HSA stands for health savings account, which is a special, tax advantaged savings account used for saving money for future health care expenses. HSAs are only available to people who have a high deductible health insurance plan. Participants are able to contribute money, up to the annual limit, to HSAs and then save the money until they need it for medical expenses. The contributions to HSAs are tax deductible, the money grows tax free in the account and, as long as the money is used for a qualified medical purpose, the money comes out tax-free.
In order to withdraw money penalty-free and tax-free from your HSA, you must use the money for a qualified medical expense, which the IRS defines as "primarily for the prevention or alleviation of a physical or mental defect or illness." The IRS does not have an exhaustive list of qualifying expenses, but you can use the money for medical, dental and vision care, preventative procedures and treatment. You can also use the money to pay for medical expenses for not only yourself, but your spouse and your dependents. If you do not use the money for qualified medical purposes, you cannot take out the money without paying taxes and possibly penalties.
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If you withdraw money for non-qualified purposes, you must include the amount of the withdrawal in your taxable income for the year. The tax rate that you will pay on this income depends on your total taxable income and the tax bracket that you fall into.
If you are under age 65 when you withdraw money from your health savings account and use it for non-qualified expenses, you will have to pay a 10 percent tax penalty on the amount of the withdrawal. This is a one-time penalty and is in addition to any income taxes you owe on the money. For example, if you withdrew $10,000 when you were 55 to buy a house, you would have to pay a $1,000 tax penalty in addition to reporting the $10,000 as taxable income. If you are over 65, this tax penalty is waived.