what is the tax penalty for contributing to an hsa while on medicare?
Wellness Savings Accounts (HSAs) Divers
Health Savings Accounts (HSAs) are savings accounts that let consumers to put coin aside to pay for sure "qualified health expenses" on a tax-costless basis. HSAs are used in tandem with high deductible health plans (HDHPs), which are wellness insurance plans that require loftier deductibles to be paid prior to triggering insurance coverage. By requiring the payment of significant out-of-pocket costs upfront, HDHPs theoretically encourage consumers to make cautious health intendance purchasing decisions and avoid unnecessary or excessive intendance. This may, however, actually make consumers question whether intendance is appropriate, and forgo needed treatment. To ease the financial brunt of these loftier up-front costs, HSAs are used in conjunction with HDHPs to brand tax-gratuitous healthcare purchases while spending toward the high deductible.
Eligibility to Setup an HSA
Anyone who is enrolled in an HDHP (or has coverage through a family fellow member's HDHP) is eligible to setup an HSA. IRS rules, even so, prohibit the agile use of HSAs when one has a plan other than an HDHP.[ane] The reasoning is that those in not-HDHP plans practise not face the aforementioned high out-of-pocket price burdens to justify taxation relief. Therefore, if one has whatever course of coverage other than a HDHP (including dual coverage under a not-HDHP plan), they are ineligible to setup an HSA.
Setting Up HSAs While Enrolled in Medicare
Medicare Part A and B plans are non considered HDHPs and therefore individuals cannot setup an HSA afterward they are enrolled in Medicare.[2] One can however go on to withdraw from an existing HSA while on Medicare (with limitations, as explained below).
Retaining HSAs While Enrolled in Medicare
While Medicare beneficiaries cannot set up HSAs after they are enrolled in Medicare, they may keep an HSA if it was in beingness prior to Medicare enrollment. For example, an individual previously covered nether an employer's HSA+HDHP plan who chooses to retire may keep the HSA even after terminating the HDHP coverage and enrolling in Medicare. Alternatively, an private who chooses to keep an HSA+HDHP plan (or remain in a spouse'south HSA plan) and dually enroll in Medicare may keep the HSA. However, individuals may not proceed to contribute funds to the HSA if enrolled in Medicare (or other, non-HDHP program).[3]
Using HSAs While Enrolled in Medicare
If a beneficiary chooses to keep a HSA after enrolling in Medicare, he or she may go along to withdraw existing funds from the account to pay for "qualified medical expenses" on a taxation-complimentary basis.[4] Qualified medical expenses are defined by the IRS and include a big range of health intendance services, medications, and equipment. The definition also includes Medicare premiums and copays, a valuable way for Medicare beneficiaries to make use of their unused HSA funds. (Note, however, that premiums for Medicare supplemental policies, besides known as Medigap plans, are excluded from the definition and cannot be paid from an HSA).[v]
While Medicare beneficiaries can go on to withdraw funds from their existing HSA, they cannot go on to make tax-gratis contributions to the business relationship in one case they are enrolled in Medicare. Medicare beneficiaries may use existing HSAs to pay for qualified medical expenses until funds are exhausted, at which betoken the HSA is no longer of use.[six]
Consequences of Contributing Funds to an HSA When Enrolled in Medicare
Medicare beneficiaries who continue to contribute funds to a HSA may face up IRS penalties including payment of back taxes on their tax-free contributions and account interest, excise taxes, and additional income taxes.[7]
Contributions to an HSA are made on a pre-tax ground; Medicare beneficiaries will be discipline to payment of dorsum taxes on any contributions fabricated to the account afterwards their date of Medicare enrollment. The contributions may too be considered "backlog contributions" by the IRS and subject to an boosted 6% excise revenue enhancement when those funds are withdrawn. Furthermore, the casher could be subject to a 10% income tax if they enroll in Medicare during their "testing period" for the HSA.[8]
Individuals receiving Social Security benefits will be automatically enrolled in Medicare Part A upon turning 65. Thus they must pay item attention to HSA rules. The HSA trustee in accuse of administering the programme may or may non be aware of the individual'due south new Medicare enrollment. Some HSA trustees may have the ability to lock the casher'due south account from any additional contributions, simply this is not always the example. It is therefore incumbent on the beneficiary to be aware of the consequences and immediately stop contributing to their HSA upon their date of enrollment in Medicare.
Example: Mr. Grand. has been receiving Social Security benefits since he turned 62 in 2014. He turns 65 in March 2017. He should finish contributing to his HSA in Feb 2017.
Individuals who turn 65 but are not however receiving Social Security benefits must accept affirmative steps to enroll in Medicare. They must stop making HSA contributions for up to 6 months before enrolling in Medicare.
The IRS will consider an individual to take had Medicare (non-HDHP) coverage during those retroactive do good months for purposes of HSA contribution rules. Thus whatsoever contributions made during the retroactive period will be subject to the same IRS penalties as someone who contributed after their Medicare enrollment date. Therefore, it is critical that prospective Medicare beneficiaries finish contributing to an HSA up to vi months prior to enrolling in Medicare. For example:
Example 1: Mr. G. turns 65 in March 2017. He plans to retire in June 2017. He should stop contributing to his HSA in February 2017.
Example two: Ms. S. turns 65 in March 2017. She plans to retire in July 2018. She should end contributing to her HSA in Dec 2017.
Contesting Penalties for Contributions Made During the Medicare Retroactive Period
Individuals have no recourse to competition the penalties after they've been imposed past the IRS. Steps can exist taken, however, to prevent penalties for ineligible contributions. An individual beneficiary tin can withdraw any contributions made while ineligible for an HSA without penalization if they:
- Withdraw the contributions past the due date of the taxation render for the year the contributions were made, and
- Withdraw any income earned on the withdrawn contributions and include the earnings on their tax return.[nine]
Conclusion
Individuals who have an HSA who will qualify for Medicare must exist cognizant of HSA rules and ensure that they cease making contributions at the appropriate time in order to avert tax penalties. While previously established HSAs can provide valuable advantages to Medicare beneficiaries, such every bit paying for Medicare cost-sharing and out-of-pocket costs, HAS contributions must stop prior to enrollment in Medicare. Indeed, such contributions could result in significant financial penalties.
March 1, 2017 – A. Roozbehani
[i] United states of america. Dept. of the Treasury. Internal Revenue Service. Publication 969: Health Savings Accounts and Other Tax-Favored Health Plans, Internal Revenue Service, 2016. https://www.irs.gov/pub/irs-pdf/p969.pdf (Folio 3).
[ii] Id.
[3] Id. at page six
[4] Id. at page 8
[5] Id.
[6] Id. at page six
[seven] Id. at page 7
[8] Under IRS rules, if one is eligible to set upwardly an HSA on the showtime mean solar day of the concluding calendar month of the tax year (usually Dec 1st), they will be considered to take been eligible for an HSA for the entire year. As such, they may contribute the annual maximum amount of funds ($3,400 for individuals in 2017) to their account tax free (as opposed to a pro-rated amount based on their calendar month of eligibility). If, however, the private becomes ineligible for the HSA anytime in the adjacent agenda year (referred to as the "testing flow"), either due to Medicare enrollment or otherwise, they will be subject to back taxes and a 10% income tax penalisation on the amount of funds they contributed. Id. at page vi.
[9] Id. at page 7
Source: https://medicareadvocacy.org/health-savings-accounts-and-medicare-beneficiaries/
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