Health Savings Accounts (HSAs) have been slow to catch on with the public, but Congress is doing its part to champion their cause. It has tinkered with the law in recent years to make HSAs more appealing. In fact, you now have a once-in-a-lifetime opportunity — literally — to transfer funds tax-free to an HSA.

How does an HSA work?

Assuming you're eligible, you can set up an HSA yourself or participate in a plan through your employer. Any contributions you make are deductible above-the-line on your personal tax return, while your employer can deduct contributions made on your behalf.

For 2009, the maximum contribution allowed is $3,000 for an individual or $5,950 for family coverage. Plus, you can add a catch-up contribution of $1,000 if you're age 55 or over.

The big difference between an HSA and other tax-favored medical savings accounts is that the funds in an HSA can be invested, and the earnings grow tax-free. Withdrawals used for medical expenses are not subject to income tax. Also, unlike funds set aside for medical expenses in flexible spending accounts, unspent funds in HSAs remain in the account to grow tax-free year after year. After age 65, withdrawals can be made and used for any purpose penalty-free but not income tax-free.

To be eligible to participate in an HSA, you:

• Must have a qualifying high-deductible health insurance policy in effect.

• Cannot be entitled to receive benefits under Medicare.

• Cannot be claimed as a dependent on another person's tax return.

• Cannot be covered by another health insurance plan other than a qualifying high-deductible health insurance plan.

For 2009, a "high-deductible" policy is one with a deductible of at least $1,150 and out-of-pocket maximum of $5,800 for individual coverage; a deductible of at least $2,300 and out-of-pocket maximum of $11,600 for family coverage.

Tax bonus. Under the tax law, you can roll over funds from a traditional individual retirement account (IRA), a health reimbursement account (HRA), or a flexible spending account (FSA) to a Health Savings Account without any income tax consequences. Normally, a rollover of this type would constitute a taxable distribution, with a 10% penalty tax if you're under age 59½.

This tax break can be especially valuable to retirees and employees nearing the end of their careers. Also, a transfer from an FSA could make a lot of sense when FSA contributions can't be used up and would otherwise be lost.

The catch. You can only do this rollover once in your lifetime, and if the rollover is from an FSA or an HRA, it must be done before 2012. Also, the transfer amount is subject to limits. Before you make the rollover election, be sure this is the right move for your situation. For details and assistance in deciding how this tax break might benefit you, give us a call.

© copyright 2009