Deductible Carryover or Deductible Credit from a Prior Year & Health Savings Account Eligibility

 March 15 2018     Shelly Hodges-Konys and Diane Cross

This blog post has a mouthful of a title, but illustrates an issue that is nonetheless important – carrying over deductible expenses or giving deductible credit from a prior year (i.e. a deductible carryover) can impact Health Savings Account (HSA) eligibility. To be eligible to contribute to an HSA, an individual must be covered under a qualifying High Deductible Health Plan (HDHP) that operates within the IRS-specified minimum deductible ($1,350 self-only/$2,700 family for 2018) and maximum-out-of-pocket ($6,650 self-only/$13,300 family for 2018) set each year - for more information, see our previous blog post. However, there are plan design options and employer decisions that can impact whether or not the HDHP remains a qualified HDHP, such as a deductible carryover.

What is a deductible carryover or deductible credit and how could it impact HSA eligibility?
A deductible carryover occurs when expenses incurred from a prior plan year are applied toward the next year's deductible, regardless of whether the previous year's deductible was met. While not necessarily common, this can occur as an element of plan design (e.g. a HDHP allows expenses incurred during the last three months of the immediate prior year to count toward the next year’s deductible). Similarly, deductible credit occurs in situations, like an acquisition, where an employer wants to give certain employees credit for deductible expenses met under another employer plan or one with a different plan year. The potential problem with this is that per the IRS, an HDHP must not pay benefits until the minimum deductible is met. This sort of feature often impacts the deductible by effectively reducing the minimum deductible and invalidating HDHP coverage, making employees ineligible to contribute to an HSA.

The good news is that the IRS provides a solution to this problem in IRS Notice 2004-50. The notice explains that a deductible carryover feature will not prevent a plan from being an HDHP if the required minimum annual deductible for the health plan is proportionately increased to account for the fact that expenses incurred over more than 12 months. The IRS provides direction on how to calculate the deductible to reflect the correct number of months used to satisfy the plan’s deductible:

1. Multiply the applicable required minimum annual deductible for self-only or family HDHP coverage by the number of months allowed in which to satisfy the deductible
2. Divide the resulting amount by 12. 

The result of the calculation is an adjusted minimum required annual deductible proportionately increased to account for the actual time in which expenses are incurred. In order for the plan to be a qualifying HDHP, the deductible under the plan must be equal to, or greater than, that adjusted required minimum annual deductible.

For example:
A self-only health plan with a $1,500 deductible in 2018 allows expenses incurred during the last three months of 2017 to count toward the 2018 deductible. This allows for 15 months of expenses to be used to satisfy the deductible, requiring an adjusted minimum annual deductible to determine whether the plan is a qualified-HDHP. 

  • Multiply $1,350 (the required minimum annual deductible for self-only HDHP coverage in 2018) by 15 (the number of months that expenses are counted toward the deductible)
    • This equals $20,250; then divide by 12, which equals $1,687.50

Because the plan's $1,500 deductible is less than the adjusted $1,687.50 deductible, the deductible carryover provision will prevent it from being a qualified-HDHP for HSA eligibility purposes. In contrast, if the plan’s self-only minimum deductible was $1,687.50 or more, the deductible carryover provisions would not prevent it from being a qualified-HDHP or prevent employees from being eligible to make HSA contributions.

Employers should keep this in mind when entertaining a deductible carryover or giving employees deductible credit, whether as a matter of plan design or result of a corporate transaction or the like. Please contact your HORAN representative with any questions.