HSA audit risk?

[dawdmorgan]

I have a fairly substantial HSA account that we've been adding to for years. We continue to pay all med expenses from other sources so this account can build tax free. I have also been saving copies (scans) of receipts since we started this account. I'm pretty sure I have enough receipts to cover a full withdrawal of our HSA if needed, but this leads me to my question... Has anyone ever been audited for an HSA withdrawal - large or small? And if you have been audited, but it was triggered for some other reason, did they question your HSA withdrawal and ask for proof that it was for current/past medical expenses?

It's pretty easy to scan and save the receipts so I'll probably keep doing it anyway, but I was curious if this was ever a problem for anyone.

 

[SecondCor521]

I have an HSA, and have been doing what most others in these sorts of communities have been doing - contributing the max, paying medical out of other sources, and investing the HSA for the next couple of decades. I plan to make my first withdrawal at age 65 for my accumulated expenses.

I am saving paper receipts into an HSA folder and have an HSA Excel spreadsheet. It's very minimal effort. If I happen to lose a receipt but have a Quicken record of my expense, I go ahead and record it in my Excel spreadsheet.

When I make an HSA withdrawal, I plan to print out a copy of my spreadsheet and move all of my paper receipts from my HSA folder to my tax folder for that year.

I have not been audited yet for any reason ever. If I am audited for a year which includes an HSA withdrawal, I'll provide them with my documentation. Hopefully they accept all of it (even the few that are only substantiated by Quicken). If not, I'll pay some small taxes and perhaps some interest.

The IRS recommends keeping records, so I do, and I would recommend everyone else do likewise. If not, then any HSA withdrawal is made on a guess or a hope (or is unnecessarily small because the taxpayer is being conservative). There is also an audit risk as you note.

I am sure the IRS is aware of this type of HSA use; it's been described in personal finance circles for a long while now and is no secret. But if you don't have records, they can disqualify the distribution. Nonqualified distributions, as you probably know, are subject to income tax and a 20% penalty if under 65. I wouldn't take that risk personally, but YMMV.

Also, note that predicting future audit risk based on past audit risk only works (a) for large populations, and (b) only if the risk remains constant. The level of audit risk may increase or decrease in the future. Also, it is possible but unknown whether a "large" HSA withdrawal, potentially combined with other numbers on a tax return, could increase one's audit risk score.

 

[gauss]

DW and I have had HSA's since the mid 2000's. I have made a couple of small withdrawals in 2 different tax years. I wasn't audited. In general I have been paying for medical expenses with other after tax funds like others here.

My record keeping strategy is as follows.
#1) Keep the EOBs that my insurance company issues for my PPO medical insurance

#2) Keep medical receipts (for the most part)

#3) Pay for medical expenses with accounts that I am tracking in Quicken with a Health Care Category.

#4) When I take distributions, change the expenses claimed to a subcategory of Health Care such as HSA distr - TY 2022.

#5) Print out a list of transactions and store with my tax return for the expenses claimed in that year.

I take my Quicken records quite seriously and they will be my primary tracking tool with EOB/receipt documentation as a backup if needed.

-gauss

 

[Aerides]

I don't think an HSA audit would be any more difficult, or likely, than any other tax audit. Just keep your records and you'll be all set.

 

[foxfirev5]

While I keep meticulous records I feel the chances of an audit are nearly nil. The number of audits overall are incredibly low these days. My pet peeve is the abuse of the system with 1099 vs real employee reporting. But I digress.

 

[zinger1457]

I've had an HSA account for at least 12 years and have made small withdrawals most years for dental, vision, or other medical expenses, never got audited. I think the chances of getting audited are probably close to zero unless you make a very big one time withdrawal that sets off a red flag. The biggest withdrawal I can recall making was ~$2k for dental expenses, most years probably under $300. I doubt the IRS has the manpower or time to look into small time expenses but like others I always keep my receipts just in case.

 

[Montecfo]

While I keep meticulous records I feel the chances of an audit are nearly nil. The number of audits overall are incredibly low these days. My pet peeve is the abuse of the system with 1099 vs real employee reporting. But I digress.

Agree but it seems like two different things are under discussion. If you withdraw a meaningful amount from HSA, the possibility of an inquiry from IRS is relatively high and you should be ready with receipts and other documentation.

On the other hand, the likelihood of a full blown audit of other parts or all aspects of your return would depend more on other risk factors in my view. Likelihood of being triggered by HSA withdrawal by itself would be low. Unless you file schedule C and your HSA records were a mess.

A letter from the IRS is not an audit as I see it but I think some folks may be viewing it that way

 

[Cobra9777]

...I plan to make my first withdrawal at age 65 for my accumulated expenses...

Just curious, what is the rationale for doing this at age 65?

My plan is to delay HSA distributions until we need to use Roth money (well past 65). THEN, use HSA first (to the extent of accumulated receipts) before Roth... just to avoid possible inheritance issues or tax/paperwork complications later in life.

 

[SecondCor521]

Just curious, what is the rationale for doing this at age 65?

My plan is to delay HSA distributions until we need to use Roth money (well past 65). THEN, use HSA first (to the extent of accumulated receipts) before Roth... just to avoid possible inheritance issues or tax/paperwork complications later in life.

Well, it's my answer to the various tradeoffs between (a) waiting as long as possible to allow for tax-free growth, (b) draining it before I'm likely to die (I don't like the inherited HSA rules), (c) making things simple and easy for me and my heirs. It happens to be when I start Medicare, because I'll probably start using it for Medicare premiums.

Not really very scientific, but there you go.

 

[dawdmorgan]

I've had an HSA account for at least 12 years and have made small withdrawals most years for dental, vision, or other medical expenses, never got audited. I think the chances of getting audited are probably close to zero unless you make a very big one time withdrawal that sets off a red flag. The biggest withdrawal I can recall making was ~$2k for dental expenses, most years probably under $300. I doubt the IRS has the manpower or time to look into small time expenses but like others I always keep my receipts just in case.

This was my original concern. I will probably start large withdrawals from my HSA soon after turning 60 - when my after-tax $ will be used up - to supplement spending, but keep my income from IRA withdrawals under the 12% tax bracket (or whatever it will be at the time). Like other posters have said, I will treat my HSA as a Roth to be exhausted first before other Roth accounts due to inheritance rules. Therefore it is very possible that I could be taking $40k+ out of my HSA on an annual basis until it is depleted.
I do have the receipts to back it up, but was just curious if anyone in this forum had ever been audited for HSA withdrawals alone.

 

[RunningBum]

This was my original concern. I will probably start large withdrawals from my HSA soon after turning 60 - when my after-tax $ will be used up - to supplement spending, but keep my income from IRA withdrawals under the 12% tax bracket (or whatever it will be at the time). Like other posters have said, I will treat my HSA as a Roth to be exhausted first before other Roth accounts due to inheritance rules. Therefore it is very possible that I could be taking $40k+ out of my HSA on an annual basis until it is depleted.
I do have the receipts to back it up, but was just curious if anyone in this forum had ever been audited for HSA withdrawals alone.

I'm planning something similar. Haven't started yet at 60 other than a $1K withdrawal a few years ago, but will soon. If the IRS wants to see my proof, no problem. I can zip all of my scanned receipts and submit them with my spreadsheet, or bring my shoe box full of marked receipts to an office.

I'm not even sure there would be an increased chance of being questioned or audited. They've got all of my tax returns and my form 8889s, and can see I've been making HSA contributions for years (part I), and have only taken that one distribution (part II). The only thing they don't have is proof of the actual expenses, and the amount I would claim after 13 years is not at all unreasonable. So far I could only claim about half of my ~$100K tax free.

So, no, I'm not nervous at all about draining my HSA whenever I want.

 

[Montecfo]

I'm planning something similar. Haven't started yet at 60 other than a $1K withdrawal a few years ago, but will soon. If the IRS wants to see my proof, no problem. I can zip all of my scanned receipts and submit them with my spreadsheet, or bring my shoe box full of marked receipts to an office.

I'm not even sure there would be an increased chance of being questioned or audited. They've got all of my tax returns and my form 8889s, and can see I've been making HSA contributions for years (part I), and have only taken that one distribution (part II). The only thing they don't have is proof of the actual expenses, and the amount I would claim after 13 years is not at all unreasonable. So far I could only claim about half of my ~$100K tax free.

So, no, I'm not nervous at all about draining my HSA whenever I want.

I know you have the receipts, but I think you are overestimating the amount of logic and analysis which would be done by IRS before sending you that latter.

But of course only the documentation matters, not so much its reasonableness.

 

[Keim]

I have regularly flushed money thru my HSA. Onlyquestioned on it once. Easily handled.

 

[Montecfo]

I have regularly flushed money thru my HSA. Onlyquestioned on it once. Easily handled.

Hi Keim,
Could you discern a reason why you got a question once and not other times?

 

[Willers]

As someone who is experienced in the audit process (stories for another day), the chances of audits on HSA's are low unless, like mentioned by others, you clear it out all at once with a pile of old receipts. That may trigger a question.

One thing to remember is that all "audits" are not the same. I've received a number of "audit letters" asking for clarification on various tax issues. A letter back with documentation was always enough to end the process.

A full blown audit is a whole different animal and is very unlikely to be triggered by an HSA. I've been through two of those (happy to have won both!) and I don't wish that on anyone.

 

[Keim]

No clue