What Is the Likelihood of an HSA Audit?

A Health Savings Account (HSA) offers a triple-tax advantage: contributions are deductible, the funds grow tax-free, and withdrawals for qualified medical expenses are also tax-free. Because of this favorable tax treatment, the Internal Revenue Service (IRS) has specific rules governing their use. While the odds of the IRS selecting a tax return for an audit based solely on an HSA are low, mistakes related to the account can serve as a red flag. An error on your HSA reporting can draw attention to your entire tax return.

Common HSA Audit Triggers

The IRS utilizes automated systems that compare information on tax returns to data received from employers and financial institutions. Several issues can trigger an audit:

• Contributing more than the annual limit. For 2025, the contribution limits are $4,300 for individuals with self-only coverage and $8,550 for those with family coverage. Individuals age 55 and older can contribute an additional $1,000.
• Taking distributions for non-qualified medical expenses. While HSA custodians are not required to verify the purpose of a withdrawal, the taxpayer is responsible for proving the funds were used appropriately if questioned by the IRS.
• Making contributions when you are no longer covered by a qualifying high-deductible health plan (HDHP). This often occurs when a taxpayer changes jobs or insurance plans mid-year and fails to stop HSA contributions.
• Clerical errors on Form 8889, Health Savings Account (HSA). This includes discrepancies between employer contributions reported on your Form W-2 and the amounts you list on the form, or failing to file it altogether when you have had HSA activity.

Defining Qualified Medical Expenses

The legitimacy of an HSA distribution hinges on whether the funds were used for a “qualified medical expense.” The IRS provides a comprehensive definition in Publication 502, Medical and Dental Expenses. These expenses are for the diagnosis, cure, mitigation, treatment, or prevention of disease, and they also include payments for treatments affecting any structure or function of the body.

This encompasses a wide range of common costs, such as payments to doctors and dentists, prescription medications, and insulin. Expenses like eyeglasses, contact lenses, hearing aids, and dental treatments from cleanings to fillings are generally permissible. The costs of transportation primarily for and essential to medical care are also included.

Conversely, you cannot use HSA funds tax-free for expenses that are merely beneficial to general health, such as a gym membership or non-prescription vitamins. Elective cosmetic surgery is another non-qualified expense. Any amount paid with HSA funds that is later reimbursed by an insurance provider must be returned to the account.

Essential Recordkeeping for HSA Owners

The responsibility to prove that HSA funds were used correctly falls on the taxpayer, making recordkeeping important. For every distribution, you should retain documentation that shows the expense was for a qualified medical purpose. This includes itemized receipts from the provider, a copy of the prescription, or an Explanation of Benefits (EOB) statement from your insurer.

Bank statements or credit card bills are generally not sufficient on their own, as they do not describe the specific service or product purchased. It is also wise to keep records proving your eligibility to contribute, such as documents showing your enrollment in a qualifying HDHP.

The IRS generally has three years from the date you file your tax return to initiate an audit, so you should keep all supporting documents for at least this long. Since you can reimburse yourself from an HSA for a qualified medical expense incurred in a prior year, many tax professionals advise keeping these records for as long as the account is open.

Penalties for Improper HSA Use

Should the IRS determine that you used HSA funds for a non-qualified expense, the financial consequences are twofold. First, the amount of the non-qualified distribution is included in your gross income for the year the withdrawal was made and is taxed at your ordinary income tax rate. On top of the income tax, the IRS imposes an additional 20% tax on the amount of the improper distribution.

For example, if a taxpayer in the 22% tax bracket takes a $1,000 non-qualified distribution, they would owe $220 in income tax and an additional $200 tax, for a total of $420. An exception to the 20% additional tax exists. This penalty is waived for HSA holders who are age 65 or older, become disabled, or upon the death of the account owner. However, even in these situations, the distribution amount is still considered taxable income if used for non-qualified expenses.