What is a Health Savings Account?
A Health Savings Account is an account established exclusively for the purpose of paying qualified medical expenses incurred by the account beneficiary (eligible individual).
Both Individual HSAs and HSAs offered by employers are available. We are going to focus on HSAs offered as an employee benefit for our purposes here.
Health Savings Accounts allow employers and employees to make tax-free payroll contributions to the Plan to pay for certain out-of-pocket medical expenses. By paying for these expenses on a pre-tax basis your employees increase their take-home pay without costing you more money. You the employer save on payroll taxes for all participating employees.
NOTE: An individual may establish a Health Savings Account (HSA), only if they are first covered under a High Deductible Health Plan (HDHP) . This means as an employer you must offer a HDHP in order to offer the HSA benefit.
HSA Under a Cafeteria Plan – Setting It Up
Contributions to the HSA may be made pre-tax under a Section 125, Cafeteria Plan. Individual contributions are deducted pre-tax via payroll deduction. The employee, the employer, or both may make contributions to the HSA account.
The non-discrimination rules applicable to a Cafeteria Plan are applicable to HSA
contributions made under a Cafeteria Plan. This includes both employer and employee contributions.
The following Cafeteria Plan rules do
not apply to HSAs:
1. The prohibition against a benefit that defers compensation by permitting employees to carry over unused elective contributions or plan benefits from one plan year to another (the Use-It-Or-Lose-It rule).
2. The mandatory 12-month period of coverage.
3. Change-in-status rules.
It is best to add a HSA benefit at the same time as the Cafeteria Plan renewal as
trying to add the benefit mid-year causes some problems. Technically, if the benefit is added
mid-year, then the medical FSA must be changed to either a Limited Purpose FSA or a Post Deductible
FSA .
In addition, the employee would most likely desire a change in their annual contribution to their current medical FSA; however, adding a HSA benefit mid-year is not a qualifying event that would allow a change to the medical FSA. Another option is to terminate the Section 125 Cafeteria Plan mid-year; however, how to handle the employee account balances is then another issue.
The HSA account may be set up for an indefinite period of time. An eligible employee may only contribute to the account while they are covered under a qualified High Deductible Health Plan (HDHP). However, the employee may receive distributions from the account even when they are no longer covered under the HDHP.
The Plan Document should be amended by the Cafeteria Plan administrator to include the HSA as a benefit that is allowed under the Plan. The Document should also be changed in order to clarify that if there is a medical FSA, the medical FSA will now be considered a Limited Purpose FSA or a Post Deductible FSA , and reimburse only those expenses that qualify.
How Does It Work?
Pre-tax funds are deducted via payroll deduction and are deposited into a selected financial institution custodial account. When a qualified expense is incurred, the employee requests reimbursement from the HSA custodial account to pay for the expense.
This "request" can be handled in a variety of ways, based on the specifics of said account. Customarily, methods such as checks, debit cards, and so on are made available to HSA account holders.
Expenses
Qualified medical expenses include costs for medical care as defined in Section
213(d) of the Internal Revenue Code (including OTC, non-prescription drugs), but only to the extent
the expenses are not covered by insurance or otherwise. Generally health insurance premiums are not
qualified medical expenses except for the following: qualified long term care insurance, COBRA
continuation health care coverage, and health care coverage while an individual is receiving
unemployment compensation. The qualified medical expenses must be incurred only after the HSA has
been established.
Exception
If an individual is enrolled in Medicare they are ineligible because Medicare is considered to be "other" coverage that would disqualify the individual from being able to establish the HSA.