Despite the growth in Health Savings Account (“HSA”) popularity over the past few years, there remains a considerable amount of uncertainty regarding the rules for HSA eligibility, especially as they relate to Health Flexible Spending Account (“FSA”) coverage. It is important that employers adding High Deductible Health Plans (HDHPs) and HSAs as benefit options understand HSA eligibility rules and educate employees in order to protect the tax-favored status of HSA contributions.
In order to be eligible to contribute to an HSA, an individual must not be covered by another group health plan that provides benefits or reimburses claims before the individual has met the minimum HSA deductible. Coverage under a general purpose FSA is considered disqualifying coverage and negatively impacts HSA eligibility for the FSA coverage period. This rule applies even if covered by a spouse’s or parent’s FSA. Individuals can enroll in specially designed limited purposes dental and vision only FSAs and still remain HSA eligible.
Additional issues arise for FSAs with the carryover or grace period features. Health FSA plans that have added the carryover feature to mitigate the use-or-lose rule should be aware that any employee with carryover dollars at the end of the plan year would be ineligible to contribute to an HSA for the entire following plan year. For example, a 2017 FSA participant that has any remaining balance at the end of the plan year is not eligible to contribute to an HSA in 2018. This is a harsh result which surprises many employers and individual. In order to avoid this result, the FSA participant could spend all FSA funds in the current plan year and still be HSA eligible on January 1 of the following year. If the individual does not spend all FSA funds by the end of the plan year, the individual could (1) elect to waive the carryover funds or (2) roll the carryover funds into a limited purpose FSA in order to be HSA eligible on January 1.
For FSA plans with the 75-day grace period feature, any employees with a positive FSA balance when the plan year ends is not eligible to contribute to an HSA until the 1st day of the 4th month after the plan year ends. There is no opportunity to avoid this result, whether by forfeiture or rollover.
Even more obstacles arise when an employer attempts to introduce an HSA during the middle of the FSA plan year. This often occurs when employers have a different renewal date for the medical plan and the Health FSA. Employees already participating in the employer’s general purpose Health FSA would be ineligible for HSA contributions until the end of the FSA plan year (or potentially longer if a grace period or carryover option is offered with the FSA and the employee has a positive balance at year-end). In theory, the employer would have certain options, including: (1) offering HSA only to employees not participating in the FSA; (2) terminating FSA mid-year for all participants; or (3) converting all general purpose FSAs into Limited FSAs for the duration of the plan year. However, each of these options entails distinct disadvantages and terminating or converting an FSA mid-year can cause losses to employees. Before implementing an HSA plan mid-year, make sure to examine all applicable rules and restrictions in order to ensure that the participants are not adversely affected by the timing of the implementation.
In summary, FSA coordination with HSA eligibility is tricky for all employers, especially employers offering an HSA option for the first time. When doing so, employers should understand the rules and communicate to employees well in advance of implementation in order to give FSA participants time to understand coordination of both benefits and exhaust FSA funds before the end of the plan year. Early education can protect the tax-favored status of HSA contributions and save the employer and employee from the administrative burdens that come with HSA ineligibility.