Last Minute HSA Rules for 2007

President Bush signed the Health Opportunity Patient Empowerment (HOPE) Act of 2006 on December 20, liberalizing the rules surrounding the use of Health Savings Accounts (HSAs). The major points in the new law are:



  • Through 2011, employers can rollover unused Flexible Spending Account (FSA) and Health Reimbursement Account (HRA) monies tax-free into HSAs, eliminating the 'use-it-or-lose-it' limitations of those accounts.
    • The rollover amount may be over and above the annual contribution level for that year
    • The amount is limited to the balance on the account being transferred from at the time of transfer or 9/21/2006, whichever is less
    • Only one transfer per FSA or HRA account
    • The individual must remain eligible (ie. employed and in the high deductible plan) for twelve months following the transfer or the transferred amounts will be included in taxable income and subject to 10% penalty
  • The HSA contribution limits for 2007 were increased to $2,850 and $5,650 for individual and family coverage respectively. Previously, contributions were limited by the underlying high-deductible plan's deductible amount.
  • Contributions limits are no longer pro-rated if the employee is not in the plan for the entire calendar year (eg. she was a new hire or the plan year started in a month other than January). This comes with a caveat however: if the participant does not remain eligible in the next year, any amount in excess of the pro-rated amount will be included in income and subject to 10% penalty.
    • Example: An employee joins the firm and enrolls in the high-deductible plan as an individual in May 2007 and quits on April 30, 2008. Under the old rules, she would only have been able to contribute $1,900 (8/12 * $2,850) despite being subject to a full $2,850 deductible. Under the new rule, she can contribute $2,850, but, because she did not remain covered for all of 2008, $950 ($2,850 - $1,900) would be subject to taxes and penalty.
  • Employees may make a one-time transfer from their IRA to their HSA
    • Limited by the annual contribution amount
    • Must be a trustee-to-trustee transfer
    • IRA withdrawal not included in income or subject to penalty but the deposit to the HSA is not eligible as a deduction either
  • Contribution limits will be subject to indexing at March 31 instead of August 31
  • Employers are allowed to make larger contributions on behalf of lower-compensated employees than before

As they are triple-tax free (contributions are tax deductible, earnings and withdrawals for qualified expenses are tax free), HSAs can be a powerful tool to save for future health care, long term care, and retirement.

Indexing Beats Active Management (Again)

One of the questions I get asked a good deal is this:

If my XYZ fund can earn the extra expense it charges, why shouldn't I pay more for active management instead of a (boring) index fund?

There are a number of reasons (more detail in an upcoming Advisor's Outlook), but one of the more compelling is highlighted by the most recent Standards & Poor's Indices Versus Active Funds Scorecard (SPIVA).

According to the report, the S&P 500 outperformed nearly 70% of actively managed large-cap funds in 2006 while charging only 1/6 the fees to do so. This means the average actively managed large-cap fund charged over 3/4 of 1% for only a 30% chance of beating its target.

If you're making that bet, what are you relying on to make certain you've picked one of the winning 30%?

Research? Presumably you've gone with mutual funds rather than stocks because you don't have the time or talent to separate the wheat from the chaff and have decided to pay a pro to do that for you; why do think you have time to do the research to find one of that 30% of funds that's a winner?

Marketing? Most marketing is geared to tout the hottest sector or hot fund of the quarter. Chasing hot hands is a losing strategy. Hot funds tend to cool off and (some) losers recover.

Track Record? The five-year track record is worse: Active large-cap funds lag 71.4% of the time, mid-cap 79.7% and small-cap 77.5%.

Don't pay more to get less. Stick with index funds.

For the full paper see: http://www2.standardandpoors.com/spf/pdf/index/SPIVA_2006_Q4-sc.pdf (requires Adobe)

Charitable Contributions and Recent Tax Law Changes

The passage of the Pension Protection Act (PPA) earlier this year brought about a number of changes in how charitable donations can be made and will be treated under the law. These changes may affect how you wish to perform your charitable activities.

Charitable IRA Rollovers

For tax years 2006 and 2007 only (so far), an IRA owner aged 70 1/2 may make a direct transfer of IRA funds, up to $100,000, to an eligible charity. The amount transferred effectively bypasses the tax return as it is not taxed as income, but neither is a deduction taken for the contribution. The amount transferred counts towards your Minimum Required Distribution. There are several advantages to this:
  • Taxpayers need not itemize their deductions to take full advantage of the tax break.
  • The tax benefits of the transfer are not limited by the percentage of Adjusted Gross Income (AGI) limits normally associated with charitable contributions. (Normally, contributions to public charities are limited to 50% of AGI).
  • The monies do not increase your AGI (as would be the case if they were received as income and then taken as a deduction). This means they will not contribute towards the phase-out of the itemized deduction and, conversely, will lower the threshold for miscellaneous and medical deductions.

Needless to say there are rules to follow:

  • Funds must be contributed directly by the IRA trustee to the charity
  • Employer plans (401(k), 403(b), SIMPLE IRAs, SEPs) are not eligible though, of course, once rolled over to a traditional IRA, the funds become subject to IRA rules.
  • Donor Advised Funds and Supporting Organizations are not eligible recipients


Guidelines for Cash Donations Changing

Beginning with tax year 2007 (earlier if your tax year started before January 1), the IRS will no longer just take your word for it (even if you're keeping notes or a diary) that you dropped a couple of bucks into the collection plate or Salvation Army kettle. The new rules state that donations of cash or by check, electronic funds transfer, credit card or payroll deduction must be backed up by a "bank record or a written communication from the charity showing the name of the charity, the date, and amount of the contribution." A bank record includes:

  • A canceled check
  • A bank or credit union statement provided the statement shows the name of the charity, date, and amount as required above
  • A credit card statement showing the name of the charity and the posting date
  • Payroll deductions require the pay stubs, W-2, or another employer-provided document along with a pledge card showing the name of the charity.

Guidelines for Non-Cash Donations Already Changed

For clothing and household items donated after August 17, 2006 to be deductible, they must be in "good used condition or better". The exception to this is that any single item valued at $500 or more may be deducted, regardless of condition, provided a qualified appraisal is included with the tax return.

For more information and details, see recent IRS news release IR-2006-192. Note: IRS Publication 526, Charitable Contributions, has not yet been updated.

Frequently Asked Questions about Portability of Health Coverage and HIPAA

Frequently Asked Questions about Portability of Health Coverage and HIPAA:

One of the biggest fears faced by people losing (or even changing) their jobs is the fear of being exposed to a financially devastating health claim. This FAQ, from the U.S. Department of Labor, explains the major points of HIPAA, the Health Insurance Portability and Accountability Act of 1996, the law outlining the rules employers and health plans must follow in providing you coverage under a new plan. The highlights:

1) If you have had continuous health coverage for 12 (or in some cases 18) months prior to joining a new health plan, that plan may not exclude pre-existing conditions

2) If you have had a break of 63 days (or longer if mandated by state law) in health coverage, the new plan may only excluded conditions for which you have received advice, diagnosis, care, or treatment in the 6 months preceding your first day of coverage under the new plan (or if there is a waiting period, the first day of the waiting period).

3) Conditions for which you have received treatment in the past but not in the last 6 months (e.g. allergies) are NOT pre-existing conditions.

4) Neither pregnancy nor genetic information without diagnosis or treatment may be deemed a pre-existing condition.

HIPAA was designed to take some of the fear out of losing your health coverage. Check out this site to get the full details.