BILL ANALYSIS �
AB 1510
Page 1
Date of Hearing: April 9, 2012
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Henry T. Perea, Chair
AB 1510 (Garrick) - As Introduced: January 12, 2012
Majority vote. Tax levy. Fiscal committee.
SUBJECT : Income tax: health savings accounts.
SUMMARY : Conforms California tax law to federal tax law with
respect to health savings accounts (HSAs) for taxable years
beginning on or after January 1, 2013. Specifically, this bill :
1)Allows eligible individuals to claim an above-the-line
deduction related to their contributions to HSAs in computing
their adjusted gross income (AGI).
2)Treats an HSA as a tax-exempt trust for tax purposes.
3)Excludes from the gross income of the employee any
contributions to an HSA made by an employer on the employee's
behalf.
4)Includes HSAs as an approved option in a nontaxable cafeteria
plan for employee benefits created by an employer.
5)Adopts federal changes enacted in 2006 that enhance the HSAs
by:
a) Permitting the funds remaining upon termination of
health flexible spending arrangements or health
reimbursements arrangements to be transferred to HSAs.
b) Revising the annual deductible limitation on
contributions to HSAs to disregard the amount of the annual
deductible under the high deductible health plan (HDHP).
c) Modifying the cost-of-living adjustments for Consumer
Price Index for a calendar year to use the 12-month period
ending on March 31 of the calendar year rather than the
12-month period ending on August 31, of the preceding
calendar year.
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d) Eliminating the requirement to prorate the amount of HSA
contribution based on the number of months of enrollment in
an HDHP for an individual who becomes covered under the
HDHP during the taxable year in a month other than January.
e) Enacting an exception to the requirement for comparable
contributions by employers to permit employers to make
larger contributions for non-highly compensated employees
than for highly compensated employees.
f) Permitting participants to make a one-time distribution
from an individual retirement account (IRA) to fund an HSA.
g) Allowing a taxpayer to rollover the balance of an
existing Archer medical savings account (Archer MSA) to an
HSA for taxable years beginning on or after January 1,
2013, without penalty.
h) Imposing a penalty for a disqualified distribution equal
to 2 % of the distribution amount, rather than 10% as
provided by federal law.
i) Not conforming to the federal 6% excise tax on excess
contributions.
j) Imposing a $50 penalty for failing to make required
reports by the HSA trustee or other person providing an
individual with an HDHP.
6)Takes effect immediately as a tax levy.
EXISTING FEDERAL LAW :
1)The Medicare Prescription Drug, Improvement, and Modernization
Act of 2003 (Public Law 108-173) established HSAs, beginning
in tax year 2004.
2)Defines an HSA as a tax-exempt trust or custodial account
created exclusively to pay for the qualified medical expenses
of the account holder and his/her spouse and dependents.
3)Allows any balance in an HSA to grow on a tax-free basis.
4)Allows individuals with an HDHP, and no other health plan
other than a plan that provides certain permitted coverage, to
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establish an HSA.
5)Allows a deduction for contributions to HSAs when computing
AGI, if made by an eligible individual. Distributions from an
HSA for qualified medical expenses of the eligible individual,
spouse or dependents are not includible in gross income.
6)Defines "qualified medical expenses" as medical expenses
including expenses for diagnosis, cure, mitigation, treatment,
or prevention of disease, including prescription drugs,
transportation primarily for and to such care, and qualified
long-term care expenses. Distributions made for non-qualified
medical expenses are includible in gross income and also
subject to an additional 20% penalty, unless the distributions
are made after death, disability, or after the individual
attains the age of 65.
7)Specifies that medical expenses paid via distributions that
are excludable from income may not be claimed as medical
expenses for purposes of reporting itemized deductions.
8)Excludes contributions to an HSA from income and employment
taxes if made by the employer. Eligible individuals include
those covered by high-deductible health plans and, in general,
are not eligible for other health coverage.
9)Specifies the maximum aggregate annual contribution that may
be made to an HSA by or on behalf of the eligible individual,
which is the lesser a) 100% of the annual deductible under the
HDHP, or, b) $3,100 in the case of self-only coverage and
$6,250 in the case of family coverage for 2012 tax year.
Those limits are indexed for inflation.
10) For taxable year 2012, a HDHP is a health plan that has an
annual deductible that is at least $1,200 for self-only
coverage or $2,400 for family coverage and that has an
out-of-pocket expense limit that is no more than $6,050 in the
case of self-only coverage and $12,100 in the case of family
coverage.
11)Allows employers to make larger HSA contributions for
non-highly compensated employees than for highly compensated
employees.
12)Includes the balance remaining in an HSA after the death of
the eligible individual in the gross estate of the decedent
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unless the decedent's spouse is the beneficiary of the HSA.
In that case, the HSA balance is deducted in computing the
taxable estate and the HSA passes to the surviving spouse,
subject to the general restrictions on, and taxation of,
distributions.
13)Imposes numerous reporting requirements related to HSAs.
Employer contributions to the HSAs must be reported on the
employees Form W-2. In addition, the trustee of the HSA must
report information on distributions, contributions, and other
required information to the Secretary of the Treasury. Health
insurance providers must report information as required by the
Secretary of the Treasury.
14)Authorizes a direct transfer of funds from the health
Flexible Spending Arrangements (FSAs) or Health Reimbursement
Arrangements (HRAs) to an HSA, but limits the amount that may
be transferred to an amount equal to the lesser of a) the
balance in the health FSA or HRA as of September 21, 2006, or,
b) the balance in the health FSA or HRA as of the date of the
transfer.
15)Authorizes a one-time contribution to an HSA of amounts
distributed from an IRA as a direct trustee-to-trustee
transfer. Excludes the transfer amount from the gross income
of the accountholder and from the 10% penalty on early IRA
distributions.
16)Allows tax-exempt medical accounts called Archer MSAs. The
Acher MSAs create a tax-exempt trust or custodial account for
the benefit of the account holder. Rules similar to those for
IRAs apply to Archer MSAs. Participants of Archer MSAs are
able to transfer or roll over their balances from an Archer
MSA to a new HSA. This transfer specifically is not treated
as a disqualifying distribution.
EXISTING STATE LAW: Allows tax-benefited growth and use of
funds for qualified medical expenses, conforming to the federal
rules for Archer MSAs. However, California has not adopted the
HSAs created as part of the 2003 federal legislation. Due to
the lack of conformity, California taxpayers will be
disadvantaged financially if they roll over (transfer) their
Archer MSAs to HSAs. Although specifically approved for federal
tax purposes, the transfer is a disqualified distribution for
California tax purposes, includable in income and subject to tax
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as well as an additional 10% penalty. Similarly, transfers of
funds from IRAs will be treated as income subject to tax, and
potentially subject to the 2 % penalty for early distribution.
FISCAL EFFECT : The Franchise Tax Board (FTB) staff estimate a
revenue loss from this bill of $33 million in fiscal year (FY)
2012-13, $65 million in FY 2013-14, and $70 million in FY
2014-15.
COMMENTS :
1)The author states, "Health Savings Accounts �HSAs] were
created with the passage of the 2003 Medicare bill signed by
President Bush. HSA's allow for individuals to plan ahead for
qualified medical expenses on a tax free basis. HSA's have
also been used to defray the costs associated with High
Deductible Health Plans. HDHP's & HSA's give individuals
further flexibility when determining what type of health care
coverage is best for them. HSA's and HDHPs offer consumers
security, affordability, flexibility and they are 100%
portable. By encouraging contributions to HSAs we make
insurance that much more affordable.
"A recent Kaiser Family Foundation survey found that 79
percent of participants believe that allowing individuals to
shop around for the best prices they can get for health care
and health insurance would be very (37%) or somewhat (43%)
effective at controlling health care costs.
"AB 1510 encourages the use of HSA's by allowing for a tax
deduction for contributions made to an HSA by, or on behalf
of, an eligible individual. AB 1510 would extend the option
of contributing to any eligible HSA to employers who may be
interested in exploring cost-effective ways to help employees
defray medical expenses.
"Encouraging the uninsured to purchase health insurance by
allowing this tax deductible option, will reduce the number of
uninsured, and accordingly, reduce costs associated with
providing healthcare to the uninsured. Reducing healthcare
costs will make healthcare insurance more affordable for all.
Furthermore, allowing employers to contribute to
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tax-deductible HSAs on behalf of their employees provides a
low-cost mechanism to offer their employees an additional
benefit. Many employers would provide some form of health
benefit to their employees if it were cost efficient.
"Additionally, �i]individuals who are self-employed tend to
have one of two health insurance options - a HSA or nothing -
by conforming with federal HSA provisions, small businesses
will benefit in two ways: First, �] those who already
contribute to a HSA, will be able to keep more of their money,
which can then be put back into their business. Second, those
who do not currently have health insurance will likely be
encouraged to contribute to a HSA due to the tax benefit.
This is good for small business, the individual and the State.
"Further, lower income may appreciate a refundable tax credit
for health care expenses, while the middle class may be
convinced to obtain coverage if they can apply tax deductions
for health care expenses, including premiums. These tax
incentives would be conditioned on individuals' maintaining at
least a HSA - compatible high deductible plan throughout the
year. Allowing health insurers to develop a minimum benefits
plan will require additional legislation to afford the market
the flexibility to actually meet the needs of consumers.
"This is a simple conformity measure, bringing California in
line with federal HSA provisions. Given our current healthcare
crisis and impending Federal changes, we should be creating
options for people to save for future healthcare costs
unknowns, and AB 1510 creates one such option."
2)Arguments in Support . Proponents state that HSAs, when
combined with HDHPs, present an option for business to provide
some health insurance for employees rather than none at all.
According to the proponents, use of HSAs help individuals take
control of how their health care dollars are spent and enable
them to save for future medical expenses and retiree-health
expenses on a tax-free basis. Proponents argue that, in fact,
HSAs improve upon existing tax-deductible saving options
because both the employer and employee may contribute to an
employee's HSA without increasing the employee's taxable
income. Also, unspent funds roll over from year to year and
move with an employee.
Proponents also point out that HSAs provide one the fastest
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growing coverage options for those currently lacking health
insurance coverage. Proponents argue that, in light of the
skyrocketing cost of healthcare, California taxpayers are
continually searching for help in easing the high price of
health services. Finally, the proponents believe that this
measure, by providing conformity to federal tax laws, will
save California taxpayers much confusion and heartache in
filling out their state income tax forms.
3)Arguments in Opposition . Opponents state that this bill
amounts to a tax giveaway for holders of HSAs because they
already have the financial resources to afford health
insurance. Opponents argue that HSAs in many cases "become a
tax shelter for the wealthy who can afford to stash large
amounts in an HSA and do not require frequent care."
According to the opponents, this bill would do nothing to make
health care more affordable for the uninsured and low-income
earners. They argue that HSAs are bad health policy because
they encourage underinsurance by shifting cost risk to
consumers without adequate price transparency in the medical
sector, and high-deductible plans undercut basic health care
benefits, including reasonable cost sharing.
Opponents also argue that HSAs actually limit consumer choice
and ultimately cost low- and middle-income workers more money
because HSAs must be coupled with HDHPs. Opponents contend
that HDHPs are bad for workers as they discourage sick workers
and their families from seeking care for routine illnesses,
potentially leading to subsequent health care costs that are
much higher than they would have been with early treatments.
Opponents believe that this cycle of high barriers to care and
worsening illnesses hurts working families.
Additionally, opponents assert that HSAs hurt the health system
as a whole because the health system needs to spread its risk.
Taking healthy individuals out of the insurance pool
increases the cost to those in need of more extensive health
insurance. Opponents also believe that this measure would
result in a revenue loss that could impact the provision of
critical firefighting and public safety services, at times
when California is facing a projected $9.2 billion budget
shortfall.
Lastly, opponents argue that the Patient Protection and
Affordable Care Act (ACA) gives California even more reason
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not to conform to the federal tax law on HSAs. Opponents
argue that HSAs are justified as a cost-containment strategy
for health care costs. However, opponents point that the ACA
contains a number of cost-containment strategies, one of which
is ensuring that individuals have access to affordable or
subsidized health plans. Thus, because the health plans
required by the ACA have to meet standards for actuarial
value, cost-sharing limits, comprehensive coverage (that
includes essential health benefits), and free preventative
care, opponents contend there is no need for California to
conform to HSA federal tax law. According to opponents, the
"ACA is a much more comprehensive strategy for
cost-containment that does not give tax privileges to those
that can afford �HSAs] while relegating those who cannot to
low-quality health plans".
4)HSAs : Under federal law, individuals with a high deductible
health plan, and no other health plan other than a plan that
provides certain permitted coverage, may establish an HSA. In
general, HSAs are tax-exempt trusts or custodial accounts
established exclusively to pay for the qualified medical
expenses of the account holder, his/her spouse and dependents.
Within certain limits, contributions to an HSA are
deductible. An HSA is a savings account that provides for
tax-deductible deposits and allows tax-free withdrawals, as
long as the funds are used for qualified medical expenses. In
contrast, a traditional IRA allows tax-deductible
contributions but subjects distributions to tax. Further, in
the case of a Roth IRA, contributions to the account are
taxable, but qualified distributions are tax-free. In
addition, both a traditional IRA and a Roth IRA have income
limitation restricting eligibility. HSAs have no income
restrictions and are available to anyone.
5)Tax Incentive for High-Income Taxpayers . In its 2008 report,
the United States (U.S.) Government Accountability Office
(GAO) found that the median income of tax filers reporting an
HSA contribution in 2005 was $139,000 and 59% of those tax
filers contributing to HSAs had an AGI of $60,000 or more. It
appears that HSAs disproportionately benefit high-income
individuals. According to the report, many HSA participants
appear to be using their accounts purely or primarily as a tax
shelter rather than paying for out-of-pocket health care
costs. The GAO found that, "a stunning 41 percent of tax
filers reporting HSA contributions in 2005 did not withdraw
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any funds from their accounts at any time during the year."
In recent Congressional testimony, the GAO stated that "this
was consistent with the view held by industry experts that
many HSA users are people who primarily use their HSAs as a
tax-advantaged savings vehicle."
6)The Recent Federal Health Care Reform and Its Effect on HSAs .
The ACA passed in March of 2010 requires most citizens and
legal residents of the U.S. to have health insurance by
January 1, 2014. The legislation outlines the minimum
coverage and essential health benefits that need to be
provided for a plan to qualify for the mandated coverage;
ultimately, these requirements could limit the types of plans
offered to individuals.
The ACA does not greatly affect HSAs. Instead, the ACA
affected HSAs in two minor ways. First, ACA Section 9003
established a new uniform standard for medical expenses.
Effective January 1, 2011, only prescribed medicines and drugs
are considered "qualifying medical expenses" and are subject
to preferred tax treatment. Secondly, the ACA increased the
tax penalty on HSA distributions for unqualified medical
expenses from 10% to 20%. Given the minor changes in HSAs
treatment under the ACA, previous policy objections to HSAs
have not yet been overcome.
The ACA may reduce the need for HSAs given the expansion of
Medicaid coverage. Individuals who would have signed up for an
HSA may not do so if they are able to purchase more affordable
health care or are covered under Medicaid. Conversely, the
ACA may also encourage the use of HSAs. Assuming the ACA is
upheld, most people will be required to have health insurance
by 2014. Businesses with 50 or more full-time employees will
have to offer health insurance plans. Thus, individuals and
companies might opt for high deductible plans which can be
coupled with HSAs. Some experts state that, HDHP coupled with
HSAs will be the most affordable plans that meet the
requirements for minimal essential coverage.
On March 28, 2012, U.S. Supreme concluded a three day review
of the ACA. During oral arguments, the high Court considered:
a) whether it was appropriate to hear the case before the
penalties for not obtaining health insurance take effect; b)
the constitutionality of the ACA's individual mandate; c)
whether the rest of the ACA will remain in effect if the
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individual mandate if found to be unconstitutional; and d) the
constitutionality of Medicaid's expansion. A decision is
expected later this year. However, because of the ACA's
minimal effect on HSAs, the Court's decision is not likely
significantly alter this policy analysis.
7)California Adjustments . Currently, only three states (among
those that impose an income tax) do not conform to the federal
HSA deduction rules: California, New Jersey, and Alabama.
Pennsylvania allows a deduction for employer's contribution
only. Because California has not conformed to any of the
federal HSA provisions, a taxpayer taking a deduction on
his/her federal personal income tax return is required to
increase his/her AGI on the California personal income tax
return by the amount of that deduction. In addition, any
interest earned on the HSA account must be added to the
taxpayer's AGI for California tax purposes, and any
contributions made by the taxpayer's employer to the HSA, must
be included in the taxpayer's AGI.
8)Implementation Concerns . This bill does not address the
impact of HSAs created before the effective date of this bill.
Without addressing the tax treatment of HSAs created before
2012, there might be implementation concerns because part of
the HSA will be pre-tax dollars and part will be post-tax
dollars. Additional legislation or regulations would be
required to provide guidance to the FTB with respect to
treatment of qualified and disqualified distributions from
such HSAs. Because California is one of only three states
that have not adopted federal HSA deduction rules, there may
be implementation concerns from employees that move into
California from a conforming state.
9)Conformity Bill. This bill fully conforms California law to
federal HSA provisions beginning with tax year 2013.
California does not automatically conform to federal law but
instead considers each provision individually. The last
California-federal conformity bill was enacted in 2010 �SB 401
(Wolk), Chapter 14, Statutes of 2010]. It appears that the
omnibus California-federal conformity bill would be a more
appropriate vehicle for conforming to the federal HSA
provisions.
10)Partial Conformity . An alternative step to full conformity
would be to remove the penalty associated with rollovers of
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Archer MSA and IRA funds, which are both allowed tax-free for
federal purposes. As mentioned above, the Archer MSA rollover
is a disqualified distribution and is subjected to both income
tax and a penalty for disqualified distributions. Similarly,
the transfer of funds from an IRA is subject to income tax and
might be an early withdrawal subject to a penalty (if the
transferor/IRA owner is less than age 59 when the transfer
is made). California could choose to exempt those
distributions or transfers from penalty.
11)Related Legislation . Committee staff notes that the issue of
conformity to federal HSA legislation has been proposed in
every legislative session since the federal law was enacted.
AB 854 (Garrick), introduced in the 2010-11 legislative
session, is nearly identical to this bill, but would have
applied to taxable years beginning on or after January 1,
2012. AB 854 was held in this committee.
AB 1178 (Portantino), introduced in the 2009-10 legislative
session, contained a provision similar to the provisions of
this bill. AB 1178 was held in the Senate Appropriations
Committee.
AB 326 (Garrick), introduced in the 2009-10 legislative
session, is similar to this bill, but would have applied to
taxable years beginning on or after January 1, 2010. AB 326
was held in this committee.
SB 353 (Dutton), introduced a bill in the 2009-10 legislative
session, is similar to this bill. SB 353 was held in the
Senate Revenue and Taxation Committee.
SB 1262 (Aanestad), introduced a bill in the 2009-10
legislative session, is similar to this bill. SB 1262 was
held in the Assembly Rules Committee.
SBX6 13 (Dutton), introduced a bill in the 2009-10 legislative
session, is similar to this bill. SBX6 13 was held in the
Senate Rules Committee.
SBX8 47 (Dutton), introduced a bill in the 2009-10 legislative
session, is similar to this bill. SBX8 47 was held in the
Senate Rules Committee.
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AB 2292 (Garrick), introduced in the 2007-08 legislative
session, is similar to this bill, but would have applied to
taxable years beginning on or after January 1, 2008. AB 2292
was held in this committee.
AB 84 (Nakanishi/Smyth), introduced in the 2007-08 legislative
session, is similar to this bill. AB 84, as amended on March
12, 2007, would have conformed to federal HSA provisions
starting with taxable year 2008. AB 84 was held in this
committee.
AB 142 (Plescia), introduced in the 2007-08 legislative
session, is nearly identical to this bill. That bill would
have conformed to federal HSA provisions starting with taxable
year 2008, which is the same as this bill; however, AB 142
specified a different nonconformity period than this bill. AB
142 was held in the Senate Revenue and Taxation Committee.
AB 245 (DeVore), introduced in the 2007-08 legislative
session, is identical to AB 142. AB 245 was held in this
committee.
SB 25 (Maldonado and Runner), introduced in the 2007-08
legislative session, is identical to this bill. SB 25 was
held in the Senate Revenue and Taxation Committee.
SBx1 10 (Maldonado), introduced in the 2007-08 legislative
session, is nearly identical to this bill, except that
conformity to the federal HSA provisions would apply starting
with taxable year 2006. SBx1 10 failed to pass the Senate
Health Committee.
12) FTB's Suggested Technical Amendments . The FTB staff
suggests the following technical amendments to address its
concerns regarding the unnecessary references.
AMENDMENT 1
On page 3, strikeout line 3.
AMENDMENT 2
On page 3, line 24, strikeout "as added by", strikeout lines
25 through 26, inclusive, and insert: as
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AMENDMENT 3
On page 3, line 30, strikeout "as added," strikeout line 31,
and on line 32, strikeout "and Modernization Act of 2003
(Public Law 108-173)."
AMENDMENT 4
On page 3, line 36, strikeout "as added", strikeout line 37,
and on line 38, strikeout "and Modernization Act of 2003
(Public Law 108-173)."
AMENDMENT 5
On page 4, line 13, strikeout, "as added by," strikeout line
14, on line 15, strikeout "and Modernization Act of 2003
(Public Law 108-173)," and on line 16, strikeout "health
savings accounts," and insert: reports.
REGISTERED SUPPORT / OPPOSITION :
Support
United Contractors
California Taxpayers Association
National Federation of Independent Business
California Grocers Association
Southwest California Legislative Council
California Manufacturers & Technology Association
California Association of Health Underwriters
California Association of Health Plans
California Chamber of Commerce
Opposition
California Labor Federation
Health Access California
California Tax Reform Association
California School Employees Association
Analysis Prepared by : Rosailda Perez / Oksana Jaffe / REV. &
TAX. / (916) 319-2098
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