I used the HSA's Last Month Rule last year. What's the precise definition of "being enrolled for the entire next year"?

[zav]

I'm set to change employers.  My last day of the old company will be 12/1 and I'll start at the new company on 12/11.  I'll still have funds in my old HSA.  Furthermore, I'll contribute to a new HSA at my new employer.  Will I be penalized for that tiny window during my transition?

[dmertz · Accepted solution]

IRS Pub 969 says:

Testing period. If contributions were made to your HSA based on you being an eligible individual for the entire year under the last-month rule, you must remain an eligible individual during the testing period. For the last-month rule, the testing period begins with the last month of your tax year and  ends on the last day of the 12th month following that month (for example, December 1, 2016, through December 31, 2017).

However, section 223(c)(1)(A) of the tax code says:

(A)  In general The term “eligible individual” means, with respect to any month, any individual if—

(i)   such individual is covered under a high deductible health plan as of the 1st day of such month, and
(ii)  such individual is not, while covered under a high deductible health plan, covered under any health plan—

(I)   which is not a high deductible health plan, and
(II)   which provides coverage for any benefit which is covered under the high deductible health plan.

So, it appears that if you are covered by an HSA plan on the first of each month of the year you are considered an eligible individual for the entire testing period.  It seems that you have indicated that you will still be covered by the old company's HDHP plan on 12/1, so you will be an eligible individual for December, as well as the earlier months of the year, but you'll want to confirm that.  If that will not be the case, if COBRA continuation coverage is available from the old employer you could consider continuing the old employer's HDHP insurance for the month of December under COBRA.  However, you would want to compare the cost of one month of COBRA to the tax and 10% penalty that would be due on the portion of your contribution made under the last month rule that you would not have been eligible to make were it not for the last-month rule.

[dmertz]

IRS Notice 2008-52 provides the details of the IRS's interpretation of the last-month rule which are summarized in IRS Pub 696.  In various places in Notice 2008-52 the IRS refers to maintaining HDHP coverage throughout the entire testing period ending on December 31 of the following year, which seems to be more restrictive than the requirement under section 223.  However, the notice in other places refers to the first of various months as indicating whether one is an eligible individual for that month, so it's still unclear if they actually mean that coverage must be maintained beyond December 1 to meet the requirement.

<a rel="nofollow" target="_blank" href="https://www.irs.gov/irb/2008-25_IRB#NOT-2008-52">https://www.irs.gov/irb/2008-25_IRB#NOT-2008-52</a>

Keep in mind, though, that almost all (if not all) insurance plans cover you for whole months, not fractions of a month, so if you are covered by an insurance plan on December 1, you are probably covered by that same plan on December 31.  Check with your old company's plan regarding this.