A medical savings account holds money you set aside before taxes to pay for healthcare costs

A medical savings account is a tax-advantaged account where you deposit money from your paycheck before income tax is taken out. That money sits in the account and you withdraw it to pay for medical expenses — doctor visits, prescriptions, dental work, vision care, and other healthcare costs. The main benefit is that the money you put in reduces your taxable income for the year, and the money you withdraw for medical expenses comes out tax-free.

The most common type is a Health Savings Account (HSA), which is available to people who have a high-deductible health insurance plan. A second type, the Flexible Spending Account (FSA), is offered through some employers and works similarly but has different rules about what happens to unused money. Both let you pay for healthcare with pre-tax dollars, which means you spend less overall because you avoid federal income tax, Social Security tax, and Medicare tax on that money.

Key Takeaways

  • Money you put into a medical savings account comes out of your paycheck before taxes, lowering the amount of income tax you owe that year.
  • You can withdraw money from the account to pay for a wide range of medical expenses, including insurance deductibles, copays, prescriptions, dental work, and vision care.
  • An HSA is portable — it stays with you even if you change jobs — while an FSA is tied to your employer and you typically lose unused money at the end of the year.
  • To open an HSA, you must be enrolled in a high-deductible health insurance plan; FSAs are offered by employers and do not require a specific insurance type.
  • You receive a debit card or reimbursement form to access the money, and you keep receipts to prove expenses were medical in nature.

How money flows in and out of the account

When you enroll in a medical savings account through your employer, you choose how much to contribute each pay period. That amount is deducted from your gross paycheck — before federal income tax, Social Security tax, and Medicare tax are calculated. If you contribute $200 per paycheck and earn $3,000 that pay period, your taxable income is reduced to $2,800. At the end of the year, you report the total contributions on your tax return, and the IRS treats that money as if it was never part of your income.

To spend the money, most accounts issue you a debit card linked to the account. You swipe it at the pharmacy, doctor's office, or medical supplier just like a regular debit card. Some accounts require you to pay out of pocket and then submit a receipt and reimbursement form to the account administrator, who sends you a check or direct deposit. Either way, the withdrawal is tax-free as long as the expense qualifies as a medical cost under IRS rules.

Money you do not spend stays in the account. With an HSA, unused money rolls over to the next year indefinitely — it is yours to keep. With an FSA, the rules vary by employer, but typically you lose unused money at the end of the year (though some employers offer a grace period or allow you to carry over a small amount).

What counts as a medical expense you can pay for

The IRS maintains a list of may have access to medical expenses. Common ones include insurance premiums (deductibles, copays, and coinsurance), prescription medications, over-the-counter drugs like pain relievers and allergy medicine, dental work, vision care and glasses, hearing aids, mental health counseling, physical therapy, and medical equipment like crutches or blood pressure monitors. Preventive care such as annual checkups and vaccinations also qualifies.

Expenses that do not may have access to include cosmetic procedures, gym memberships, vitamins (unless prescribed by a doctor for a specific condition), and most over-the-counter items that are not drugs or medical devices. If you are unsure whether an expense qualifies, you can ask your account administrator or check the IRS publication on medical expenses before you withdraw the money.

The difference between an HSA and an FSA

An HSA requires that you be enrolled in a high-deductible health insurance plan — typically a plan with a deductible of at least $1,500 for individual coverage or $3,000 for family coverage (these amounts change each year). In exchange, HSAs offer more flexibility: you own the account, it moves with you if you change jobs, unused money stays in the account forever, and you can invest the money in stocks or bonds if you want to grow it over time. You can also withdraw money for non-medical expenses after age 65 without penalty, though you will owe income tax on it.

A Flexible Spending Account (FSA) is offered by some employers and does not require a high-deductible plan. You can enroll in any health insurance plan your employer offers and still use an FSA. The trade-off is that the account is tied to your job — if you leave, the account closes and you lose access to unused money (with limited exceptions). FSAs also have a lower annual contribution limit than HSAs. Many employers offer both, so you may have a choice.

How to set up a medical savings account

If your employer offers a medical savings account, enrollment usually happens during open enrollment in the fall or when you first become may be able to access (such as when you are hired). You will receive information about the account options available, the contribution limits for that year, and the account administrator who will manage the money. You choose how much to contribute for the year, keeping in mind that the money comes out of your paycheck and you cannot change the amount until the next enrollment period (with limited exceptions for life changes like marriage or job loss).

If you have an HSA and change jobs, you can keep the account open and continue to use it as long as you remain enrolled in a high-deductible plan. You can also open an HSA on your own if you are self-employed or have a high-deductible plan through the individual market — you do not need an employer to offer one. You would set this up through a bank, credit union, or investment firm that administers HSAs.

Tracking your balance and keeping records

Your account administrator provides a way to check your balance online, usually through a website or mobile app. You can see your contributions, withdrawals, and current balance at any time. Keep receipts for all medical expenses you pay for with the account, because the IRS can ask for proof that withdrawals were for may have access to medical costs. If you cannot produce a receipt, you may have to repay the money or face taxes and penalties.

At the end of the year, your account administrator sends you a statement showing total contributions and withdrawals. You use this information when you file your tax return. If you contributed more than you spent, the unused balance rolls over (in an HSA) or may be forfeited (in an FSA, depending on your employer's rules). If you withdrew more than you contributed, you will need to cover the difference from other funds.

What happens if you withdraw money for non-medical expenses

If you withdraw money from an HSA for something that does not may have access to as a medical expense, you owe income tax on that amount plus a 20 percent penalty. For example, if you withdraw $500 for a non-medical expense and you are in the 22 percent tax bracket, you would owe $110 in taxes plus $100 in penalties, for a total of $210. The only exception is after age 65, when you can withdraw money for any reason and only owe income tax (no penalty).

FSA rules are stricter — you cannot withdraw money for non-medical expenses at all without losing the tax benefit on that withdrawal. If you accidentally use your FSA debit card for a non-medical purchase, contact your account administrator immediately to report it and reverse the transaction if possible.

Frequently Asked Questions

Can I use my medical savings account to pay for my spouse's or child's medical expenses?

Yes. As long as the person is a dependent on your tax return or your spouse, their medical expenses may have access to. You can use your HSA or FSA to pay for their doctor visits, prescriptions, dental work, and other may have access to medical costs.

What if I do not spend all the money in my account by the end of the year?

With an HSA, unused money stays in the account and you can use it next year or any year after that — there is no deadline. With an FSA, most employers have a "use it or lose it" rule, meaning unused money is forfeited. Some employers offer a 2.5-month grace period or allow you to carry over up to $610 (this amount changes yearly), so check your plan documents.

Can I open an HSA if I am self-employed?

Yes. You can open an HSA through a bank or investment firm as long as you are enrolled in a high-deductible health insurance plan, even if you buy it on your own through the individual market. You contribute the money yourself rather than through payroll deduction, but the tax benefit is the same.

Do I have to use the debit card, or can I pay out of pocket and get reimbursed later?

Most accounts offer both options. You can use the debit card at the point of service, or you can pay with your own money and submit a receipt for reimbursement. Some people prefer reimbursement because it gives them a paper trail and keeps the account balance higher for potential investment growth.

What if I change health insurance plans — can I keep my HSA?

You can keep your HSA as long as you stay enrolled in a high-deductible plan. If you switch to a plan with a lower deductible, you cannot make new contributions to the HSA, but the money already in the account stays there and you can continue to withdraw it for medical expenses. Once you enroll in a high-deductible plan again, you can resume contributions.