Expert Q&A: Medicare's 6-Month Lookback for HSA Contributions

Older employees are working longer, as the gap between the age for Medicare eligibility (65) and normal retirement age for Social Security (soon to be 67) is increasing. 

That can pose problems for employees over the age of 65 who contribute to a health savings account (HSA) during the six-month period before enrolling in Medicare, or whose employers made HSA contributions for them during this period. These workers can face unexpected tax penalties and the burden of reversing those contributions, explained Kevin Robertson, chief revenue officer at HSA Bank, which provides HSA administrative services.

If employers have not already fielded questions about Medicare and HSA contributions, they should prepare to do so. They should also understand that they may have to issue revised Form W-2 wage statements for older employers who have fallen into the HSA/Medicare trap.

Robertson delved further into these issues in a Q&A with SHRM Online.

What are some of the issues around HSAs and Medicare that employees may not understand?

Kevin Robertson: When it comes down to it, the issue is confusion. The retroactive coverage issue catches a lot of people by surprise.

Medicare coverage is retroactive for the six months preceding Medicare enrollment, but not before an enrollee's 65th birthday. Any time a person over age 65 who has been contributing to an HSA delayed enrollment in Medicare or Social Security—which triggers automatic enrollment in Medicare Part A—this becomes an issue.

The IRS excise tax penalty equals 6 percent of the excess contributions, which is charged for each year the excess contribution remains in the HSA uncorrected at the end of the tax year.

What is the purpose of the six-month lookback period?

Robertson: Beginning in 1983, the Department of Health and Human Services started backdating Medicare coverage retroactively for six months to ensure that people coming off of employer health coverage would not inadvertently find themselves uninsured while transitioning to Medicare. Under current regulations, individuals who apply for Medicare Part A or Part B after reaching age 65 are automatically given six months of retroactive health coverage, which invalidates their ability to make or receive HSA contributions for any of those months they were deemed to be covered.

Many of those people probably already made HSA contributions and are therefore going to have to back out of those contributions or pay the penalty for overcontributing when, quite honestly, they're caught completely off guard.

The policy is not required by law but is regulatory and overseen by the Centers for Medicare and Medicaid Services [CMS].

Can people choose to forgo the six months of retroactive Medicare coverage to avoid this issue?

Robertson: Unfortunately, that's not permitted. CMS had tried to fix this, however. It does not necessitate a legislative change and could be done with regulation. Right before the Biden administration took office, the prior CMS team had issued a proposed rule that would have made the mandatory six months of retroactive coverage voluntary. But the rule change has not been taken up by the Biden administration.

What happens when HSA holders over age 65 don't stop making contributions six months before Medicare enrollment?

Robertson: There's a lot of advice that tells people if they're past age 65 to stop contributing, or to stop their employer from contributing, six months before retirement. A lot of people don't plan that far ahead, however, or they may get laid off unexpectedly.

Fortunately, in many cases they can reverse overcontributions—which is how the IRS views contributions made during the six-month lookback period—by contacting their HSA administrator and avoid tax penalties. However, they're going to have to do this before they file their income taxes for the year in which they make those contributions. Otherwise, they'll have to file an amended return.

Another complication is that if their employer has sent them a Form W-2 at year-end showing HSA contributions—either the employee's contributions or the employer's—then the HSA holder would have to ask their employer to issue an amended Form W-2.

Employers may have to issue an amended Form W-2.

When employers have contributed to the employee's HSA during the six-month lookback period, and those contributions must be reversed, technically they can request that money back. Alternatively, they can recharacterize those amounts and treat them as if they were a post-tax bonus payment to the employee, which is what most employers in this situation usually do, we've found. Either way, they have some record-keeping to go back and fix.

A reason to allow employees to keep those employer contributions, even though the employer has a right to recoup them, is that the money may have already been spent.

What happens if the money was invested within the HSA and has a profit or loss?

Robertson: If employees make an overcontribution, they must reverse the overcontribution as well as the interest or earnings associated with those contributions.

If everything was held in the HSA's cash account, then that's simple because the administrator can calculate exactly how much interest was due on that amount. If it was invested in a stock or bond mutual fund, however, and especially if the person had bought and sold shares in those investments during that time, the earnings can be difficult to track.

Fortunately, most HSA holders who are investing within their accounts do not invest all their HSA dollars. As long as they have enough cash in the account to represent the amount of the overcontribution, I would tell people just to back out those dollars along with the amount of interest that they would have due on those cash holdings during the lookback period.

That's the simple answer. It would be much more difficult, however, if the account holder had put 100 percent of their account holdings into mutual fund investments and if they were simultaneously buying and selling. Then determining those losses and earnings could be a much more difficult task.

What can HR staff do to avoid these issues?

Robertson: It's best for HR teams to get ahead of this problem by communicating to HSA holders over age 65 and encouraging them to plan to stop payments six months before they enroll in Medicare, and to remind them that enrolling in Social Security, which some employees do while still working, automatically causes enrollment in Medicare Part A.

If you can tell people to plan for this, then great. If that didn't happen and the employee or retiree has to go back and fix an overcontribution, and if they have not filed their taxes already, and if the employer has not provided a W-2, the overcontribution is much easier to fix. If the person has already received their W-2 and filed their taxes, then a lot more administrative work has to be done.

This situation, however, is totally avoidable if we're doing our job and raising awareness. People need to know it's an issue because most people don't.