Health Savings Accounts (HSAs); Flexible Spending Accounts (FSAs);Medical Savings Accounts (MSAs)

Medical Savings Accounts, often referred to as MSAs, are a variation of Flexible Spending Accounts (FSAs). Both MSAs and FSAs are similar to IRAs in the sense that each employee can make tax-free contributions to an account. But instead of withdrawing the funds at retirement as you would with an IRA, you withdraw them to pay for certain types of medical care. In effect, you're being allowed to pay some of your medical costs with pre-tax dollars, which is a heck of a lot cheaper than paying for it with post-tax dollars.

The newer kids on the block, Health Savings Accounts (HSAs) and Health Reimbursement Accounts (HRAs), tend to add to this confusing alphabet soup. HRAs must be funded by employers only and are fairly uncommon. HSAs are a fast growing choice with more pros and fewer cons that their earlier cousins.

FSAs have been around for quite some time. Their main drawback is the fact that if an employee places money into an account one year and doesn't use it for reimbursement of medical expenses in that year, he or she loses the money. With an MSA, the money is allowed to accumulate from year to year, to be used in later years when medical expenses are higher or to be saved until retirement.

At present, MSAs that are exempt from federal income taxes are part of a demonstration project that began in 1997 and was scheduled to end in 2000, until Congress decided to renew it. The project is limited to the first 750,000 people who sign up each year and is open only to the self-employed and to businesses with fewer than 50 workers. However, a number of states have MSA laws that permit employers in those states to establish state-tax-exempt MSAs. This program will no doubt be replaced by the HSA plans going forward.

Health Savings Accounts. Starting in 2004, Health Savings Accounts (HSAs), approved as part of the Medicare Act of 2003, began replacing MSA programs. HSAs are very similar to MSAs, but they are less restrictive. HSAs are open to all employers, while MSAs are only available to the self-employed or businesses with 50 or fewer employees. In addition, the deductibles for HSAs are lower than the deductibles for MSAs. For HSAs, a high-deductible plan is one in which the minimum deductible is $1,100 for 2007 and 2008 for individuals and $2,200 for 2007 and 2008 for a family. For 2008, the maximum contribution to an HSA is $2,900 (the lesser of the annual deductible or $2,850 for 2007) for individuals or $5,800 (the lesser of the annual deductible or $5,650 for 2007) for families. Individuals who reach age 55 by the end of the year can increase their annual contributions by $900 for 2008 ($800 for 2007). Before 2007, the eligibility for the HSA contribution applies pro rata based upon the number of months an individual is eligible. For 2008, the maximum annual out-of-pocket amount is $5,600 ($5,500 for 2007) for individuals and $11,200 ($11,000 for 2007) for families. These amounts may be periodically adjusted for inflation.

For 2009, the maximum annual HSA contribution for an eligible individual with self-only coverage is $3,000. For family coverage, the maximum annual HSA contribution is $5,950. Catch up contribution for individual who are 55 or older is increased by statute to $1,000 for 2009 and all years going forward. Individuals who are eligible individuals on the first day of the last month of the taxable year (December for most taxpayers) are allowed the full annual contribution (plus catch up contribution, if 55 or older by year end), regardless of the number of months the individual was an eligible individual in the year. For individuals who are no longer eligible individuals on that date, both the HSA contribution and catch up contribution apply pro rata based on the number of months of the year a taxpayer is an eligible individual.

For 2009, the maximum annual out-of-pocket amounts for HDHP self-coverage increase to $5,800 and the maximum annual out-of-pocket amount for HDHP family coverage is twice that, $11,600. For 2009, the minimum deductible for HDHPs increases to $1,150 for self-only coverage and $2,300 for family coverage. In addition, a fiscal year plan that satisfies the requirements for an HDHP on the first day of the first month of its fiscal year may apply that deductible for the entire fiscal year.

HSAs are not subject to the use-it-or-lose-it regulations of FSAs and unused balances can be rolled over to subsequent years. HSAs are not to be confused with HCSAs (Health Care Spending Accounts) or DCSAs (Dependent Care Spending Accounts) both of which are just another form of FSA.

The IRS has issued model forms for establishing HSAs. Form 5305-B, Health Savings Trust Account, and Form 5305-C, Health Savings Custodial Account, are used to establish HSAs and are not to be filed with the IRS. The forms and their instructions are available on the IRS web site.

The key points to remember about HSAs are (1) that they are a special new breed of accounts owned by an individual to accumulate funds for current and future medical expenses; (2) that they are used in conjunction with High Deductible Health Plans which don't cover first dollar expense; (3) that these HDHPs plans can be an HMO, PPO or indemnity plan as long as the plan terms meet the requirements and, (4) and most important.....the unused contents of the account can roll forward from one year to the next.

HSAs will undoubtedly become more popular as a form of consumer controlled medical expense reduction. At least they are a step in the right direction. To keep up with the ongoing evolution of this form of health care coverage, refer to this excellent HSA site often.