414 / What are the rules regarding moving money from an IRA to an HSA?
Planning Point: The IRA funding option is important for HSA account holders with current or anticipated medical expenses and no source of funds for an HSA contribution other than an IRA. Taxpayers seeking to maximize contributions to tax deferred accounts are generally best served funding the HSA with new funds and preserving the IRA. Essentially, HSA account holders are trading one tax-favored account, the IRA, for another, the HSA. A person facing large medical expenses prior to having the time to build up an HSA balance is a candidate for funding an HSA with an IRA. This rule gives taxpayers a method to avoid paying taxes and penalties on an IRA distribution necessary to pay medical expenses.
Some taxpayers will move IRA money to an HSA sooner than needed for medical expenses because the HSA is arguably a better tax-favored account than a IRA and they prefer to have their limited assets in an HSA. The key HSA benefit not available to IRAs is that the HSA can be used to pay for qualified medical expenses tax-free. A key benefit of an IRA, over an HSA, is the ability to access money for any reason at age 59½ rather than the age 65. HSAs also often provide fewer investment options and may charge higher fees.
Moving money from a Roth IRA or non-deductible traditional IRA makes the choice more complex and often less desirable. Roth IRA contributions can already be withdrawn tax and penalty free at any time. Both Roth IRAs and nondeductible traditional IRAs contain basis that could be lost in a move to the HSA.
A qualified HSA funding distribution relates to the taxable year in which the distribution is actually made.2 This means that HSA account holders are not allowed to complete the transfers in the following year before their tax due date and have the contribution count for the previous tax year (regular HSA contributions can be made until the tax due date and are deemed to have been made on the last day of the preceding tax year for tax deductibility purposes).