One Family’s Approach to Financing Care

Bill Stuart and his wife surrounded by their 4 children

“We received a $500 prompt-pay discount and saved approximately $600 on the $1,900 net bill. So, between prompt-pay discount (drawing on Health FSA funds that hadn’t yet been deducted from my paycheck) and the tax savings, our net cost was about $1,300. In contrast, the person in the next chair probably wasn’t covered by a Health FSA . . . She probably had to finance the procedure. Not only did she pay the full $2,400 cost, but she probably paid enough in interest that her total net cost for the procedure was double ours.”

William G. (Bill) Stuart

Director of Strategy and Compliance

October 18, 2018

My family isn’t remarkable, despite what my wife and I think. We have a blended family with four young adult children, two cats, and a live-in son’s new German shepherd. We live in the suburbs. We all work or are full-time college students. We pay our bills, pay our taxes, and keep our yard neat. We even recycle our plastic grocery bags at containers at the store rather than mix them with other recycled material.

Yet even in our unremarkableness, we offer some important lessons about HSA eligibility, contributions, and distributions. Let’s focus on those lessons, beginning with a high-level review of these topics:

Eligibility: To be HSA-eligible, an individual needs to (1) be enrolled in HSA-qualified coverage, (2) have no disqualifying coverage (like Medicare or a traditional Health FSA), and (3) not qualify as another taxpayer’s tax dependent under Section 152 of the Internal Revenue Code (IRC).

Contributions: The statutory annual contribution limits are $3,450 in 2018 (increasing to $3,500 in 2019) for self-only coverage and $6,900 (increasing to $7,000) for family coverage. HSA-eligible individuals age 55 or older can contribute an additional $1,000 catch-up contribution annually. The applicable contribution limit – self-only or family – depends on the size of the contract, not how many enrolled family members are HSA-eligible.

Distributions: HSA owners can make tax-free distributions to reimburse qualified expenses incurred by themselves, their spouses, and their tax dependents. It doesn’t matter whether the HSA owner, the spouse or the tax dependent is HSA-eligible or whether any of these family members are enrolled in the HSA owner’s HSA-qualified plan. All that matters is their tax status relative to the HSA owner.

By the way, you can take a deeper dive into these topics by reading our Health Savings Account GPS, a handy reference guide to HSA rules.

Now let’s put these principles perspective by applying them to my family and our HSAs and Health FSAs.

My Family and HSAs

My wife and me. Chris and I are enrolled on the Benefit Strategies, LLC medical plan and are both HSA-eligible. I have an HSA into which my employer and I are depositing my maximum contribution of $7,900 in 2018. That figure includes the statutory maximum annual contribution for a family contract ($6,900) plus my $1,000 catch-up contribution that I’ve made annually since I turned age 55 and qualified for the additional deposit.

Chris and I can split the $6,900 contribution between us as we wish because we’re married. She set up an HSA several years ago, and we made a small personal (tax-deductible) contribution, but otherwise, it lies dormant. Although we could direct some of the statutory contribution limits into her HSA, we don’t.

Why? I contribute to my HSA through pre-tax payroll – in other words, before federal and state income taxes and FICA taxes are applied. Contributions to her HSA are post-tax. We can deduct them on our joint tax return, in effecting receiving a rebate on federal and state income taxes paid on the funds when earned. But we can’t recoup the FICA taxes. If we split the contribution between the two HSAs, we’d pay an additional $294 in FICA taxes on the $3,450 personal contribution to her HSA.

Chris isn’t quite eligible to make a catch-up contribution. In the year that she turns age 55, we can begin to deposit $1,000 annually into her HSA. These contributions will be income-tax-deductible, but we will have paid $76.50 in payroll taxes that we can’t recoup.

Mike. Mike is 26 and covered on his carpenter’s union plan. Two years ago, he was covered on my medical plan. When he incurred medical bills (he ushered at his cousin’s wedding before we brought the reception dinner to him in the emergency department of a local hospital) Chris and I couldn’t reimburse those qualified expenses tax-free from either of our HSAs because Mike wasn’t our tax dependent.

Mike was eligible to open and contribute to his own HSA because his only coverage was an HSA-qualified plan and he didn’t qualify as anyone’s tax dependent. I helped him set up his own HSA. Chris and I helped him offset his expenses with a contribution to his HSA. He received the tax deduction because unless the contribution comes from an employer, it’s deductible by the owner of the HSA.

How much could he contribute to his HSA, given that I made the statutory maximum contribution for a family contract that year? That’s an interesting question, and one never formally answered by the Internal Revenue Service (IRS). In 2010, an IRS agent appeared at an American Bankers Association meeting. This isn’t unusual. Professional organizations invite IRS agents to provide some insight into tax law and its application. The organizations pose a question, propose an answer, and then look for the IRS agent to provide insight – not binding guidance, but merely her opinion of the response based on her knowledge of the law.

At the ABA meeting, industry officials posed this scenario: Two domestic partners are covered on the same plan. They’re not married – an important fact, since the law states clearly that married couples can’t contribute more than the statutory maximum contribution for a family contract, split between them as they wish. They’re not enrolled in any disqualifying coverage. And neither qualifies as the other’s tax dependent.

The industry officials posited that in this case, each partner could contribute up to the family maximum. The meeting minutes reflect that the IRS official agreed with this interpretation.

Again, this isn’t formal guidance, and we recommend that you consider consulting your personal tax, financial, or legal counsel before you adopt this approach. We relied solely on this guidance to make the maximum contribution to my HSA and also fund part of Mike’s HSA.

Note: This view applies not only to non-dependent children but also to domestic partners and ex-spouse’s who are covered on the medical plan. A family plan that covers two domestic partners and two adult children who aren’t tax dependents on a single HSA-qualified plan with a $3,000 deductible could result in four HSAs and contributions up to $6,900 in each account ($27,600 total), plus catch-up contributions if the domestic partners qualified. That’s a pretty good tax break for four people in the same family for family deductible as low as $2,700, eh?

Matt.  Matt is 24. He’s a paramedic and recently secured a job as a firefighter. Earlier this week, he graduated from the Massachusetts Fire Academy. He waived medical coverage through his employer to remain on my plan. He’s no longer my tax dependent. He can open his own HSA, as Mike did two years ago. And I’ve advised him that he can contribute up to the statutory maximum annual contribution for a family contract, irrespective of what I contribute to my HSA.

Because Matt’s no longer our tax dependent, neither Chris nor I can reimburse his qualified expenses tax-free from our respective HSAs. Matt must use his own HSA funds to reimburse his qualified expenses tax-free.

Nicole and Cameron. Nicole (nicknamed Ms. Zero Utilization because the only care she receives is preventive and therefore covered in full) is 22 and completing her coursework to earn a BSN at UMASS-Dartmouth and prepare for her RN exam. Cameron is 21 and finishing up his broadcasting education at Baylor University. (He became an instant celebrity four years ago when he launched a successful Twitter campaign to secure a junior prom date with the Red Sox television sideline reporter – a feat that gained him visibility without affecting his HSA eligibility.) Not surprisingly, both are my tax dependents. That means that they can’t open their own HSAs. It also means that Chris and I can reimburse their qualified expenses tax-free from our respective HSAs.

My Family and Limited-Purpose Health FSAs

 I’m a saver. I use my HSA as a retirement account. We spend no more than $1,000 annually from my HSA to reimburse current expenses. I fund the remainder of my account with pre-tax payroll deductions that I otherwise would contribute to my 401(k). My HSA is the best place for me to save for retirement because it enjoys triple-tax-free tax advantages that 401(k) plans and IRAs – whether traditional or Roth – simply can’t match. You’ll learn more about this concept – I promise you – as we approach the publication of my new book, The Tax-Perfect Retirement Account: Using a Health Savings Account to Build Medical Equity, in early 2019.

To maximize my HSA balances and enjoy tax advantages when we purchase qualified expenses, Chris and I each elect $2,650 into our respective employers’ Health FSA programs. We can make elections into a Limited-Purpose Health FSA – which reimburses only dental and vision expenses, plus preventive care that isn’t covered in full – without disqualifying either of us from remaining HSA-eligible.

In 2016, only I had access to a Limited-Purpose Health FSA, and I contributed the maximum $2,550 that year. One family member needed a dental implant and crown. The implant alone cost $2,400. Because we could draw on our entire elections at any point during the year – a required feature in a Health FSA program – we paid for the service before we left the dentist’s office. We received a $500 prompt-pay discount and saved approximately $600 on the $1,900 net bill. So, between prompt-pay discount (drawing on Health FSA funds that hadn’t yet been deducted from my paycheck) and the tax savings, our net cost was about $1,300.

In contrast, the person in the next chair probably wasn’t covered by a Health FSA and, if she was like most Americans, didn’t have an extra $2,400 available for an unexpected home, auto, medical, or other personal expense. She probably had to finance the procedure. Not only did she pay the full $2,400 cost, but she probably paid enough in interest that her total net cost for the procedure was double ours.

We could have enjoyed the same tax savings if we’d paid the bill from my HSA. And since I’d been accumulating balances for eight years in my HSA at that point, availability of funds wasn’t a problem. But by paying the bill through a Limited-Purpose Health FSA, we (1) enjoyed an additional reduction in taxable income beyond my HSA contributions, (2) preserved an additional $1,900 in my HSA to reimburse qualified expenses tax-free in the future, and (3) gained a cash-flow advantage that, although it wasn’t critical to us, would represent a real benefit to a new HSA participant building balances.

In 2018, both Chris and I fully funded our Limited-Purpose Health FSAs because she wanted to undergo vision-correction surgery. She’s not enrolled in her company’s medical plan, but since she’s benefit-eligible, she can enroll in her company’s FSA. I gave her three clear instructions:

  1. Enroll in the Limited-Purpose Health FA. Otherwise, Chris, Matt, and I all lose our opportunity to contribute to our HSAs in 2018.
  2. Call the benefits hotline to verify that she’s enrolled in the Limited-Purpose, not the general, Health FSA. My fear is that the benefits manager will see that she’s not enrolled in the company’s HSA-qualified plan and assume that she made a mistake by enrolling in the Limited-Purpose Health FSA with a much more limited list of qualified expenses.
  3. Verify in early January – when there’s time to make a change due to an administrative error – that she’s enrolled in the Limited-Purpose Health FSA.

We used debit cards attached to both Health FSAs to pay the ophthalmologist who corrected her vision. We received a prompt-pay discount opportunity, which shaved about $500 off the $4,700 price. Our tax savings on the remaining $4,200 was about $1,300. So, we purchased a $4,700 service for a net of about $2,900. Not inexpensive – and we’ll probably never save enough in glasses not bought in the future to completely offset the cost – but we have one very happy family member and one very happy HSA owner.

What if it had been Matt, not Chris, who wanted the vision-correction surgery? Remember, Matt’s no longer our tax dependent, so Chris and I can’t reimburse his qualified expenses tax-free from our respective HSAs. (Matt could have opened his own HSA.)

The rules are different for Health FSAs, however. HSA owners can reimburse tax-free only qualified expenses that they, their spouses, and their tax dependents incur. No one else’s qualified expenses can be reimbursed tax-free – regardless of their coverage, whether they still live at home or their financial need.

Health FSAs are governed by some of the same rules that apply to medical plans. One of those allows coverage for children to age 26, whether or not they remain the subscriber’s tax dependent. Thus, even though neither Chris no I could reimburse tax-free any qualified expenses that Matt incurred from either of our HSAs, we both can reimburse his dental and vision expenses from our Limited-Purpose Health FSAs.

But don’t tell him. He needs to stand on his own two financial feet.

We’re Not Special

As much as each of us would like to think otherwise, my family isn’t special. We’re just ordinary folks with one person who knows a little more about HSAs than his neighbors and therefore understands the benefits more than most people. And now you know a lot of what I know.

What We’re Reading

How much does the average employee pay toward premium? What’s the average deductible this year? We always delve into the Kaiser Family Foundation’s annual Employer Health Benefits Survey, which was published earlier this month.

Prescription-drub rebate programs are in the crosshairs of critics of high drug costs. Will eliminating them increase or decrease costs to consumers? Forbes contributor Ike Brannon weighs in.

Can the free market deliver lower prices for medical services? Health economist John Goodman insists that freeing the market from government and insurer control and putting patients squarely in the center of their care is the only way to make care more affordable. Read his thoughts here.

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