Excess HSA contributions tax treatment

[buggfixer]

I switched jobs in 2022 and I was on a HDHP in both old and new jobs. covering only myself. My wife also has a HDHP, covering her and our kids. I misunderstood how the HSA contribution limit works and ended up contributing too much to my HSA in 2022. 

Excess contribution amount is $3000. According to my 2022 W2s, $500 of that was from my old job and $2500 from my new job.  I have spent the old HSA to zero on medical expenses. As of today my new HSA has a balance of $2800 and I have not used it for anything in 2023. 

Because all my contributions are payroll deductions, I would have to ask for an amended W2 from my current employer when I withdraw excess contributions, so that the $2500 figure on line 12 of the W2 can be updated. My wife, who contributes the max to her HSA, says that for 2023, she can adjust her contributions to avoid excess contributions. Here's my questions:

1. Does it make sense to withdraw more than $2500 to reduce my 2022 tax burden, since that is what shows on the W2? I can't imagine the amended W2 showing a negative number. 

2. I'll be getting a 2023 1099-SA stating that I made such a withdrawal. But does the $2500 get added back to my 2022 taxable income?

3. Along those lines, can I even withdraw more than $2500? And if so, what would happen to my 2022 taxes?

Thank you very much for the kind assistance!

[Mike9241]

You never get a corrected w-2 for withdrawing excess contributions. you contact the trustee to withdraw the excess + earnings thereon. as you go through the interview steps there will be a question about withdrawing the excess by 4/18/2023. you answer that question by indicating the amount removed. you're done. if you remove the excess by 4/18/2023 there is no penalty.

your w-2 wages were reduced by your contributions to the HSA as such more than the allowable amount was deducted. so the excess will get added back to your income regardless of whether you withdraw the excess or not. if you don't withdraw the excess the penalty is 6% of the lower of the excess contribution or the Fair Market value of the HSA on 12/31/2022

don't withdraw more than required that is a nonqualifying distribution subject to a 20% penalty

[buggfixer]

I appreciate your feedback. As I figure out how best to correct the situation, I start to realize how deep of a rabbit hole this can be. After talking to the HSA admin and the benefits people at my employer's, I now have a better idea of what will happen, which leads me to ask:

1. I can withdraw $2500 from my current HSA and leave $500 (the value of my old HSA, which has been spent on medical expenses) behind, which I'll pay the 6%. From what I can gather, I'll keep paying the 6% forever unless I withdraw it. Given that the $500 is a 2022 contribution to a HSA that is linked to a job that I am no longer at, what are my options to resolve it permanently?

2. The full $3000 has been added to my 2022 income and I'll be paying ordinary income tax rates on it. When I withdraw $2500 from my current HSA, do I get tax on the $2500 in 2023, even though I have already been taxed on it in 2022 and the distribution was made to correct a mistake?

Thanks very much!

[BillM223 · Accepted solution]

I assume that you (i.e., the two of you) contributed up to the Family limit ($7,300) to your spouse's HSA and up to the Self-only limit ($3,650) to your HSA (although it does not matter if you put all the money into the same HSA). Since the two of you would share the Family limit, it often happens that taxpayers in this situation would overcontribute by about $3,000.

It does not matter from which W-2 these contributions come from. It does not matter who made the excess contributions - you get to chose who (you should have seen the question near the end of the HSA interview asking you who made the excess contribution, but this really means: who is going to have the excess withdrawn?

Generally, you want to withdraw as much of the excess by the due date of the return as possible. As noted above, it does not matter from whose HSA it comes (or if it comes from more than one).

The amount that you cannot withdraw (usually because there is no money left in the HSA(s)) is carried over to next year. Yes, this is penalized at 6%. However, it is very easy for people still under HDHP coverage to discharge the carryover. In the next year, the HSA contribution limit is reduced by the amount of the carryover. This means that the taxpayer needs to reduce the amount of contributions to the HSA in the next year that he/she would have otherwise contributed. With a little discipline and understanding of the system, this will permanently eliminate the carryover with a minimum of expense.

When TurboTax determines that you have excess HSA contributions derived from employer contributions, the excess is added back to Other Income. This is because employer contributions are removed from Wages in boxes 1, 3, and 5 before your W-2 is printed. Since you can't benefit from excess HSA contributions, the excess contributions have to be added back to income. 

Therefore, the amount (the excess contribution) that the HSA custodian sends to you is not an income item. You won't be taxed on it again.

Make sense?

[buggfixer]

@BillM223 ,

Thanks very much for this informative, clear answer. It addresses my queries and tells me what I need to do. I would like to ask: while there is no doubt that I need to pay tax on the $3000 excessive contribution, is there a way to defer that amount (or even the $2500) to tax year 2023, now that I know there is no double taxation?

[BillM223]

Unfortunately, no, you cannot defer the tax on the excess until the subsequent year. Since the HSA custodian will send you the excess as a check, you will have the cash to pay it with.

[buggfixer]

@BillM223 , I forgot to mention that of the $2500 I am withdrawing, $300 is an employer contribution. Does this change any of the helpful answers that you've kindly provided? Thanks!

[BillM223]

No, no change.

HSA contributions made by your employer and HSA contributions made by you through your employer by means of payroll deduction are handled in exactly the same way.

[buggfixer]

I greatly appreciate your time spent in answering my questions. Please take care and stay safe!

[buggfixer]

@BillM223My wife, who contributed the max to her HSA for tax year 2022 (she covers the kids+herself whereas I cover only myself), is asking if she can withdraw $500 from her HSA so that we wouldn't have to pay any excise tax. Can she help offset excess HSA contributions?

[SharonD007]

No, you are not able to offset an excess HSA contribution.  If your wife overfunded her HSA in 2022, she would need to withdraw the excess amount plus any earnings by April 17, 2023 (October 15, 2023 if you file an extension) to avoid the penalty.

Please see the TurboTax Help article Why am I showing an excess HSA contribution? for more information. 

@buggfixer 

[buggfixer]

@SharonD007I am actually the one who over-contributed (at least that's the way TurboTax sees it) and I am not able to withdraw the full excess amount because I paid some medical bills. So, my wife wonders if she can help by withdrawing the remainder from her HSA.

Just so that I understand your reply correctly, withdrawals to eliminate excess contributions need to come from HSAs that belong only to me?

[AbrahamT]

Precisely.

[buggfixer]

Thank you for the clarification!

[lb93]

HSAbank has decided not to deal with the earnings on the excess and recommended I hire a tax professional.  They are so frustrating to deal with. 

We overcontributed $1288 according to turbotax.  I know why that happened (the software to request the withholding made a mistake and forgot to subtract the employer contribution from the maximum the employee could contribute.)  I am going to request (in January 2024) that the excess 2023 be returned to us.  We are offered a health saving account excess contributions removal form and a HSA Contribution Reversal Form. I assume the first is the correct form.  Can I just ignore the earnings on it? My estimate is $5.  I can easily spend that on Tylenol this year or last year for that matter (I use the hsa debit on the big stuff) or should I note earnings on excess on the form?