The Spouse's FSA and the HSA Contribution

Eligibility is tested month by month and requires two things: HDHP coverage and no disqualifying coverage. Disqualifying coverage is essentially any health arrangement that pays first-dollar benefits other than permitted preventive care - and a general-purpose health care FSA is exactly that.

It does not matter that the FSA is her husband's. Because the FSA can reimburse Nadia's expenses, she is covered by it, and she is therefore not an eligible individual for every month that coverage exists. General-purpose FSA coverage cannot be coordinated with HSA eligibility.

The consequences follow automatically:

• Nadia's own $4,300 of payroll contributions would be excess contributions.
• The employer's $800 contribution is also improper, because the employer may contribute only for an eligible individual.
• Excess contributions are subject to a 6% excise tax for each year they remain in the account until corrected.

The February procedure illustrates the problem perfectly: the FSA paid first-dollar, which is the very feature that disqualifies Nadia.

What would have preserved eligibility: a limited-purpose FSA (dental, vision, and permitted preventive care only), a post-deductible FSA, or no FSA election at all.

Correct the excess promptly. Nadia should withdraw the excess contributions plus attributable earnings before the tax-filing deadline, including extensions. A timely corrective distribution avoids the 6% excise tax; the earnings are includible in income. If she waits past that deadline, the 6% excise tax applies for each year the excess stays in the account, and the amount is also counted again in later years.

Stop the bleeding. Payroll HSA contributions should be stopped immediately so no further excess accumulates.

Options for the rest of the plan year:

• The FSA election is irrevocable absent a qualifying status change, and "I want an HSA" is not one. Mid-year termination is generally unavailable, so Nadia likely cannot become eligible until the FSA coverage ends.
• She can keep and spend the existing HSA balance - ineligibility stops contributions, not qualified withdrawals.
• At next open enrollment, her husband should switch to a limited-purpose FSA (if offered) or drop the general-purpose FSA, and Nadia can resume HSA contributions. A limited-purpose FSA is compatible with HSA eligibility.
• The last-month rule does not rescue her: it requires eligibility on December 1 plus a testing period, and the disqualifying FSA coverage defeats eligibility regardless.

Planning point: the decision to offer or elect an FSA should be made looking at the whole household's coverage, because one spouse's first-dollar account can shut down the other spouse's HSA.

No double-dipping on the $1,200. An expense that has already been reimbursed by another plan cannot also be reimbursed tax-free from an HSA. If the HSA paid it, that distribution would be non-qualified - taxable as income plus a 20% additional tax on the amount (and it would not be a mere bookkeeping fix; it would need to be corrected). Nadia should keep EOBs and receipts showing which plan paid which expense.

The husband's dental work is a different question - and the answer is yes. HSA funds may be used tax-free for qualified medical expenses of the account holder, the spouse, and tax dependents, regardless of whether those individuals are covered by the HDHP. Family members do not need to be on the high-deductible plan for their qualified expenses to be HSA-eligible.

The distinction to keep straight:

• Eligibility to contribute - destroyed by the spouse's general-purpose FSA because it is coverage that can pay Nadia's bills.
• Eligibility to spend - broad, covering the spouse and dependents even when they are not on the HDHP.

These two questions are often collapsed into one and answered incorrectly on the exam.