Health Savings Accounts Subject IRS Levy, 10% Penalty May Apply on Taxpayer

In Chief Counsel Advice 200927019, the IRS ruled that funds held by a taxpayer in a Health Savings Account are subject to levy under §6331 and that the additional 10 percent tax found at §223(f)(4)(A) will apply unless the taxpayers has either attained age 65 or is disabled. The IRS noted that the taxpayer has a right to receive a distribution at any time, citing Notice 2004-2, Q&A 24 and the trust or custodial agreement may not contain a provision restricting distributions solely to the payment of medical expenses making this, in the IRS’s view, a “property right” subject to levy under §6331.

Unlike distributions from qualified retirement plans, distributions from the HSA’s do not qualify for an exception from a similar 10% additional tax if the IRS seizes the funds via levy. IRC §72(t)(2)(vii) specifically provides that distributions due to IRS levy are exempt from §72(t)’s penalty, but no similar provision exists for the penalty imposed at §223(f)(4)(A).

Thus, taxpayers whose HSA funds are seized by the IRS under §6331 will find that, unless they have attained age 65 or are disabled, they will owe the 10% addition to tax as well having the distribution subject to income tax since it was not used for medical purposes.