1099-SA Distribution Code Review for Custodians

Before assigning a distribution code, reporting teams must verify the specific account type and check the corresponding box in Box 5 (HSA, Archer MSA, or MA MSA). Form 1099-SA requires a separate return for each plan type. Do not combine HSA and Archer MSA distributions on a single form.

The gross distribution is reported in Box 1. This includes the total amount paid directly to the account holder or to a medical service provider. Do not include negative amounts in Box 1. Furthermore, custodians should not report the withdrawal of excess employer contributions returned to an employer as a distribution from the employee's HSA. Routine trustee-to-trustee transfers are also excluded from Form 1099-SA reporting entirely.

If a custodian allows a beneficiary to repay a mistaken distribution (such as a withdrawal the account holder mistakenly thought was a qualified expense), and the repayment is completed timely, the custodian does not report that mistaken distribution on Form 1099-SA. If a form was already filed, the custodian must file a corrected return.

Code 1 represents a normal distribution. Custodians use this code for standard withdrawals made by the account holder and for any direct payments made from the account to a medical service provider. It is the default code when no other specific condition (such as death or excess contribution) applies.

A common operational question is whether the reporting institution must verify that the funds were actually spent on qualified medical expenses before assigning Code 1. The IRS instructions explicitly state that the trustee or custodian is not required to determine the taxable amount of a distribution. Assigning Code 1 simply indicates the funds left the account normally; it does not represent a custodian certification of medical eligibility. Custodians do not need to audit or collect the account holder's medical receipts to authorize a Code 1 reporting event.

Custodians must select from six specific codes for Box 3. The December 2026 revision of the instructions, which applies to 2026 information filed and furnished in early 2027, defines these codes as follows:

When an account holder requests the return of excess contributions, the custodian must return the principal along with any net income attributable to that excess. The earnings must be reported in Box 2, and the total gross distribution (principal plus earnings) must be reported in Box 1. Box 3 must display Code 2.

Fictional Example: An HSA custodian processes a return of excess contributions for a plan participant. The principal excess amount is $2,000. The custodian's system calculates the net earnings attributable to this contribution as $150.

The reporting operations team prepares Form 1099-SA as follows:

• Box 2 (Earnings on Excess Contributions): $150
• Box 1 (Gross Distribution): $2,150 (The $2,000 principal plus the $150 earnings)
• Box 3 (Distribution Code): 2

It is a standard reporting error to list the principal alone in Box 1. Custodians must ensure their reporting software aggregates the Box 2 earnings into the Box 1 total. The custodian should separately document the earnings calculation method in their system audit trail.

Death distributions require careful mapping based on the identity of the beneficiary and the timing of the payout. Custodians must first determine the beneficiary type on file.

If the designated beneficiary is the surviving spouse, the spouse becomes the account holder of the HSA or Archer MSA. An MA MSA is treated as an Archer MSA for the spouse's distributions. Apply the specific year-of-death and later-year instructions to the actual facts. If a distribution is made to the spouse after the year of death, it is reported with Code 1.

If the beneficiary is an estate, use Code 4. Code 4 applies whether the payout to the estate occurs in the year of death or in a subsequent year.

If the beneficiary is a nonspouse individual, the account ceases to be an HSA on the date of death. The reporting depends on the timing of the distribution. If the custodian learns of the death and distributes funds to the nonspouse beneficiary in the year of death, Box 3 requires Code 4. However, if the distribution to the nonspouse beneficiary happens after the year of death, Box 3 requires Code 6. Review Box 4 under the death-reporting instructions. The after-year-of-death rule specifies date-of-death FMV reduced by payments from the HSA for the decedent's qualified medical expenses when paid within one year after death. Preserve the death date, date learned, beneficiary category and supporting payment facts before selecting the reporting year and amounts.

Once the reporting team has mapped all transactions to the correct codes, the data must be formatted for transmission to the IRS and furnished to the recipients. Payee statements must generally be furnished to recipients by the applicable standard deadlines outlined in Publication 1099.

The IRS requires electronic filing for organizations submitting 10 or more total information returns. Custodians can transmit Form 1099-SA data using the Information Returns Intake System (IRIS), using the supported 2026 reporting process. When a payee statement is generated, the custodian may truncate the recipient's TIN for security purposes, but the filer's TIN must never be truncated.

If a custodian discovers a coding error or processes a valid repayment of a mistaken distribution after the original file was transmitted, they must issue a corrected Form 1099-SA. The corrected file must follow the current IRS correction procedures for its original record and supported filing channel, ensuring the IRS database aligns with the updated custodian records.