HSAs use pre-tax dollars, which means the money goes in before income tax is taken out

A Health Savings Account (HSA) is funded with money that has not yet been taxed as income. When you contribute to an HSA through your employer's payroll, that amount is deducted from your gross pay before federal income tax, Social Security tax, and Medicare tax are calculated. This is the same treatment as a traditional 401(k) or health insurance premiums paid through payroll.

If you contribute to an HSA on your own (outside of payroll), you can deduct those contributions on your federal tax return, which achieves the same pre-tax result when you file. Either way, the money you put into an HSA reduces your taxable income for that year.

This pre-tax treatment is one of the main reasons HSAs are valuable. You are not paying income tax on the money going in, which lowers your tax bill. The money then grows tax-free inside the account, and when you withdraw it to pay for may have access to medical expenses, you pay no tax on the withdrawal either.

Key Takeaways

  • HSA contributions made through payroll are deducted before income tax is calculated, lowering your taxable income for the year.
  • If you contribute to an HSA outside of payroll, you can deduct the contribution on your tax return to achieve the same pre-tax benefit.
  • Withdrawals from an HSA are tax-free when used for may have access to medical expenses such as deductibles, copays, prescriptions, and dental or vision care.
  • Money in an HSA that is not spent in the current year rolls over to the next year and continues to grow tax-free.
  • Withdrawals for non-medical expenses are taxed as income and subject to a 20 percent penalty if you are under age 65.

How payroll contributions work

When your employer offers an HSA, you enroll during open enrollment and choose how much to contribute for the year. That amount is divided across your paychecks and deducted before taxes are withheld. Your employer does not pay income tax, Social Security tax, or Medicare tax on the HSA contribution portion of your paycheck.

Your pay stub will show the HSA deduction separately from your gross pay. The amount listed as your taxable income will already have the HSA contribution removed. This means you see the tax savings when ready in your take-home pay, because you are paying less in federal and state income tax.

Your employer may also contribute to your HSA as part of your benefits package. Employer contributions are also pre-tax and do not count as taxable income to you.

Self-directed contributions and tax deductions

If you do not have access to an HSA through payroll, or if you want to contribute more than your employer allows, you can open an HSA on your own and contribute directly. These contributions are not automatically pre-tax, but you can deduct them on your federal tax return using Form 8889.

When you file your taxes, you report the amount you contributed to your HSA, and that amount reduces your adjusted gross income (AGI). The result is the same as a payroll deduction: your taxable income is lower, and you owe less in federal income tax.

You have until the tax filing important date (usually April 15) of the following year to make contributions for the prior year and still deduct them. For example, you can contribute to your 2024 HSA and deduct it on your 2024 tax return as long as you make the contribution by April 15, 2025.

Tax-free growth and withdrawals for medical expenses

Once money is in your HSA, it can be invested in mutual funds, stocks, or other options depending on your HSA provider. Any earnings on that investment are not taxed as long as the money stays in the account. This is different from a regular savings account, where interest is taxed as income each year.

When you withdraw money from your HSA to pay for a may have access to medical expense, the withdrawal is not taxed. may have access to expenses include deductibles, copayments, coinsurance, prescription medications, dental work, vision care, mental health treatment, and many other health-related costs. You do not have to report these withdrawals on your tax return.

You can withdraw money from your HSA at any time for any may have access to expense. You do not have to use it in the same year you contributed it. Money left in your HSA at the end of the year rolls over to the next year and continues to grow tax-free.

What happens if you withdraw money for non-medical expenses

If you withdraw money from your HSA for something that is not a may have access to medical expense, that withdrawal is treated as taxable income. You must report it on your tax return and pay income tax on the amount withdrawn.

In addition, if you are under age 65, you will owe a 20 percent penalty on the non-medical withdrawal. For example, if you withdraw $1,000 for a non-medical expense and you are 45 years old, you will owe income tax on the $1,000 plus a $200 penalty. After age 65, the penalty goes away, but the income tax still applies to non-medical withdrawals.

The IRS publishes a list of may have access to medical expenses in Publication 969. If you are unsure whether an expense qualifies, you can check that publication or ask your HSA provider before you withdraw the money.

HSAs versus FSAs and other tax-advantaged accounts

An HSA is not the only pre-tax account for medical expenses. A Flexible Spending Account (FSA) also uses pre-tax money, but it works differently. FSA contributions are made through payroll and are pre-tax, but FSAs have a "use it or lose it" rule: money left over at the end of the year is forfeited (though some plans allow a small carryover or grace period).

HSAs have no use-it-or-lose-it rule. Money rolls over year to year, and you can let it grow indefinitely. HSAs are also portable: if you change jobs, you keep your HSA and the money in it. FSAs are tied to your employer and do not move with you.

HSAs also require that you be enrolled in a high-deductible health plan (HDHP). FSAs can be paired with any health insurance plan. Both are pre-tax, but HSAs offer more flexibility and long-term savings potential.

Frequently Asked Questions

Can I contribute to an HSA and an FSA at the same time?

No. If you have an HSA, you cannot also have an FSA in the same year. You can have an HSA and a limited-purpose FSA (which covers only dental and vision expenses), but not a general-purpose FSA. The IRS treats having both as a violation of HSA rules.

Do I have to spend my HSA money in the same year I contribute it?

No. HSA money rolls over to the next year with no limit. You can let it accumulate for years and use it whenever you have a may have access to medical expense. This is one of the main advantages of an HSA over an FSA.

What if my employer contributes to my HSA—is that taxable to me?

No. Employer contributions to your HSA are pre-tax and do not count as taxable income. They reduce your taxable income just like your own payroll contributions do.

Can I use my HSA debit card for anything, or only medical expenses?

Most HSA providers issue a debit card that is restricted to may have access to medical expenses. If you try to use it for a non-medical purchase, the transaction will be declined. You can also withdraw cash from your HSA and use it however you want, but non-medical uses will be taxed and penalized.

Do I need to keep receipts for HSA withdrawals?

You should keep receipts and documentation for all HSA withdrawals, even though you do not submit them with your tax return. The IRS can audit your HSA use, and you will need proof that your withdrawals were for may have access to medical expenses if questioned.