What Will Happen to My HSA When I Die?

Health Savings Accounts (HSAs) offer a tax-advantaged way to save for healthcare expenses. These accounts provide a triple tax benefit: tax-deductible contributions, tax-free growth, and tax-free withdrawals for qualified medical costs. An HSA can be a powerful tool for managing healthcare finances, but understanding what happens to these funds upon the account holder’s death is important for estate planning. This article explains the disposition of HSA funds after the account holder passes away, considering various beneficiary designations and their tax implications.

Naming an HSA Beneficiary

Designating a beneficiary for a Health Savings Account is a straightforward process. Account holders typically complete a beneficiary designation form provided by their HSA custodian. This designation ensures funds are distributed according to the account holder’s wishes, bypassing the probate process.

Three types of beneficiaries can be named: a spouse, a non-spouse individual, or the account holder’s estate. If a spouse is named, the HSA can be treated as their own, retaining its tax-advantaged status. When a non-spouse individual is designated, the HSA ceases to be an HSA upon the account holder’s death, and funds are distributed directly to that individual. If the account holder names their estate as the beneficiary, or if no beneficiary is named, the HSA funds become part of the decedent’s overall estate.

Tax Implications for Beneficiaries

The tax treatment of inherited HSA funds differs significantly based on the type of beneficiary designated by the original account holder. This distinction is important for beneficiaries to understand, as it directly impacts the tax liability associated with the inherited funds.

If the surviving spouse is the designated beneficiary, the HSA automatically becomes their own HSA upon the original account holder’s death. This transfer is not a taxable event, and the funds retain their tax-advantaged status, meaning they can continue to grow tax-free and be withdrawn tax-free for qualified medical expenses. The spouse can use the funds for their own qualified medical expenses, and if they are under age 65 and use funds for non-qualified expenses, those distributions would be subject to income tax and a 20% penalty. If the spouse is age 65 or older, they can withdraw funds for any purpose without penalty, though non-qualified withdrawals would still be subject to income tax.

For a non-spouse individual named as beneficiary, the HSA ceases to be an HSA as of the date of the account holder’s death. The fair market value (FMV) of the HSA on the date of death is generally includible in the non-spouse beneficiary’s gross income for the year the account holder died. However, the taxable amount can be reduced by any qualified medical expenses incurred by the deceased account holder that are paid by the non-spouse beneficiary within one year after the date of death. Unlike non-qualified withdrawals by the original account holder or a spouse under 65, non-spouse beneficiaries do not face a 20% penalty on the distribution, but the entire balance is generally taxed as ordinary income.

When no beneficiary is named, or if the estate is explicitly designated as the beneficiary, the fair market value of the HSA on the date of death is included in the decedent’s final income tax return. In this scenario, the HSA loses its tax-advantaged status for the estate, and the funds become subject to income tax at the decedent’s tax rate. This can potentially increase the tax burden on the decedent’s final tax return. The funds then become part of the decedent’s estate and are distributed according to the terms of their will or state intestacy laws, similar to other assets in the estate.

Claiming HSA Funds

Beneficiaries of a deceased account holder’s HSA must follow specific steps to access or transfer the funds. The initial action involves contacting the HSA custodian where the account is held. This notification should occur as soon as reasonably possible after the account holder’s passing.

The custodian will typically require documentation to process the claim. Common documents include a certified copy of the death certificate, proof of identity for the beneficiary, and any beneficiary designation forms on file. Requirements may vary by custodian, so inquire about their specific procedures.

For a spouse, the process usually involves transferring funds into their own existing HSA or opening a new one with the same custodian. This transfer maintains the tax-advantaged status of the funds.

Non-spouse beneficiaries generally receive a direct distribution. The custodian will issue necessary tax forms, such as Form 1099-SA, which reports the distribution and its fair market value on the date of death. Processing time can vary, but beneficiaries should anticipate a few weeks for paperwork and fund transfers.

When No Beneficiary Is Named

If an HSA account holder dies without designating a beneficiary, the funds typically become part of the decedent’s estate. This means the HSA assets will be subject to the probate process, which is the legal procedure for validating a will and distributing a deceased person’s assets. The distribution of these funds will then occur according to the decedent’s last will and testament, if one exists, or through state intestacy laws if there is no will. The funds are treated like any other asset within the estate.