One of the great things about HSAs is that once the money is in the HSA account, you have the rest of your life to spend it tax-free on eligible medical expenses. In the meantime, it grows tax-free and all the earnings on the account can also be used for tax-free medical spending.
First, is the expense for the right person? HSAs can be used to pay for eligible medical expenses for people related to you in the right way. Notice I did not mention anything about what kind of health insurance they have. That does not matter. All that matters is how they are related to you through your tax return for that year. An HSA is an individually owned account. You can use your HSA to pay for your own expenses any time for the rest of your life. You can also use your HSA to pay your spouse’s expense, even if you do not file a joint return. You can always pay your expense and those of your spouse (as long as you remain married). For your kids, it depends on whether they remain on your tax return as a dependent. As long as you are taking the tax deduction for your child, you can use your HSA to pay their medical expenses.
Second, did the expense happen at the right time? Timing comes into play in two ways. To start using your HSA, you must “establish” your HSA according to the state trust laws in the state where your HSA Trustee is headquartered. In most states, this means funding the account, and is usually facilitated by a payroll contribution through your employer. If you have a medical expense after your insurance start date, but before you put money in your account, you cannot use your HSA to pay your out of pocket portion of the expense. Some HSA Trustees will place a penny in everyone’s new account to help you avoid this problem, but many don’t. If your HSA trustee is based in Utah, like several of the largest HSA trustees, your account is automatically “established” as of the plan start date if you make your first deposit before the end of the tax year.
The other relevant timing issue is whether your kids are still tax dependents at the time of the expense. The same holds for spouses; if you are legally married when the spouse’s expense occurs, you can use your HSA to pay for it, if you are divorced or legally separated, you can no longer pay for that expense from your account, but if your former spouse is still covered by an HSA plan, they may be able to open tier own account to cover the expense.
Third, is the expense eligible? The IRS defines HSA-eligible out of pocket expenses generally as any expense used to diagnose or treat an illness, injury or condition. IRS Publication 502 outlines many expenses available for reimbursement or I like to refer people to HSAStore.com to look it up. Other items such as long-term care premiums, health insurance premiums through COBRA or while on unemployment, and most Medicare premiums after the accountholder turns 65 years old.
If you spend money from an HSA outside these rules, the expense with be subject to the income tax you earlier deferred, and if under age 65, to a 20% tax penalty.
Todd Berkley is an HSA industry veteran who runs AskMrHSA.com, and is the author of the HSA Owner’s Manual.