Warning: Dependent care mandate can cause tax headaches

The healthcare reform law’s dependent coverage rule doesn’t extend to health savings accounts (HSAs) – and it’s bound to cause some problems.
The new law changes the definition of a dependent child, resulting in a requirement that group health plans that offer dependent coverage to children allow young adults up to age 26 to remain on their parent’s insurance plan.
The problem: While the new definition of a dependent applies to most employer health coverage, it does not extend to HSAs.
HSAs must still operate using the old definitions of a qualifying child or qualifying relative.
Pre-health reform definitions
Under the pre-reform definition, a qualifying child is someone who has not attained age 19 (or age 24 if a full-time student).
And a qualifying relative under the old definition is a child of the employee, other relative or member of the employee’s household, for whom the employee provides over half of the individual’s financial support.
Older children don’t qualify
These definitions now cause a problem when an employee tries to enroll a 25-year-old child in a group health plan that uses an HSA.
Because of the expansion of dependent care under the new reform law, the child is allowed into the plan. But the employee can’t submit the child’s uninsured expenses for reimbursement under the HSA because the child is too old to qualify under the rules of an HSA.
In addition, the child won’t be a qualifying relative if he/she doesn’t depend on the employee for the majority of his/her financial support.
So if the employee takes an HSA distribution to reimburse the child’s expenses, it’ll be taxed and could be subject to the 20% HSA penalty on early withdraws.