A New Perspective on Health Savings Accounts

Even though they first became available in 2003, health savings accounts (HSAs) paired with high-deductible health plans are becoming more popular and are being offered by more employers. These accounts receive a unique triple-tax advantage, whereby contributions are made pre-tax (federal, most states and payroll taxes), can grow tax free and can be withdrawn tax free for qualified medical expenses at any time. Unspent funds aren’t forfeited at the end of each year like a health flexible spending account, so they can be accumulated and invested during your working years and spent in retirement to cover healthcare expenses.

A recent Fidelity study estimated healthcare costs for couples in retirement is $245,000, and this figure doesn’t even include the cost of long-term care. Rather than drawing down cash reserves or taking retirement account distributions to cover healthcare costs in retirement, why not accumulate and invest the funds in an HSA to spend tax free later?

So what is a high-deductible health plan paired with an HSA?

Similar to other health care plans, where you have an annual deductible that can be anywhere from $250 to $10,000, a high-deductible health plan has an annual deductible of at least $1,300 for an individual and $2,600 for a family. Contributions limits to an HSA for 2016 are $3,350 for an individual and $6,650 for a family, and those 55 or older can contribute an extra $1,000. Many employers contribute the deductible on your behalf and permit you to make contributions to reach the contribution limits. And, maximum out of pocket expenses are $6,550 for individuals and $13,100 for families. Once you reach this maximum, your health insurance provider will cover all remaining costs for the year.

You can’t make contributions to an HSA once you enroll in Medicare. However, if you’re still employed after reaching age 65 and want to stay on your employer’s health plan, you can postpone enrolling in Medicare and continue to contribute to an HSA. Keep in mind that you must enroll in Medicare within eight months after you retire and/or lose group health coverage to avoid paying any penalties.

What can the account be spent on?

The account can be spent tax free on out-of-pocket qualified medical expenses. You can also use an HSA to pay for a portion of your long-term care insurance premiums (based on your age), continuation coverage through COBRA, and Medicare premiums, except Medigap. You can’t use an HSA to pay for regular medical premiums, though, unless you’re unemployed and receiving federal/state unemployment benefits.

Investing an HSA

HSAs often have investment options similar to a 401(k). Some of these plans may carry high expenses, so be mindful of fees when reviewing options.

If not needed for health care costs in retirement, HSA funds can be used after turning age 65 for non-medical expenses; however, withdrawals will be subject to ordinary income tax. Funds withdrawn for non-medical related use before 65 are subject to a 20% penalty plus ordinary income tax. They can also be rolled over to a new employer’s HSA.

A high-deductible health plan paired with an HSA can provide the best overall value of any health insurance option, especially if invested during your working years to cover medical costs in retirement tax free.