benefits for ongoing care kick in, and then continuing to help with the lesser co-insurance payment until the out-of-pocket maximum is met.

  4. 04

    Can I offer both an HSA and an FSA?

    The IRS will allow employees to have either an HSA or full purpose FSA, but not both. However, employers are able to provide their employees an HSA and a limited-purpose flexible spending account (LPFSA).

    • LPFSAs are a special type of FSA account that only cover dental and vision expenses such as dental work, orthodontia, glasses, or even voluntary laser vision surgery. The entire LPFSA balance is available at the beginning of the year, which may be helpful while the participant is paying out-of-pocket medical expenses that are applied to the medical plan deductible.
    • While an employee could use the HSA for dental and vision expenses, offering a LPFSA allows them to save their HSA funds for regular medical expenses. By keeping more savings in an HSA account, employees can also potentially help their retirement nest egg grow larger.
    • Once employees have met their medical plan deductible, the LPFSA may be converted to a full-purpose FSA allowing employees the option to pay for qualified out-of-pocket medical and prescription expenses from the FSA balance. It's a great way to maximize tax savings and the earning potential of the HSA. But employees should carefully consider how much they contribute to any type of FSA because unlike an HSA, they will lose any unused FSA balance at the close of the plan year.
  5. 05

    How do HSAs act as tax-savings vehicles?

    Employee tax savings begin with the first contribution and continue throughout the life of the HSA.

    • Payroll contributions towards an HSA account are made pretax and also drive down taxable income. Employees may also make post-tax contributions outside of payroll and claim the deduction when filing income taxes.
    • Money in an HSA may accrue interest, and when it reaches a certain deposit threshold the owner can actually invest the balance in a variety of funds. Any earnings from these investments are tax free so the owner can spend the balance on medical expenses at any time, even after retirement.
    • Unlike other savings accounts such as a 401(k), distributions taken from an HSA to pay for qualified medical expenses are tax-free whether the account owner is an active employee or retiree.
  6. 06

    How does an HSA work for employees in different circumstances?

    HSAs are an adaptable tool that employees can use in various ways, depending on an employee's situation. A few circumstances include:

    • An employee is 55 and starting to think about retirement. Under the catch-up contribution rule, at age 55 employees become eligible to contribute an additional $1,000 pre-tax per year, every year that they remain eligible.
    • An employee reaches 65 but is not ready to retire. Employees who've turned 65 but continue to work can also continue to contribute to their HSAs and save for retirement, but there are a few steps involved. The catch is that once enrolled in Medicare, individuals are no longer eligible to contribute to an HSA. If your employee wants to continue contributing beyond age 65, they'll need to contact The Centers for Medicare and Medicaid Services (CMS, or Medicare) in advance of the month they will turn 65 to avoid being auto enrolled in Medicare Part A.

      Turning 65, whether enrolled in Medicare or not, does not change the ability to spend HSA funds; the limitation only applies to making contributions.
    • An employee wants to use the HSA to pay out-of-pocket expenses for an adult child insured on their medical plan. An employee can pay for an adult child's out-of-pocket expenses with an HSA, but there are some complexities to consider:
      • Think of dependents in two separate categories: tax dependent and medical dependent. Under an employee's medical plan, a dependent child can be covered up through age 26. To receive reimbursement from an HSA, however, the adult child must be a tax dependent, meaning the employee claims him or her as a dependent for tax purposes.
      • If an adult child is a medical dependent but no longer a tax dependent, he or she would be able to open and contribute to their own HSA.
    • An employee starts mid-year and would like to contribute up to the HSA annual maximum. Under the full contribution rule, if an employee is eligible on the first day of the last month of the tax year (December 1), he or she qualifies as an eligible individual for the entire year. That means the employee can make the maximum contribution even if they're only in your employ for a month.

      There's one catch: the employee must remain in an HSA eligible plan for 12 consecutive months from their initial eligibility to avoid a penalty (exceptions being in the case of death or disability).

In conclusion

As we’ve shown, HSAs are a powerful tool that combine the best features of other benefits accounts like FSAs and 401(k) plans creating a portable tool that allows employees to save for future medical expenses while simultaneously reducing their current tax burden. Furthermore, the portability of HSAs also provide a safety net for employees after they leave your organization including in retirement.

Author

Senior Director, Benefits Accounts

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