Question: Emily’s annual employer benefits renewal period has arrived, and the health care options include a health savings account (HSA) or a flexible spending account (FSA) for health care. To help in determining her better option, Emily, age 49, asks you if both the HSA and FSA cover the same types of qualified medical expenses when all other requirements are met. What do you tell Emily?
Answer: No, qualified expenses are different for each account. While qualified medical expenses [§213(d)] are generally the same for both an HSA and FSA, qualified long-term care expenses (Notice 2004-50) can only be reimbursed from an HSA.
Eligibility of children’s health expenses differs depending on age and status as a qualified dependent. A child must be a qualifying child dependent of Emily to have an HSA-qualified expense. Emily may also use HSA funds for tax-free qualified expenses of a spouse or other individuals who meet the qualifying relative dependency rules.
With an FSA, adult children who have not turned age 27 as of the end of the tax year don’t need to qualify as a dependent for their qualified expenses to be covered [Prop. Reg. §1.125-5(k)(1)]. Like the HSA, Emily may also use FSA funds for tax-free qualified expenses of a spouse or other individuals who meet the qualifying relative dependency rules.
FSA-qualified expenses expire if not timely submitted for reimbursement because FSAs are an annual “use or lose it” option unless the employer’s plan document allows a carryover grace period. Unused HSA funds carry over to the next year and the owner can take a non-medical expense distribution subject to the 20% penalty tax [§§ 223(f)(4), 220(f)(4)(A)] when distributed prior to reaching their Medicare eligibility age. As long as qualified medical expenses were incurred after the HSA was established, a current year distribution to pay or reimburse the expenses is allowed (Notice 2004-50).
Information included in this article is accurate as of the publish date. This post is not reflective of tax law changes or IRS guidance that may have occurred after the date of publishing. All taxpayer circumstances are different, and NATP recommends contacting research services if you have specific questions about your clients’ tax situations.