According to the Kaiser Family Foundation, in 2006 4% of employees nationwide were enrolled in High Deductible Health Plans (HDHP) through their employers. By 2015, that number had increased to 24% and three years from now, PwC’s Health Research Institute predicts that 44% of employers expect to offer a HDHP as their only benefit option. Given the large projected increase in HDHP enrollment, it makes sense to examine how we can best utilize the Health Savings Account (HSA) that accompany these plans.
An HSA is a tax-advantaged medical savings account available to participants in a HDHP. In 2016, if your HDHP deductible is at least $1,300 for an individual or $2,600 for a family, you can open an HSA and contribute $3,350 per year for an individual or $6,750 per year for a family. Like an IRA, if you are 55 or older a “catch up provision” of an extra $1,000 per year applies. An HSA has other benefits that are similar to a retirement plan including the following:
- A tax deduction for contributions or the ability to use pre-tax dollars to fund the account.
- Earnings and interest on assets are tax-free.
- The HSA is not a “use it or lose it” account. The assets remain in the account until you use them.
- It is portable. You can roll it over to a different HSA provider and take it with you if you leave the work force.
- Distributions are tax-free for qualified medical expenses. These are generally the same expenses that would qualify for the Medical and Dental Expense Deductions that can be found in IRS Publication 502.
- The account holder is not required to withdraw funds at a certain age although once you are enrolled in Medicare, you can no longer contribute to the HSA.
Once you have decided to open and fund an HSA, spend some time researching the providers. Compare their monthly account fees and transaction costs and determine whether or not they offer investment options. Some providers offer low-cost investment choices through mutual funds as well as an FDIC insured cash component. Next, you need to determine if you can invest some or all of the funds that are accumulating in the HSA.
Fidelity Investments estimates that an individual will need $130,000 to cover health care expenses during their retirement ($260,000 for a couple). This figure alone makes a good argument for investing at least a portion of the HSA account balance, provided you have enough cash to cover unexpected medical expenses. You don’t want to liquidate investments to cover near-term medical expenses if the market has taken a turn for the worse.
Another important reason to take the long view with your HSA; the ability to use the account to pay your Medicare premiums. Once you are retired, you can withdraw from the HSA, tax-free, to pay for Medicare Part B and Part D premiums. Additionally, you don’t need to be concerned about access to the balance in the HSA, and paying a penalty to withdraw your money, because in retirement non-health related withdrawals are treated as ordinary income without penalty.
At a minimum, the HSA is a tax-advantaged tool to pay annual medical expenses, but if it is feasible to pay medical expenses from cash flow, the funds that accumulate in the HSA can have great benefits during retirement. There are a lot of benefits to funding an HSA. Talk to your financial advisor to see if you qualify and if it’s right for you.
Nancy Blackman, CFP®