Health Savings Account Contributions Tax Deduction

Question

I'll start with my understanding of Health Savings Accounts and the tax deductions for them and medical expenses. Correct me if I'm wrong:

• Contributions to an HSA are tax deductible
• The contribution limit for an HSA is $3450 for an individual (employer + employee)
• I can contribute whenever I want with a transfer from another bank account
• I can use the funds for medical expenses for any immediate family member
• Only medical expenses in excess of 7.5% of AGI (and not paid for from HSA) are tax deductible

So, if a member of my family has an unusually high medical expense for the year which will exceed the out of pocket maximum for the plan which covers them, can I funnel the funds to pay the bill through my HSA (up to the limit for the HSA) and essentially make that portion of the bill tax-deductible? The out of pocket max for their plan is less than 7.5% of our AGI so no portion of the bill would be tax deductible that way.

The HSA is new this year so there is not much saved in it. So I would be essentially maxing out the contribution limit with a deposit and then using the funds nearly right away to pay the medical bill.

This seems like a nice little "loop-hole" which can be used to make expenses less than 7.5% of AGI tax deductible while also not requiring me to really use the HSA as a savings account (the money would go in and right back out). If our effective tax rate is around 15%, we could save around $500.

Am I missing anything?

Answer 1

You aren't missing anything. It's not really a "loophole" as what you described isn't much different than someone saving for years and then using it all at once. The only difference in your case is that you haven't funded it yet so you are planning to make a full year's contribution all at once.

Note that even though you can do what you described, you don't have to do it exactly that way. You can still make your max contribution to your HSA account, but instead of paying the medical bill with your HSA debit card you could pay with your favorite credit card to get some rewards, and then cut yourself a reimbursement check from the HSA for the full $3450 (or do a direct transfer right back to your bank account), and use that to pay off your CC bill. If you have 2% cash back this will yield a $69 bonus.

Or, if you don't need the money right away, you can just leave it sitting in the HSA, and you could potentially even invest it. Once you have eligible medical expenses that you paid with funds outside of the HSA, you are then able to take that amount out of your HSA any time you'd like, even years in the future if you wish to let it sit and grow tax free before withdrawing it.

By the way, here's a previous answer where I suggested the same thing you are proposing (under "Helpful Tip").

Answer 2

it isn't clear from your description, but does your HSA cover your whole family or just yourself? Also assuming that you're under 55 years old. If you have an "individual HSA", then you have all the bullet points correct. If you have a high deductible medical plan that covers your whole family, then the HSA contribution limit is $6,900.

Regardless of the contribution limit, pushing money through the HSA to basically use pre-tax dollars is exactly the intent. Use it to the greatest extent possible. What doesn't get used one year is yours forever and is treated much like a Roth IRA.

Answer 3

Yes, what you are suggesting is completely legal. I essentially did that myself a couple of years ago: I was making modest contributions to an HSA, then I got hit with some large medical bills so shuffled more money in so I'd have enough to cover the bill.

Whether that's a "loophole" depends on definitions and point of view and you could argue that all day. The point of HSAs is that you have a high-deductible insurance policy. The people who originally pushed HSAs were trying to get more Americans to have high deductible policies, on the reasoning that if you have to pay for most medical care yourself, you would shop around more, and that this would introduce competition and bring down overall medical costs. So they created a tax incentive to have a high-deductible policy so that it could compete with the plans that many Americans have thru their employers which are already tax deductible. I haven't seen any studies on whether or not this has worked, whether people with HSAs really do shop around more and if so if this has measurably brought down medical costs, but that was the idea.