State taxation of HSA contributions

[JDuns]

I have heard that Wisconsin is taxing HSA contributions (both employee deferral and employer contributions). Has anyone else heard this? Are any other states taking the same position?

[mbozek]

The answer depends on how closely the state tax law tracks the IRC. If the state tax law permits the same deductions as fed law then the deduction will be allowed. However some states limit deductions to specific items (e.g., NJ allows deduction of employee 401k contributions but not IRA , 403b or 125 while NY follows the IRC for deductions from comp).

[jstorch]

Not only are HSAs not deductible in WI, the WI Department of Revenue is treating rollovers of MSAs into HSAs as a taxable distribution. (see below)

Makes sense from a legal perspective, in that a regular distribution from an MSA is taxable, and there's no corresponding WI deduction on the contribution to the HSA. However, would've been nice if WI DOR had come out with this position before September.

I asked DOR if they would allow a MSA-HSA rollover to be "unwound" so that the money could remain in the tax-preferred MSA. A spokesperson told me that if the IRS permitted it, WI DOR would permit it. So, anyone who converted an MSA to HSA in WI seems out of luck unless they fall into the 60-day rollover window or get a PLR.

Even without this issue, record-keeping is going to be a mess.

http://www.dor.state.wi.us/taxpro/news.html#health

Health Savings Account

The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 (Public Law 108-173), was enacted December 8, 2003. This federal Act amended the Internal Revenue Code (IRC) and provided for the establishment of health savings accounts.

For tax years beginning in 2004, Wisconsin generally follows the IRC as amended to December 31, 2002. Because the federal provisions in the Medicare Prescription Drug, Improvement, and Modernization Act of 2003 relating to health savings accounts were enacted during 2003, they do not apply for Wisconsin for taxable years beginning in 2004.

Effect of Wisconsin Not Following 2003 Federal Law Changes

All federal provisions relating to health savings accounts do not apply for Wisconsin. For example:

A deduction is not allowed for the amount contributed to a health savings account for an individual.

Earnings on the health savings account are taxable to the individual.

Amounts distributed from the health savings account are not taxable to Wisconsin, regardless of whether or not the amount is used to pay medical expenses.

Medical expenses paid with a distribution from a health savings account are allowed in the computation of the Wisconsin itemized deduction credit.

A rollover from an Archer medical savings account to a health savings account results in a taxable transaction.

Amounts contributed by an employer to a health savings account for an employee are taxable wages to the employee.

Amounts contributed to a health savings account pre-tax by an employee under sec. 125, IRC (cafeteria plan), are taxable wages for Wisconsin.