IRS Tells Consumers: A Doctor's Note Alone Is Not Sufficient

Some expenses for general health may be qualified for tax-free reimbursement from a Health Savings Account. But a Letter of Medical Necessity isn't a guarantee that the product or service is qualified.

Last week, the Internal Revenue Service took the unusual step of issuing a press release [IR-2024-65: IRS alert: Beware of companies misrepresenting nutrition, wellness and general health expenses as medical care for FSAs, HSAs, HRAs and MSAs (govdelivery.com)] to inform Health Savings Account owners, Health FSA, participants, and account administrators about the limits of Letters of Medical Necessity (LMN) and prescriptions. The agency noted that the LMN alone isn't sufficient to qualify an expense for tax-free reimbursement from a health account.

In recent weeks, the IRS learned that several new companies are testing the limits of determining whether an expense is qualified. One company in particular applies its own determination of what constitutes appropriate medical care to evaluate requests from consumers to reimburse tax-free products and services that fall under the category of general health. This company points to the number of American adults with chronic conditions and cites a growing library of research linking health to better nutrition and exercise, then approves products and services that help promote better health. (To learn more about this company’s position, see an article in the March 8 edition of The Washington Post, printed in its entirety at the end of this column.)

The problem: The federal tax code doesn't recognize many of these non-medical services as appropriate treatment for the diagnoses cited in the LMNs.

Qualified and Non-qualified Expenses

To be qualified for tax-free reimbursement from a health account, a product or service must diagnose, cure, mitigate, prevent, or treat, an injury, illness, or condition. This definition leaves a gray area to accommodate individual circumstances in which a product or services that's normally consumed to promote general health has a medical application.

Example: A vitamin B-12 supplement that a healthy runner consumes as part of a general supplement regimen isn't a qualified expense. But the same pill may be qualified for a person who's undergone bariatric surgery (like gastric sleeve or gastric bypass, which alters the stomach and/or small intestine) and can't absorb enough vitamin B-12 from the volume of food that she now consumes.

Some broad categories of expenses that people would like to reimburse from a tax-advantaged health account are used or consumed primarily for general health. They include vitamins, fitness-club memberships, personal trainers, and healthy food. These items are rarely qualified for tax-free reimbursement, but, in some cases, they may be qualified based on the facts and circumstances of a particular case.

Federal tax law applies certain tests to determine whether an expense in the gray area is qualified:

1. What is the nature of, and the patient's intent in purchasing, the product or service?

2. What is the origin of the purchase (who recommended it)?

3. Is the treatment directly related to the medical condition?

4. Is the purchase proximate in time to the medical condition?

In addition, the IRS applies the But-for test, which asks whether the individual would have purchased the product or service but for the medical condition.

Example: Following my spinal-fusion surgery five years ago, my surgeon advised me to strengthen my core to support the fused joints. He recommended that I work with either a physical therapist (clearly a qualified expense) at up to $225 per visit or a trainer (usually not a qualified expense) at $190 per month.

I joined my gym several years earlier and never hired a trainer, thereby passing the But-for test. My surgeon prescribed core strengthening. I instructed my trainer that my goal was to strengthen my core, not sculpt my body or train for a marathon. And I started the rehab program immediately after my surgeon cleared me for this activity. Thus, I conclude that my trainer was a qualified expense.

A Health Savings Account owner or Health FSA participant should secure a physician's prescription or LMN to meet requirement No. 2 above (who prescribed this treatment for a specific condition?). The prescription or LMN doesn't automatically qualify the item. Instead, it supports the case as an administrator (Health FSA) or the IRS (Health Savings Account owner or audit of an employer's Health FSA program) determines whether the product or service meets the requirements of a qualified expense.

What Prompted the IRS Press Release

For a $30 fee, one new entrant in the market offers to write an LMN to support designating a service as qualified. You go to the website, provide basic personal information (like sex and age), self-report your diagnoses and family medical history of chronic conditions, and identify the service that you want to reimburse tax-free from a Health Savings Account or Health FSA. If the company determines that your expense is qualified, it will write an LMN. You never speak to a medical professional. The LMN is signed by a nurse practitioner.

In an article that appeared late last year in The Washington Post, a customer praised this service. She stated that she received a LMN to reimburse tax-free from her Health Savings Account her ongoing gym membership and the full cost of her home-delivery healthy food program.

Her ongoing fitness-club dues appear to fail the four requirements and the But-for test outlined above. She cited no injury, so her request couldn't be proximate in time to or a recognized treatment for that injury. And it appears to fail the But-for test because she was already a gym member.

Her food program also appears to fail to satisfy all four requirements and the But-for test. Specialized diets (for example, low-salt and low-protein) to manage a specific medical condition can be qualified, but only to the extent that the price of the specialty food program exceeds the price of a normal diet. For example, if a typical person would pay $100 weekly for food and a patient on a low-protein eating regimen pays $175 for prepared meals, only the $75 difference is qualified.

Intrigued after reading the article, I tried the service myself. I went through the brief screening process outlined above and learned that I could receive an LMN to substantiate the purchase of a Peloton subscription for a self-reported diagnosis of acne and, in a separate inquiry, a CrossFit membership for a self-reported diagnosis of fatty liver disease and an ovarian syndrome. I never received a request to document these diagnoses, ever was prompted to provide more information, and never spoke with a medical professional.

I'm not an IRS auditor, but I think that I'd have a difficult time justifying either of these expenses as qualified, even with an LMN, during an audit of my personal federal income tax return. Is a Peloton bicycle and subscription a recognized service to diagnose, cure, mitigate, prevent, or treat a medical diagnosis of acne (which, by the way, the LMN signer didn't diagnose)? Should any medical professional accept the self-diagnosis of a male patient for an ovarian syndrome (today, my sex doesn't exclude this diagnosis, but it should raise a red flag and prompt investigation by anyone considering signing an LMN)? And is a CrossFit membership an appropriate treatment for the diagnosis of fatty liver disease and an ovarian syndrome?

The Risks

What happens to the thousands of people who've paid for a LMN for these services that may well fall outside the IRS's definition of a qualified expense? It depends on the reimbursement account.

Health Savings Account. Because HSAs are personally owned financial accounts, owners alone are responsible for substantiation. They can withdraw funds at any time for any purpose. They must break down their distributions into qualified and non-qualified when they complete their personal income tax return. If their return is audited, the auditor can require substantiation of all expenses that the taxpayer labeled qualified. If the auditor disallows an expense, the account owner must include that amount in taxable income and pay an additional penalty (waived if the owner is age 65 or older, or disabled). And interest on the amount of the delinquent tax payment. The fact that the owner has a LMN doesn't itself turn a non-qualified expense into a qualified one.

If the IRS rules that the expense isn't qualified, the account owner may be left with additional taxable income, a penalty, and interest due. But this judgment doesn't affect the owner's tax break on contributions or affect any of her co-workers who also fund a Health Savings Account through their company. A Health Savings Account itself is a personal financial account owned by an individual, not a benefit sponsored by an employer.

Health FSA. This service creates immediate problems. A Health FSA is an employer-sponsored plan. Withdrawals are limited to qualified expenses. The plan administrator (the sponsoring company) or its designee (the third-party administrator) must verify that all expenses are qualified. When a professional administrator sees an expense that falls outside the normal range of qualified products and services, it pulls that claim for further review. It then applies the criteria outlined earlier to judge whether the expense is qualified.

If the administrator denies the claim, the participant most likely will complain to her company. The company will then respond in one of three ways:

1. Agree with the judgment of the administrator and accept that the employe may be unhappy and could forfeit unused balances.

2. At the plan's renewal, replace the administrator with a new company that will make different (more lenient) decisions in these gray areas.

3. Order the administrator to reimburse the claim (which the company, as the plan sponsor, is permitted to do).

The first response is the worst in terms of employee satisfaction with the program, but it keeps the Health FSA in compliance. The second and third responses present the risk that an IRS audit of the employer's program may disqualify not only that expense, but the entire Health FSA program. And since the Health FSA program is but one component of a Cafeteria Plan (along with pre-tax payroll deductions for employees' share of premiums, Dependent Care FSA, adoption assistance, and other programs), a disqualified component could invalidate the entire Cafeteria Plan. In that case, the pre-tax deductions made by all employees into all Cafeteria Plan components would be recharacterized as taxable income. An employee who pays $500 monthly ($6,000 annually) for family medical premiums could be hit with an additional $1,500 to $1,800 in federal income taxes owed.

The Bottom Line

A doctor's prescription or LMN can supplement a request to qualify an expense as qualified, but that document alone doesn't automatically qualify a product or service for tax-free distribution from a health account. Health Savings Account owners, not their account administrator or employer, determine whether their expenses are qualified. They must understand how a doctor's note plays a role, but not the defining role, in that process.

#HSAMondayMythbuster #HSAWednesdayWisdom #HSAQuestionOfTheWeek #HealthSavingsAccount #HSA #TaxPerfect #ICHRAinsights #ICHRA #WilliamGStuart #HSAguru #HealthSavingsAcademy

HSA Monday Mythbuster is published every other week, alternating with HSA Question of the Week on Mondays. The content of this column is informational only. It is not intended, nor should the reader construe the content, as legal advice. Please consult your personal legal, tax, or financial counsel for information about how this information applies to you or your entity.

The Washington Post, Thurs., March 7, 2024: 

Why the IRS doesn’t believe your doctor’s note for tax-free health items

The agency said companies that promote using HSA and FSA funds for food and fitness items may be misleading consumers

Anahad O’Connor

For years, Americans have been using tax-free dollars from health savings accounts to cover a wide variety of health and wellness items, including eyeglasses, tampons, massage devices, acupuncture and even fitness equipment deemed medically necessary by a doctor.

But now the IRS says some companies are misleading consumers about what is and is not eligible under the rules of these Health Savings Accounts (HSAs) and Flexible Savings Accounts (FSAs), which allow consumers to use pretax dollars for various health needs.

At the heart of the issue are companies that provide consumers with “letters of medical necessity” — essentially a doctor’s note — to purchase health-related items, such as nutritious meal plans, gym memberships, fitness trackers and dietary supplements.

Even though these notes are written by doctors, the IRS is questioning the validity of their advice. In general, the agency said medical letters must result from face-to-face interactions with the patient, either in person or through telehealth visits. Getting a medical letter by filling out a questionnaire, as is commonly practiced by some companies, is not adequate, the agency says.

The IRS says pretax funds aren’t for ‘health and wellness’

In an interview an agency spokesman said that food and dietary supplements could only “rarely” be considered a medical expense, and only under strict circumstances. It’s also unclear how the IRS plans to decide what doctor’s notes are legitimate and which ones don’t count.

“Some companies mistakenly claim that notes from doctors based merely on self-reported health information can convert non-medical food, wellness, and exercise expenses into medical expenses, but this documentation actually doesn’t,” the agency said in a news release.

The agency says that unless consumers meet strict criteria, they can’t use funds from their HSA and FSA accounts to pay for things that promote their “general health and wellness.”

Calley Means, a co-founder of Truemed, a company that helps people obtain letters of medical necessity to purchase items with HSA funds, said that the IRS is on shaky legal ground and overstepping into the relationship between patients and their doctors.

He said that by challenging the legitimacy of some doctors’ notes and warning that HSA funds could only “rarely” be used for things such as food and exercise, the agency is setting a higher bar for people to get “medically tailored exercise and food plans than antidepressants and Ozempic.”

Tax rules that favor drugs over prevention

Using questionnaires and emails to help determine medical need is a common practice “used to prescribe tens of millions of pharmaceutical interventions,” he said. “Let’s call this what it is: an attempt by regulators to confuse and freeze the trend of Americans learning that they can work with their doctors to reverse disease with food, not drugs.”

Means pointed to several cases in which the U.S. Tax Court has ruled that special diets prescribed by a doctor could qualify as medical expenses for people with medical conditions.

In one 1976 case, the U.S. Tax Court ruled that a man and woman who had allergies to pesticides and herbicides could deduct as a medical expense some of the costs of their expensive organic diet. In another case, the Tax Court ruled that a man with a heart condition who was prescribed a salt-free diet could deduct as a medical expense some of the costs associated with his special diet.

Means said that the IRS appeared to be suggesting that food was not medicine, which he said runs counter to the federal government’s “Food is Medicine” initiative launched last year to reduce the prevalence of chronic diseases by providing Americans with better access to nutritious food.

“In the midst of a chronic disease crisis that is crippling the American people, why is the IRS picking a war with food and exercise interventions that are recommended by doctors to treat specific health conditions?” said Means.

How HSA and FSA funds work

HSAs and FSAs allow people to set aside money on a pretax basis to pay for a wide range of medical and dental expenses, such as prescription drugs, pregnancy tests and hearing aids. As of last year, Americans held about $116 billion in 36 million health savings accounts, according to Devenir, a research and investment company. About 1 in 4 people with employer-sponsored health insurance are enrolled in high-deductible health-care plans with HSAs.

Using HSA and FSA funds to pay for health and wellness products is a widespread practice. Walmart, Target and other large retailers advertise some dietary supplements, sunscreens and a variety of other products as “FSA/HSA eligible” on their websites. One popular website, HSA Store, sells skin care products, electrolyte supplements, massage guns, foam rollers, heating pads, fitness trackers and other products that it advertises to customers as “surprisingly eligible.”

The IRS has published guidance on its website about what products and services can be considered medical expenses. But in some cases, what qualifies and what doesn’t remains somewhat of a gray area.

The IRS spokesman said that some products, such as fitness trackers, might qualify as a medical expense if a person with a medical condition is advised by their doctor to purchase it. But only in “rare” circumstances can things like food or supplements be considered a medical expense, the spokesman said.

How consumers get medical letters

To qualify as a medical expense, supplements must be “recommended by a medical practitioner” as treatment for a specific medical condition. Food can be considered a medical expense only if it “doesn’t satisfy normal nutritional needs,” helps to alleviate an illness and the need for it is “substantiated by a physician,” the IRS says.

A gym membership, according to the agency, can count as a medical expense if it is purchased “for the sole purpose of affecting a structure or function of the body (such as a prescribed plan for physical therapy to treat an injury)” or if the membership was purchased to treat hypertension, heart disease, obesity or another disease diagnosed by a doctor.

When consumers use Truemed to obtain letters of medical necessity, they fill out an online form describing their health and medical histories, then a remote doctor reviews their information. The patient receives a letter of medical necessity if the doctor determines the customer needs a particular product or service to treat or prevent a medical condition like diabetes, heart disease or obesity. The customer can then use that letter to justify their purchase as a medical expense and request reimbursement through their health-care account.

Truemed partners with companies such as CrossFit, Equinox, LA Fitness, CorePower Yoga, and the health-food-delivery services Daily Harvest and Sakara.

It’s the lack of a face-to-face encounter between doctor and patient that seems to have raised the agency’s ire. But it’s not clear how the IRS or an HSA or FSA manager could distinguish between medical letters written from in-person visits, those that happen on a video screen and those that occur via a questionnaire.

The agency also doesn’t have any specific enforcement authority, but a spokesman said the IRS guidance is being shared with the Federal Trade Commission, which could target companies that engage in false advertising.

“Legitimate medical expenses have an important place in the tax law that allows for reimbursements,” IRS Commissioner Danny Werfel said in a news release Wednesday. “But taxpayers should be careful to follow the rules amid some aggressive marketing that suggests personal expenditures on things like food for weight loss qualify for reimbursement when they don’t qualify as medical expenses.”