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Deducting HSA contributions


Dear Tax Talk,
If I open a personal health savings account (because my employer has a high-deductible medical plan this year), and I fund it to the full maximum for family coverage, will this amount ($5,150) be fully or partially deductible above the line on Form 1040? Thanks. -- Kim

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Dear Kim,
Health savings accounts became part of the law in January, ushered in by the Medicare Reform Act of 2003. HSAs are the successor to Archer Medical Savings Accounts that were introduced in 1996 but never caught on. Oddly, though, if you're on Medicare, you are not eligible to contribute to an HSA.

Basically, a health savings account is used in combination with a higher-deductible medical insurance policy. By increasing your deductible, you reduce your current premiums and use that savings and possibly other funds to contribute to a private investment account that is tax-deductible. It's kind of like an IRA for health care expenses.

Most people have the option of increasing their auto insurance deductibles in exchange for saving on their premiums. This is basically the same choice. If you never have an accident, you come out ahead. If you never get sick, you'll also come out ahead.

Even though receiving benefits, your payments on the policy can continue to be deducted as medical expenses within the following limits:

If you have a high-deductible health plan at work (e.g., your plan references Internal Revenue Code sec. 223), you are eligible to contribute to an HSA. However, the IRS has ruled (in Revenue Ruling 2004-45) that if you have a flexible spending account or health reimbursement account under a cafeteria plan with your employer, you would not be an eligible individual for making contributions to an HSA. Since 2004 is the first year for HSAs, many employers did not have time to adjust their benefits for employees to contribute the maximum under an HSA.

All that said, your 2004 contribution limit is $5,150 for a family or, if less, the amount of your family deductible. The limitation is prorated for 2004 based on the number of full months you were in the high-deductible health plan. For example, if you started in the plan on July 1, your maximum contribution is cut in half.

The contributions are an above-the-line deduction on Form 1040, whether or not you itemize.

-- Posted: Nov. 2, 2004




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