You may have heard about a Health Savings Account, or HSA, but did you know that you don't have to be an employee to contribute to an HSA? Did you also know that contributions to an HSA are tax-deductible? Here, we’ll talk about the in’s and out’s of an HSA and how it can help lower your year-end tax bill.
Tim is a self-employed physical therapist who was enrolled in a qualifying HDHP for himself for all 2022. He had no other insurance policies, was not enrolled in Medicare and cannot be claimed as a dependent on anyone else's tax return. During 2020 he contributed $3,000 to his HSA; he did not make any MSA contributions and since he is self-employed he did not receive any employer contributions. When Tim is ready to file is taxes, he would complete Form 8889 and then deduct the full $3,000 he contributed to his HSA on line 25 of his Schedule C. Tim would also be able to exclude the $3,000 of HSA contributions from his self-employment tax calculation.
Emily is an independent commercial real estate agent with a HSA. During 2022, Emily contributed $5,000 to her individual HSA, which is $1,550 above the IRS limit. If Emily does not withdraw her excess contribution (along with any earnings) before her tax return is due, her deduction would be limited to $3,450, she would need to include the excess contributions as part of her income and pay a 6% tax on the excess amount.
Phil is a self-employed writer who enrolled in a HDHP and opened a HSA on November 1, 2022. Since Phil was not an eligible individual for the entire year, his HSA contribution will be limited to $575 ($3,450 * 2/12).
Nicole is a sole proprietor graphic designer with a young daughter and husband. Nicole has a family HDHP and meets the requirements of an eligible individual, her husband does not have an HSA. Nicole was enrolled in her health plan for all of 2022 and made $6,900 of contributions. She did not make any contributions to an MSA and since she is self-employed, she had no employer contributions to her HSA. When Nicole and her husband prepare their 2022 their joint tax return, after completing Form 8889 they will be able to deduct the full $6,900 of contributions she made on line 25 of their Form 1040.
Tahin is a courier for taskrabbit with a solo HDHP and HSA. In addition to making the maximum contribution to his HSA, Tahin also paid premiums for a dental policy. In addition to deducting his HSA contributions, Tahin could also deduct his dental premiums as part of the self employed health insurance deduction. Note however that if dental insurance was not considered an allowed non HDHP plan, he would not be eligible to deduct his HSA contributions.
An HSA is essentially a personal savings account reserved just for qualified health expenses. With an HSA, you can include medical expenses you pay for yourself and those you pay for your spouse or dependent. Qualified expenses include a wide range of medical and dental expenses, from the costs of acupuncture services to medical body spans and ambulance fees. For a comprehensive overview of what the IRS considers to be a qualified health expense, check out IRS Publication 502, Medical and Dental Expenses.
To be eligible for the HSA deduction, you must be covered by a High Deductible Health Plan (HDHP) and not be covered under any non HDHP plan, e.g. an HMO or PPO plan. Further, your HDHP must meet certain requirements. For example, in 2022, your deductible must be at least the annual limit of $1,350 ($2,700 for family coverage) and your max out of pocket expenses are limited to $6,750 ($13,500 for family coverage). You also cannot be claimed as a dependent on someone else's return or be enrolled in Medicare.
There is a cap on how much you can contribute to your HSA, and it tends to change from year to year. In 2022, for example, self-employed individuals can contribute up to $3,500 ($7,000 if family) to their HSA. If you’re 50 or older, you can contribute an extra $1,000 to your HSA. If you’re uncertain about the limits, ask a trusted financial advisor.
There are a variety of benefits of opening a health spending account:
If you’re looking to maximize your HSA deductions, you should start by contributing as much as the law allows every year. Since any interest accrued in your HSA is not taxed, it’s also wise to leave money in your HSA alone as long as possible. Lastly, it’s wise to shop around for HSA’s; not all plans are created equal. For example, some have lower fees than others, so those plans will obviously help you save more in the long run.
It’s important to know that HSAs are taxed differently in different states. For example, right now, neither New Jersey nor California permit you to deduct your HSA contributions, and they also tax earnings and capital gains within HSAs. Make sure to ask your accountant or financial advisor for the tax rules on HSA’s in your state of residence
Taking the HSA tax deduction is relatively easy. To take advantage of the HSA deduction, all you need to do is complete Form 8889 and then deduct qualifying amounts on Form 1040.
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