A Holiday Gift For Health Savings Account Holders

Increases the HSA contribution limit for all individuals. Current law limits HSA contributions to the smaller of the annual deductible amount under the high deductible health plan (HDHP) that covers the HSA owner, or the applicable dollar limit under the statute. (For example, an employee with single coverage under a $1,500 deductible HDHP in 2006 could only contribute $1,500 to an HSA, not the $2,700 limit under the law.) The legislation eliminates this "smaller of" rule, allowing any eligible employee with HDHP coverage to contribute the full statutory maximum to an HSA (in 2007, $2,850 for single coverage, and $5,650 for family coverage.)

Allows full year contributions for mid-year enrollees. Under current law, mid-year enrollees in an HDHP could receive only a pro-rated contribution to their HSAs (1/12th of the limit for each month of eligibility). The legislation permits a full year HSA contribution for persons who join an HDHP mid-year, provided that the individual continues to be eligible for HSA contributions for the entire calendar after the year in which he or she joins the HDHP. (For example, an eligible individual with single coverage under an HDHP for December of 2007 can make a full $2,850 HSA contribution for 2007, provided he or she remains eligible for the HSA through December 31, 2008.) Not satisfying the continuous eligibility rule (except due to death or disability) results in income tax and a 10% penalty on any excess HSA contributions made. This provision will be particularly helpful to employers with non-calendar year plans.

Eliminates the "2 1/2 month grace period problem." Under existing IRS guidance, an employer that allows flexible spending account (FSA) funds to be available for health reimbursement during a 2 1/2 month grace period after the end of the plan year disqualifies any employee in the FSA from participating in an HSA during the 2 1/2 month period. That rule applies even if the employee's FSA had a zero balance at the end of the plan year. The new legislation provides that an employee with a zero balance in the FSA at year-end is NOT disqualified from HSA contributions during the grace period. Also, if an employee does have an FSA balance during the grace period, but the employer chooses to allow that balance to be rolled over into the HSA (pursuant to a new rollover provision added by the legislation), an employee who makes the rollover will not be disqualified from HSA contributions during the grace period. Employers who have an FSA grace period may need to communicate to employees as soon as possible that they can now enroll in the HDHP/HSA program effective January 1, 2007, so long as they satisfy the requirements under the new law.

Permits rollovers from FSAs and HRAs to HSAs. The new legislation opens a five year window during which employers may transfer, or allow employees to transfer, funds from FSAs or health reimbursement arrangements (HRAs), or both, into HSAs. The amount available for transfer is the lesser of the balance in the FSA or HRA as of September 21, 2006, or the balance as of the date of the rollover. The amount of the rollover does not reduce the annual HSA contribution amount allowed for the year of the rollover. Employees who receive the rollover must remain eligible for the HSA for at least 12 months after the rollover. Failure to do so will result in income tax and a 10% penalty on the rollover. This option may be particularly helpful to employers with HRAs, since it now provides a method for transitioning from HRAs to HSAs. (This provision is effective on December 20, 2006 and sunsets after December 31, 2011.)

Permits employers to make higher HSA contributions on behalf of nonhighly compensated employees. Under current law, employers who contribute to employees' HSAs outside of a cafeteria plan must make comparable contributions on behalf of all similarly situated employees (with a few limited exceptions, such as collectively bargained groups). The new legislation allows employers to contribute higher amounts for nonhighly compensated employees than for highly compensated employees.

Allows a one-time tax-free irrevocable rollover from an individual retirement account into an HSA. The rollover will count toward the annual maximum HSA contribution for the year in which it is made, and no deduction is allowed for the rollover. Further, failure to maintain eligibility for HSA contributions for at least 12 months following the IRA transfer would result in income tax and a 10% penalty on the transfer.