Penalty for Having HSA and FSA: What You Need to Know
Understand the implications of managing both HSA and FSA accounts, including tax penalties and contribution limits.
Navigating the complex world of healthcare savings can be challenging, especially when it comes to understanding Health Savings Accounts (HSAs) and Flexible Spending Accounts (FSAs). These accounts offer tax advantages for medical expenses, but using them simultaneously may lead to unintended penalties.
Understanding these potential pitfalls is key to maximizing benefits while avoiding costly mistakes. Here’s what you need to know about the implications of maintaining both an HSA and FSA.
Key Criteria for Account Participation
When participating in Health Savings Accounts (HSAs) and Flexible Spending Accounts (FSAs), understanding eligibility requirements is essential. HSAs are available to individuals with high-deductible health plans (HDHPs), as defined by the IRS. For 2024, an HDHP requires a minimum deductible of $1,600 for self-only coverage and $3,200 for family coverage, with maximum out-of-pocket expenses capped at $8,050 and $16,100, respectively. These figures are updated annually, so staying informed is crucial.
FSAs, typically offered through employer-sponsored health plans, do not require specific health insurance enrollment. The IRS limits FSA contributions to $3,050 for 2024. Unlike HSAs, FSAs are subject to the “use-it-or-lose-it” rule, meaning unspent funds may be forfeited, although some plans allow limited carryover or a grace period.
IRS regulations govern the interaction between HSAs and FSAs. Generally, individuals cannot contribute to an HSA if they are covered by a general-purpose FSA, as this disqualifies HSA eligibility. However, a limited-purpose FSA, covering only dental and vision expenses, can coexist with an HSA, allowing individuals to maximize tax-advantaged savings.
Potential Tax Penalty for Dual Enrollment
Dual enrollment in both HSAs and FSAs comes with tax implications. The IRS restricts simultaneous participation to prevent excessive tax advantages. A key issue arises when individuals contribute to an HSA while covered by a general-purpose FSA, which disqualifies them from HSA eligibility.
In such cases, the IRS requires that HSA contributions be included in gross income, nullifying the tax benefits. Additionally, these contributions may incur a 6% excise tax on excess contributions until the excess is withdrawn, as specified in Section 4973 of the Internal Revenue Code.
To avoid penalties, individuals should evaluate their health plan coverages and account types at the beginning of each plan year. Employers can help by providing clear information about dual enrollment implications, while financial advisors can guide compliance with IRS rules and optimize savings.
Excess Contribution Ramifications
Exceeding contribution limits for HSAs and FSAs can result in financial penalties. For 2024, HSA contribution limits are $4,150 for individuals and $8,300 for families, while the FSA limit is $3,050. Contributions above these thresholds incur a 6% excise tax until the excess is withdrawn, as outlined in Section 4973 of the Internal Revenue Code.
To address excess contributions, account holders must withdraw the excess amount before the tax filing deadline, typically April 15 of the following year. Failure to do so results in the excise tax and taxation on any earnings from the excess funds. This underscores the importance of monitoring contributions throughout the year.
Employers and account custodians can help by providing detailed statements and alerts when contributions approach annual limits. Individuals may also benefit from tax software or professional advice to ensure accurate tracking and compliance.
Ineligible Medical Expense Penalties
HSAs and FSAs offer tax benefits for qualifying medical expenses, but using funds for ineligible expenses can lead to penalties. Per IRS Publication 502, eligible expenses include costs for diagnosis, treatment, prevention of disease, and treatments affecting body structure or function. Ineligible expenses include cosmetic procedures, over-the-counter medications without a prescription, and general health items like toothpaste.
For HSAs, using funds for ineligible expenses makes those distributions taxable and subjects them to a 20% penalty, unless the account holder is over 65, disabled, or deceased. FSAs require reimbursement for ineligible expenses, which can be both administratively and financially burdensome.
Understanding what qualifies as an eligible expense is essential for avoiding these penalties. Tax professionals and IRS resources can help account holders make informed decisions and maintain compliance.