How an HSA works and why

Learn the rules and regulations behind the two parts of every HSA (the high deductible health plan and the HSA bank account).

Jump down to:
High deductible health plan
HSA bank account

High deductible health plan

According to the IRS, high deductible heath plans (or HDHPs):

• Must have a deductible no less than $1,200 for singles or $2,400 for families (in 2010)¹
• Must have an out-of-pocket maximum no higher than $5,950 for singles or $11,900 for families (in 2010) - most plans set them lower
• Can use any plan design: HMO, POS, PPO or traditional indemnity plan
• Require a member to meet the deductible before the health plan benefits apply - all medical and prescription costs count toward the deductible
• Are allowed to cover preventive care services before the deductible is met
• Can be fully funded or self-funded
• Cover standard services, such as physician services, hospital visits, preventive care, prescription drugs, etc.
• Cover all medical and prescription drug services in full for the rest of the year once the member meets the out-of-pocket maximum

HSA bank account

According to the IRS, HSA bank accounts:

• Limit annual contributions to $3,050 for singles and $6,150 for families (in 2010)
• Allow people aged 55 and older to contribute an additional $1,000 per year (in 2010) to "catch up" on their contributions
• Are tax-exempt - no income tax, FICA or FUTA withholding/payments apply to contributions an employee makes directly through an employer's health plan²
• Can be used to pay for all medical, vision, dental or prescription costs; long-term care premiums; COBRA; health care for those drawing unemployment; Medicare premiums (but not Medigap); any health insurance for those 65 and over (per Section 213(d))
• Cover expenses incurred by and accept contributions from an employee, spouse and dependents
• Must charge a 10% penalty for invalid expenses and include the amount on the employee's gross income, making it subject to taxes. The 10% penalty ends when you are 65, disabled or deceased.³

¹Even if you break your plan into multiple tiers (employee, employee+1, employee+child(ren), etc.), the IRS sets its rules in terms of "single" or "family." The "family" deductible must apply to any tiers that include more than one person.

²HSA bank accounts are also tax exempt if an employee doesn't make contributions through their employer's plan. In that case, the employee needs to take an "above-the-line" deduction for any contributions they deposited themselves when they file their income taxes.

³The employee is fully responsible for when and what purchases are made and all associated penalties.