posted on:  3/3/2007     revised: 3/9/2010

A number of reviewers published initial reviews of the Tax Relief and Health Care Act of 2006. Even the Joint Committee on Taxation felt compelled to issue a 135 page "Technical Explanation of H.R. 6408, The “Tax Relief and Health Care Act of 2006" because the law itself is so long and burdensome. My editorial covers only a small portion of the law referred to as Article III that covers Health Savings Accounts. I have not yet reviewed the text of the law itself. Yet it is clear from the Congressional review and other third party reviews that there is at least one minor tax loophole that offers a tax planning opportunity later this year. The loophole is likely to be of interest later this year to affluent self-employed individuals who control their own health insurance decisions.

Health Savings Accounts are designed to provide a tax incentive to individuals who forgo full coverage health plans and opt for a high deductible health plan. The downside of moving to a health savings account is that the participant must give up their current health insurance plan - perhaps a well trusted company (a Blue Cross plan or HMO) that might have covered the family for years - and the participant might be required to switch to a new and unfamiliar health insurance plan. HSA-qualified health insurance policies tend to be offered by companies with less recognized insurance brand names. The reward for taking this risk is twofold: a) lower health insurance premiums, and b) a tax-deductible contribution in a self-directed account that is similar to (but better than) an IRA. Most Americans are not convinced; in fact less than 5 percent of Americans had HSAs at last count and the growth rate may decline as more people learn about "real life" limitations of others who are now using these plans. Affluent self-employed families are usually not attracted to HSAs because they can deduct 100% of health insurance (and often out-of-pocket costs as well) through their business anyway. The remaining incentive of an additional tax deduction, currently up to $2,850 for individuals and $5,650 for families), may not be a significant motivation. In fact, the large majority of affluent self-employed individuals now pass on the Health Savings Account option.

The law now makes it possible to be covered by a full coverage health plan for the first 11 month of the year (January through November) and then switch to a high deductible health plan for only the month of December to allow the full tax deduction of $2,850 for individuals and $5,650 for families. As long as the HSA-qualified insurance remains in effect through the following year, then the total two years' worth of HSA deductions will be allowed. The additional tax benefit of essentially doubling the tax savings while keeping some of the protection might be enough to convince more people to make the switch to an HSA.

In other words, the net effect of this loophole is that it makes two years' worth of HSA tax benefits available even if you qualify for only one year plus one month.

Is is practical to make such a switch? It is easy to switch to a high deductible health insurance plan on December 1st and then start a new plan again on January 1st? The availability on online enrollment for an increasing number of health insurance plans means that most people can enroll in a new short term health insurance plan in less than ten minutes online. The process is easier and faster than renewing enrollment in a typical employer-sponsored plan (almost all mid-sized and large employers now use automated online health plan enrollment services). Service like my Freedom Benefits Web pages list the available options for individuals on a state-by-state basis.  Meanwhile, the process of opening a health savings account is even easier. A simple application form can be downloaded from any of the nation's leading providers of this service and submitted with a deposit check in less than five minutes. A full range of investment options is available ranging from bank passbook savings account to Vanguard no-load mutual funds (my favorite) to self-directed stock brokerage accounts. More information and HSA application forms for some of the "cream of the crop" are available at www.healthsavingsaccount-hsa.com

The net effect of the tax loophole is an average additional tax savings of about  $1,200 for a household with dependent coverage.  For these 11 months, it is possible to have the proverbial cake and eat it too.

The bottom line is that December 1, 2007 is the ideal time for an affluent self-employed person to consider a switch to a health savings account.

keywords:   Tax Relief and Health Care Act of 2006 , Health Savings Account, Tax Shelter

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Frequently Asked Questions on Health Savings Accounts

Copyright 2010 by Tony Novak. Originally produced and published for the "AskTony" column syndication prior to 2007. Edited and independently republished by the author in March 2010. All rights reserved.