What We Know Now | Tax Tip of the Week | No. 182

What Changes, What Doesn't Change on Health Care Expenses

How exactly does one account for the taxes on health care expenses? Forbes.com blogger Kelly Phillips Erb explains how ObamaCare does and does not change the tax treatment. This is part two of a two part Tax Tip on the changes in health care.ACCOUNTS GONE WILDTaxpayers can defray more routine (albeit rising) out-of-pocket costs with an alphabet soup of special accounts: flexible spending accounts (FSAs); health reimbursement accounts (HRAs); health savings accounts (HSAs); and Archer medical savings accounts (MSAs), a predecessor to HSAs available only to grandfathered users.They differ, but all allow you to pay medical expenses using pretax dollars. That’s before income tax and, for FSAs and HRAs, before payroll taxes, too.Eligible expenses are generally the same sort of out-of-pocket costs that qualify for the medical deduction but with some mind-bending differences. For example: You can’t deduct medical expenses for someone who isn't your dependent. But as a result of ObamaCare, if your employer allows it you can now use FSA and HRA dollars to cover expenses for non-dependent adult children under age 27. In any event, there’s no double-dipping: You can’t deduct any medical expense you have paid from one of these accounts. (Details on these accounts are in IRS Publication 969).FSAs: SMALLER BUT USEFULFSAs are mostly funded by workers through contributions taken out of their paychecks. While 35 million workers use FSAs, millions more are offered them and could save tax with them.ObamaCare put a new $2,500 limit on contributions to FSAs beginning with the 2013 plan year. Previously, there was no legal limit, but most employers set a $5,000 cap. (A two-career couple, with two accounts, can still sock away $5,000 in 2013). What ObamaCare didn't change is that the FSA is a use-it-or-lose-it account. Money you don’t use in a given year is forfeited, although many employers (with the IRS’ blessing) give you two and a half months after the end of a year to use up that year’s cash.HRAs, HSAs AND YOUR 1040HRAs are set up and funded only by the employer, and if you leave your job you can’t take unused money with you. Employer contributions to an HRA are tax free to you, as are reimbursements from the account. In fact, HRAs aren't even reported on your income tax return. HSAs, by contrast, are reported (on Form 8889) both when pretax money (contributed by you and/or your employer) goes in and when distributions come out. The terms of these accounts are established by Congress (not the employer), and HSAs, unlike HRAs, are available to self-employed folks, too.For 2013, you (or you and your employer combined) can put up to $3,250 for an individual or $6,450 for a family into an HSA, plus an extra $1,000 if you are 55 or older. (For 2012 the limits are $3,100 and $6,250, plus $1,000.) But you can fund an HSA only if you’re covered exclusively by a health plan having a minimum deductible for 2013 of $1,250 for an individual, $2,500 for a family.Unlike the FSA, the HSA is not a use-it-or-lose-it deal; the unused amount in an HSA can be rolled over from year to year while it grows tax free. If you change jobs or retire you can take the account with you. That combination makes the HSA a great way to put away money for medical expenses during retirement, when it can be used for long-term care and Medicare premiums and co-pays.Questions?  Let us know, we will all learn these changes together. 

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