CRA Rules for Health Spending Accounts: What Business Owners Must Know

By Frontier Team•February 10, 2026•4 min read

If you run a small business in Canada and use a Health Spending Account to cover medical costs, you need to make sure it follows CRA rules. A compliant HSA is 100% tax-deductible for your business and 100% tax-free for your employees. A non-compliant one can cost you both of those benefits. Here is what you need to know.

What the CRA Requires for a Valid HSA

A Health Spending Account must qualify as a Private Health Services Plan (PHSP) under the Income Tax Act. The CRA has specific requirements for this:

  • The employer must fund the plan. An HSA cannot be funded through employee payroll deductions. The business pays for it as a business expense. If employees are paying for their own coverage, the CRA does not consider it a valid PHSP.
  • Only eligible medical expenses qualify. Reimbursements must be for expenses that fall under Section 118.2 of the Income Tax Act -- things like dental, vision, prescriptions, physiotherapy, and mental health services. You can see a full breakdown in our HSA eligible expenses guide.
  • The plan must be administered by a third party. The CRA expects your HSA to operate "in the nature of insurance," which means there must be a separate administrator handling claims. Self-administering your own HSA creates a conflict of interest and puts your tax deductions at serious risk.
  • Benefit limits must be reasonable. The CRA does not set a hard dollar limit, but the amounts you set for each employee should be reasonable and defensible. Extremely high limits for owner-operators with no other employees can attract scrutiny.

The CRA "Buyer Beware" Warning

The CRA has issued public warnings about non-compliant HSA providers. Some companies market plans that do not actually meet PHSP requirements -- for example, plans that let employees fund their own accounts or that reimburse expenses the CRA does not recognize. The CRA has made it clear that using one of these providers does not protect you. The business owner is ultimately responsible for making sure the plan is compliant.

What Happens If Your HSA Is Not Compliant

If the CRA determines your HSA does not qualify as a PHSP, the consequences are straightforward and painful:

  • Reimbursements to employees become taxable income instead of tax-free benefits.
  • Your business loses the tax deduction for those payments.
  • You may face reassessments and penalties going back multiple tax years.

In short, a non-compliant HSA gives you the worst of both worlds -- you still spend the money, but you lose all the tax advantages. For more on HSA tax treatment, see our guide on whether Health Spending Accounts are taxable in Canada.

How to Stay Compliant

Staying on the right side of the CRA is not complicated if you follow a few basic rules:

  1. Use a reputable third-party administrator. This is the single most important step. A qualified administrator ensures your plan meets the "in the nature of insurance" requirement and handles claims properly.
  2. Keep proper records. Hold on to all receipts, claim forms, and plan documents for at least six years. The CRA can ask for verification at any time.
  3. Only claim eligible medical expenses. Stick to what Section 118.2 allows. If you are unsure whether something qualifies, check with your administrator before submitting it.

Keep It Simple and Compliant

You do not need to become a CRA expert to run a compliant HSA. You just need the right partner. Frontier Health handles CRA compliance for you -- from plan setup and claims processing to proper documentation and reporting. No setup fees, no long-term contracts, and every dollar is tax-deductible.

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