How to Withdraw Funds From Your Health Savings Account

A Health Savings Account (HSA) serves as a tax-advantaged savings vehicle for healthcare expenses. It offers a unique combination of tax benefits, including tax-deductible contributions, tax-free growth on investments, and tax-free withdrawals when used for qualified medical expenses. This account can be a valuable financial tool for managing both present and future healthcare costs.

Understanding Eligible Expenses

Understanding what qualifies as a “qualified medical expense” is foundational to utilizing an HSA effectively and avoiding potential tax implications. The Internal Revenue Service (IRS) defines these as costs incurred primarily for the diagnosis, cure, mitigation, treatment, or prevention of disease, or for treatments affecting any part or function of the body. This broad definition, therefore, covers a wide array of medical services and products.

Eligible expenses include doctor visits, prescription medications, dental care, vision care, and chiropractic services. They also extend to qualified long-term care services and certain medical equipment. Since March 2020, over-the-counter medications and menstrual care products are also considered qualified medical expenses, even without a prescription.

Certain expenses are generally not considered qualified. These include cosmetic procedures unless medically necessary, health club dues, and general health supplements. Expenses must not have been reimbursed by other means, such as health insurance, to maintain their qualified status. Eligible expenses can be incurred by the account holder, their spouse, or dependents.

Methods for Accessing Funds

Several practical methods exist for accessing funds from an HSA once a qualified medical expense has been identified. Many HSA custodians provide a dedicated debit card, allowing for direct payment at the point of service. This offers immediate access to the funds for eligible purchases.

Account holders can also utilize online platforms provided by their HSA custodian to transfer funds. This often involves moving money to a linked bank account or directly paying healthcare providers through an online bill pay feature. Some custodians may also offer a checkbook, enabling individuals to write checks directly from their HSA.

A common strategy involves paying for medical expenses out-of-pocket and then reimbursing oneself from the HSA. This approach allows the HSA funds to potentially grow tax-free over a longer period. A crucial rule for reimbursements is that the medical expense must have been incurred after the HSA was established. There is no time limit for when you can reimburse yourself, meaning you can pay for an expense today and reimburse yourself years or even decades later, provided you maintain proper documentation.

Tax Considerations

Understanding the tax implications of HSA withdrawals is essential to maximize the account’s benefits and avoid penalties. Withdrawals used exclusively for qualified medical expenses are entirely tax-free.

However, withdrawals for non-qualified expenses before the account holder reaches age 65 are subject to ordinary income tax. An additional 20% penalty tax also applies to these non-qualified distributions. This penalty is designed to discourage using HSA funds for non-medical purposes prior to retirement age.

Upon reaching age 65, the rules for non-qualified withdrawals change. While such withdrawals remain subject to ordinary income tax, the 20% penalty is waived. At this point, an HSA functions similarly to a traditional Individual Retirement Account (IRA) or 401(k) for non-medical distributions, where withdrawals are taxed as income but without an early withdrawal penalty. The HSA trustee or custodian reports distributions to the account holder and the IRS on Form 1099-SA. Taxpayers then use Form 8889 to report contributions and distributions and calculate any taxable amounts on their annual tax return.

Documentation and Record Keeping

Maintaining accurate and thorough records is important for HSA account holders. The IRS requires proof that all withdrawals were used for qualified medical expenses, especially in the event of an audit. Without proper documentation, distributions may be deemed non-qualified, leading to income tax and potential penalties.

Account holders should retain receipts for all medical expenses paid with HSA funds. This includes detailed records such as Explanation of Benefits (EOBs) from insurance providers and any other supporting documentation for the medical necessity of an expense.

It is advisable to keep HSA records for at least three years from the tax filing date, as this is the typical period for IRS audits. Some advisors suggest keeping records longer to cover future reimbursements of past expenses. Many HSA custodians offer online tools or digital storage options that can assist in organizing and maintaining these important documents securely.