Tax Benefits for Consumer-Directed Health Accounts

HSA Tax Benefits

There are three key tax benefits to a Health Savings Account (HSA). Money goes into and comes out of an HSA tax-free (as long as funds are used to pay for qualified medical expenses).

  1. Contributions to HSAs are not subject to federal income taxes.*
  2. Earnings to an HSA from interest and investments are tax-free.
  3. Distributions from an HSA to pay for qualified medical expenses are tax-free.

HRA, FSA, and Dependent Care FSA Tax Benefits

By understanding the contribution limits and tax advantages of these types of accounts, employers and their employees can maximize their tax advantages. For example, employee contributions can provide the employer with a tax benefit by reducing their FICA/payroll tax liability. This is just one of the many reasons why it's so important to develop an employee engagement and education strategy to increase contributions to these types of accounts.

For HRAs, only the employer can contribute to the account. Those contributions are not added to the employee's gross income and employees are not taxed on their HRA reimbursements.

For FSAs, contributions can be made by both the employee and the employer. Employee contributions are made with money taken from their paychecks pre-tax. The more out-of-pocket medical expenses an employee has in a year, the higher their annual election should be (this is the amount the employee sets aside in their FSA). The more the employee sets aside, the greater the tax savings would be. Distributions from an FSA are typically tax-free when used for qualifying medical expenses.

*Contributions to HSAs may be subject to state taxes in Alabama, California and New Jersey. For more information consult with your state department of revenue.