July 30, 2024

To be HSA-eligible (that is, to be able to establish and contribute to an HSA), an individual must be covered by a qualified high deductible health plan (an HDHP) with no disqualifying non-high deductible health plan (non-HDHP) coverage. Health FSAs can never be HDHPs, but most health FSAs are disqualifying non-HDHPs.

This is because most health FSAs reimburse most or all qualified medical expenses for covered individuals (general-purpose health FSAs). But not all health FSAs jeopardize HSA eligibility. These “HSA-compatible health FSAs” include health FSAs that reimburse only dental, vision, or preventive care (limited-purpose health FSAs), health FSAs that reimburse medical expenses incurred only after the applicable HDHP minimum deductible has been met (post-deductible health FSAs), and combination limited-purpose and post-deductible health FSAs.

The general rules are as follows:

An individual is not eligible to make contributions to an HSA for any month in which the individual is covered by a general-purpose health FSA on the first of that month. This means that an individual covered by a general-purpose health FSA is not eligible for an HSA for every month of the health FSA plan year, regardless of whether the FSA is exhausted at some point during the plan year (because the health FSA’s “period of coverage” is the entirety of its plan year). This includes not only any such coverage obtained through an individual’s own employer, but also any such coverage made available to them through their spouse or another family member.

General-purpose health FSAs that provide for grace periods or carryovers (health FSAs can have either of these options or neither, but never both) present additional problems because they can extend HSA ineligibility into a subsequent plan year.

General-purpose health FSAs with grace periods render any covered individual ineligible for an HSA for the months of that grace period (generally, three months for 75-day grace periods, because HSA-eligibility for an entire month is based upon the eligibility status as of the first day of that month). However, this does not apply to any individuals who end an FSA plan year with a zero-dollar balance (as measured on a cash basis).

General-purpose health FSAs with carryovers can potentially render an individual with access to any such carryover amount ineligible for an HSA for the entire subsequent plan year, even if the carryover amount is exhausted during that time.

The rules do provide for a few methods to address these issues, but each comes with a condition or two attached and all must be undertaken proactively (e.g., before a grace period or carryover period begins).

An employer with a grace period can choose to amend its cafeteria plan to convert its general-purpose health FSA to an HSA-compatible health FSA for the grace period. However, this amendment must apply to all health FSA participants entitled to the grace period, including those with no particular interest in becoming HSA-eligible after the plan year ends, though they could participate in a general-purpose FSA during the subsequent plan year in addition to having access to the grace period funds for any limited-purpose expenses they might incur during that period.

An employer with a carryover can allow employees to decline or waive their carryovers prior to the beginning of the subsequent plan year. Alternatively, an employer can allow unused FSA amounts to be carried over to an HSA-compatible health FSA either by:

1. Letting individuals with year-end balances elect to participate in the HSA-compatible health FSA and elect to have any unused general-purpose amounts carried over to the HSA-compatible health FSA.
2. By having their cafeteria plan provide for automatic enrollment in the HSA-compatible health FSA for individuals who elect HDHP coverage, with any unused general-purpose amounts automatically carried over to that HSA-compatible health FSA.

These rules have remained substantially unchanged since HSAs were first established in 2004 and can be frustrating for employers and employees to apply to real-life situations in today’s world. While there have been recent efforts to update these rules legislatively, none have yet come to fruition. Until such time as they do, employers offering HDHP-HSA plans must continue to be mindful of how health FSA coverage can adversely affect the HSA-eligibility of their employees by taking reasonable steps to avoid potential conflicts between health FSA coverage and HSA-eligibility, such as:

• Putting measures in place that prevent employees from enrolling in the employer’s HDHP-HSA plans and general-purpose FSA plans at the same time.
• Making HDHP-HSA enrollees aware of these rules during the enrollment process and having them either certify that they are not covered by a general-purpose health FSA (or any other non-HDHP coverage), including any such plan provided through their spouse or other family member, or acknowledge that they have read the rules and understand them.
• Taking proactive steps to address potential issues arising from their general-purpose health FSA grace period or carryover provisions (if any).

For further information on HSA eligibility and other HSA compliance considerations, please download a copy of our publication Health Savings Accounts: A Guide for Employers.