HSA contribution testing period

[oam]

I started HDHP on Oct 1 2015 and started associated with it HSA at the same time. I contributed the whole allowed amount for the year on basis of last month rule for 2015 ($6,650 for family coverage). I maintained HDHP for 12 mo (till Sep 30 2016) and fulfilled the whole year allowance ($6750). I understand that I put excess amount to HSA for 2016 and will withdraw it before Apr 18 2017. But did I pass testing period not to be penalized for using last month rule to contribute in 2015?

[AnnetteB]

No, you did not meet the testing period.

According to the IRS Publication 969 Health Savings Accounts and Other Tax-Favored Health Plans (https://www.irs.gov/pub/irs-pdf/p969.pdf), the testing period begins on the last month of your tax year (December 1st) and ends on the last day of the 12th month following that month (December 31st of the following year).  You would have needed to be an eligible individual on December 31st, 2016 in order to meet the testing period. 

This means that a portion of the contributions that were made to your Health Savings Account (HSA) in 2015 based on the last month rule will be included as income on your 2016 tax return because the testing period was not met.  The amount included as income will also be subject to an additional 10% tax. 

Take a look at the Publication 969 on page 5 for more details and some examples to illustrate the concept. 

[dmertz]

Because you did not complete the testing period, you owe income tax and 10% penalty with your 2016 tax return on the $4,987 that you were not eligible to contribute for 2015 without using the last-month rule.

[dmertz]

Note that only the $6,750 that you contributed for 2016 is an excess contribution.  The $4,987 that you contributed for 2015 that is subject to tax and penalty for failing to satisfy the testing period is *not* an excess contribution and does *not* need to be removed.