By: HUB’s EB Compliance Team

Section 213 of the Internal Revenue Code governs which expenses are considered medical expenses and are eligible for preferential tax treatment, including, in most cases, the ability to be paid or reimbursed by an HSA, health FSA, Archer MSA, or HRA. While some expenses very clearly meet the definition of medical expenses, such as a knee transplant, others are less clear and dependent on the exact facts surrounding the expenses. Recently, the IRS issued an FAQ clarifying their position on certain medical expenses.

Background

Per the FAQ and tax code, “Medical expenses are the costs of diagnosis, cure, mitigation, treatment, or prevention of disease, and for the purpose of affecting any part or function of the body.” Importantly, medical expenses do not include those expenses which are merely beneficial to health. This can be a very fine line, with the ultimate results being dependent on the facts and circumstances relevant to each individual.

The FAQ guidance mostly focuses on whether the expenses are deductible for income tax purposes. Most deductible expenses can instead be reimbursed from an HSA, health FSA, Archer MSA, or HRA. If they are, no deduction is allowed (that is, an individual cannot both deduct the expense from their taxes and get a tax-free reimbursement from an account). However, there are distinctions. As just one example, medical insurance premiums are a deductible expense, but cannot be reimbursed from a health FSA. Therefore, while guidance on deductibility is helpful, it is not necessarily definitive for expense account purposes. Where applicable, the chart below draws those distinctions.

Clarifications

Type of Expense

Medical Expense

Exam fees (physical, dental, vision)

Yes, because they provide a diagnosis of whether a disease or illness is present.

Drug and alcohol substance use treatment

Yes, because it treats an underlying disease.

Smoking cessation

Yes, because it treats an underlying disease.

Therapy

Yes, to the extent It treats a disease diagnosed by a physician.

Nutrition counseling and weight loss treatment

Yes, but only to the extent It treats a disease diagnosed by a physician. The cost of a weight loss program, absent a diagnosis, is not a permitted medical expense.

Gym memberships

Yes, but only if purchased for the sole purpose of affecting a structure or function of the body or treating a specific disease diagnosed by a physician. The cost of a gym membership for general health improvement, for example, is not a medical expense.

Costs associated with exercise and physical fitness

No, because it is for the general improvement of health.

Food and beverages purchased for weight loss

Yes, but only if each of the following are satisfied:
(1) the food or beverage doesn't satisfy normal nutritional needs,
(2) the food or beverage alleviates or treats an illness, and
(3) the need for the food or beverage is substantiated by a physician.
The medical expense is limited to the amount by which the cost of the food or beverage exceeds the cost of a product that satisfies normal nutritional needs. If any of the three conditions above is not met, the cost is not a medical expense.

This was brought home in a recent private letter ruling by the IRS that stated special food that merely reduces the risk of a future condition is not a permitted medical expense.

Non-prescription drugs and medicines

Yes, for tax deduction purposes, but only if prescribed by a physician (other than insulin).

By contrast, the cost of over-the-counter drugs and menstrual care products may be paid or reimbursed by an HSA, FSA, Archer MSA, or HRA, regardless of a prescription.

Nutritional supplements

Yes, if the supplements are recommended by a medical practitioner as treatment for a specific medical condition diagnosed by a physician.

Some expenses described above, such as exam fees and smoking cessation apply to all eligible taxpayers. Other expenses may or may not be considered medical expenses depending on each taxpayer’s own circumstances.

Food and beverages purchased for weight loss are especially complex because the amount considered a medical expense is not the actual cost of the specific food or beverage. For example, if Siobhan spends $100 on certain food and beverages that do not satisfy normal nutrition needs, alleviate an illness, and are substantiated by her physician, only the cost of the product which exceeds the cost of meeting nutrition needs is a medical expense. Thus, if meeting her general nutritional needs would cost $20, the difference, $80, would be a medical expense.

Impact to Account Based Plans

FSAs and HRAs are employer sponsored accounts. Therefore, eligible medical expenses require substantiation. Some expenses do not need additional explanation, such as examination fees and prescription drug receipts. Expenses like gym memberships, and nutritional supplements would need context prior to reimbursement, so the administrator could understand whether these are truly medical expenses. Additionally, even though the tax code allows for potential reimbursement of these expenses, the employer may not allow them under the plan.

By contrast, HSAs are individual accounts and substantiation prior to reimbursement is not required. Ultimately individuals would need to retain documentation supporting any disbursements claimed as medical expenses. Since these are individual accounts, employers should refer employees with questions on medical expenses to their own CPA or other tax professional.

Conclusion

While the IRS FAQ does not break any new ground, it provides some helpful clarity to the standing of these expenses as potentially medical expenses. Ultimately for employers that sponsor health FSA, Archer MSAs, or HRAs, they will need to decide whether they want to allow reimbursement of certain expenses under their plan and what kind of substantiation they may require. If an employer chooses not to allow an expense, it may need to amend the plan document to exclude it. Employers should also consult with their vendors that are administering these accounts (if any) to determine what restrictions those vendors can administer.

If you have any questions, please contact your HUB Advisor. View more compliance articles in our Compliance Directory.

NOTICE OF DISCLAIMER

Neither Hub International Limited nor any of its affiliated companies is a law or accounting firm, and therefore they cannot provide legal or tax advice. The information herein is provided for general information only and is not intended to constitute legal or tax advice as to an organization’s or individual's specific circumstances. It is based on Hub International's understanding of the law as it exists on the date of this publication. Subsequent developments may result in this information becoming outdated or incorrect and Hub International does not have an obligation to update this information. You should consult an attorney, accountant, or other legal or tax professional regarding the application of the general information provided here to your organization’s specific situation in light of your or your organization’s particular needs.