What Is a Medicare Medical Savings Account and How Does It Work?

A Medicare Medical Savings Account (MSA) combines a high-deductible insurance plan with a savings account for medical expenses. It provides an alternative for individuals willing to cover out-of-pocket costs before insurance coverage begins.

Eligibility Criteria

To qualify, individuals must be enrolled in Medicare Part A and Part B. Those receiving Medicaid or covered by employer-sponsored insurance or Veterans Affairs benefits may be ineligible.

Enrollees must reside in the U.S. for at least 183 days per year to meet IRS tax rules. Additionally, participation in another Medicare Advantage plan is not allowed, as MSAs fall under Medicare Advantage.

Contribution Guidelines

Medicare MSAs do not permit personal contributions. Instead, Medicare deposits a fixed amount annually, varying by plan. Higher-deductible plans receive larger deposits. For instance, a $5,000 deductible plan might receive $2,500, leaving the individual responsible for the rest before coverage applies.

Funds roll over year to year, allowing long-term savings. However, since only Medicare contributes, account growth is limited. If an individual switches plans or disenrolls, the remaining balance remains available for medical expenses but cannot be replenished.

Qualified Expenditures

MSA funds can be used for qualified medical expenses under the Internal Revenue Code, including doctor visits, hospital stays, diagnostic tests, and durable medical equipment. Dental, vision, and prescription costs are also eligible.

Over-the-counter medications require a prescription to qualify. Long-term care services may be covered if they meet the IRS definition of medical care, but custodial care does not qualify.

MSA funds cannot be used for Medigap premiums, but certain long-term care insurance premiums may be eligible. Withdrawals for non-medical expenses are subject to regular income tax and, if taken before age 65, a 50% penalty. Keeping receipts and itemized statements is crucial for IRS audits.

Tax Considerations

Medicare’s annual deposit is not taxable if used for qualified medical expenses. Any interest or investment earnings remain untaxed as well.

Non-medical withdrawals are taxable and incur a 50% penalty, which does not decrease with age. Detailed transaction records help avoid tax complications.

Account Closure Process

An MSA closes if an individual disenrolls, switches plans, or passes away.

If voluntarily leaving an MSA plan, the remaining balance remains available for medical expenses, but no further Medicare deposits will be made. Non-medical withdrawals continue to be taxed and penalized.

Upon the account holder’s death, funds transfer to the designated beneficiary. If the beneficiary is a spouse, the account retains its tax-advantaged status. Otherwise, the balance becomes taxable income in the year it is inherited. Naming a beneficiary helps manage tax consequences.

Changing Health Coverage

Switching from an MSA to another Medicare plan affects both healthcare benefits and account status.

Once an individual leaves an MSA plan, Medicare stops making deposits, and non-medical withdrawals are taxed and penalized. Medigap premiums cannot be paid with MSA funds.

Medicare Advantage Open Enrollment and Special Enrollment Periods dictate when plan changes can occur. Evaluating medical expenses, deductible obligations, and the remaining MSA balance ensures a smooth transition.