Schedule CA Adjustments HSA Distributions

[cmtemca]

We took HSA distributions in 2024 covering several years' worth of expenses. On Schedule CA, under Medical & Dental Expenses and HSA Distributions Smart Worksheet, the software calculated that we could take a deduction of the distribution amounts (less 7.5% of AGI). Is this OK? If not, how do I correct it? Also, how can I add 2024 Medigap premiums not reimbursable by HSA to IRS Schedule A so that they carry over to Schedule CA line H?

[BillM223]

"Also, how can I add 2024 Medigap premiums not reimbursable by HSA to IRS Schedule A so that they carry over to Schedule CA line H?"

Are you saying that you are not 65 years of age? Normally, you would add these premiums to Schedule A on the 1040. Then they would flow to the CA return.

"On Schedule CA, under Medical & Dental Expenses and HSA Distributions Smart Worksheet, the software calculated that we could take a deduction of the distribution amounts (less 7.5% of AGI). Is this OK?"

Honestly, in California, I doubt that it is. However, on the federal return, the IRS explicitly allows you to pay from your HSA expenses that are several years old, which normally would not be allowed ( they are normally deductible in the year in which you actually paid the expense).

But the California Instructions for form CA state: "Health Savings Account (HSA) Distributions – If you received a tax-free HSA distribution for qualified medical expenses, enter the qualified expenses paid that exceed 7.5% of federal AGI on line 4, column C."

Clearly, the rules for an HSA allow for you to reimburse yourself for medical expenses from years before, so either the author of these instructions does not know this or does not care.

My suggestion - you are free to accept it or not - is to let TurboTax do its thing, but to document this, in case anyone ever asks.

[cmtemca]

Thanks for the information. We are over 65. I was unable to add the Medigap premiums (which are not eligible for HSA reimbursement, unlike Medicare Part B and D premiums) to schedule A. I guess that's because we are taking the standard deduction for IRS. However, I did find the information on the ftb.ca.gov website on taking the deduction for qualified medical expenses on the California return, so I am doing that. It still seems counter-intuitive, but maybe it's because the original contributions were not deductible??

[BillM223]

What did you read on the CA website? I see

Deduction  - Medical and dental expenses

CA allowable amount - Expenses that exceed 7.5% of your federal AGI

Federal allowable amount - Expenses that exceed 7.5% of your federal AGI

So for medical expenses, the CA rules are the same as the IRS.

Or perhaps you are speaking about something else.

[cmtemca]

As I understand it, California basically reverses the federal rules for HSAs: in California, contributions are not deductible and distributions are deductible. This is not the same as deducting expenses that have not been reimbursed by insurance or HSA.

https://www.irs.gov/publications/p969

Contributions, other than employer contributions, are deductible on the eligible individual’s return whether or not the individual itemizes deductions. Employer contributions aren’t included in income. Distributions from an HSA that are used to pay qualified medical expenses aren’t taxed.

https://www.ftb.ca.gov/forms/2024/2024-540-ca-instructions.html

HSA distributions – If you received a tax-free HSA distribution for qualified medical expenses, enter the qualified expenses paid that exceed 7.5% of federal AGI on line 4, column C.

[BillM223]

Yes, because the original contributions to the HSA are not deductible (therefore have to be added back to state income), this affects the tax treatment of distributions. Distributions for not-qualified medical expenses, which are taxed as income on the federal return and are hit with a 20% penalty, are not taxed in CA nor hit with a penalty.

To your point, CA wants to back out the federal deduction for medical expenses reimbursed by your HSA, because it is going to handle those medical expenses elsewhere. The reference to the 7.5% is to make sure that you enter only those expenses which actually made a difference on Schedule A - any medical expenses less than 7.5% of your AGI doesn't count anyway.

So, technically, it's not that the distribution for qualified medical expenses that is being handled differently in this case, but certain medical expenses themselves.