This Under-the-Radar Account Can Help You Save for Medical Expenses in Retirement
Fall is open enrollment season, and hidden in the fine print of your health insurance options may be an account that can help you save for one of the biggest expenses you'll face in retirement: medical costs.
Known as a Health Savings Account (HSA), this tool, offered in combination with high-deductible health insurance plans, is triple tax exempt. That means it allows you to make tax-deductible contributions, accrue tax-free earnings, and make tax-free withdrawals for qualified medical expenses. If you’re over age 65, you can use the funds for any non-medical reason without incurring the 20% penalty younger users would, though you’ll still have to pay income tax on that sum.
With health care costs rising more than twice as quickly as the rate of inflation and a 65-year-old couple retiring this year projected to spend $285,000 on medical expenses throughout retirement, not using an HSA could be a costly missed opportunity, especially if you don’t have to fund it all yourself.
Yet more than half of all those who are eligible to open an HSA through work don't do so. A survey conducted by benefits advisory firm Willis Towers Watson last year found that it had little to do with the mechanics of opening, using or maintaining the account. Rather, 57% of workers who were offered an HSA didn't enroll because they didn’t see the benefit or understand HSAs, the survey found.
“There is a lack of understanding about HSAs even among financially astute people,” says David Speier, managing director of benefits accounts at Willis Towers Watson. “They don’t know about its triple tax advantages and have become so accustomed to flexible spending accounts that they think HSAs work the same and they have to use the money in their account or lose it.” This isn't the case--the funds in your HSA never expire. While you can't contribute to an HSA once enrolled in Medicare, you can use whatever funds remain in your HSA to pay your Medicare premiums, among many other qualifying medical expenses in retirement.
To help clarify, Money’s put together a handy guide that breaks down everything you need to know about HSAs so that you don’t miss out on any more potential tax-savings or free money from your work.
Who can open an HSA
The first thing you need to check is whether your health insurance plan can be paired with an HSA.
For most of us, this step will be pretty obvious, as high-deductible health insurance plans that offer HSAs usually include it in the plan's name. But if it's unclear or you’re uncertain, call your insurer and ask. Don’t try to make that determination on your own, advises Roy Ramthun, president and founder of HSA Consulting Services.
Plans that qualify must offer a minimum annual deductible of $1,350 for individuals or $2,700 for families, as well as a maximum annual deductible of $6,750 for individuals and $13,500 for families, according to the IRS.
High deductible plans typically come with lower monthly premiums than standard deductible plans. The trade-off is that you're on the hook for more of your medical expenses, since you have to clear a higher deductible before your insurance kicks in and starts to cover them. HSAs help ease that burden through their triple tax benefits.
And thanks to a rule change the IRS announced this summer, people with chronic conditions can have more of their expenses met before they reach their high deductible: a range of medical services and prescription drugs for chronic conditions, like beta-blockers for congestive heart failure and insulin for diabetes, have been added to the list of preventive care benefits that can be provided by high-deductible plans before the deductible.
You can't have any other health insurance plan such as a PPO or HMO, be enrolled in Medicare, or be claimed as a dependent on someone else’s tax return, if you want to open an HSA. Those on high-deductible health plans with a flexible spending account or health reimbursement arrangement typically can't contribute to an HSA either.
It’s important that you verify your eligibility and open an HSA as soon as you enroll in a qualifying high-deductible plan, as any medical expenses you incur before opening the account will not be reimbursable, even if you were on an eligible health insurance plan at that time, says Paul Fronstin, director of the Employee Benefit Research Institute’s health research and education program.
Even if you don’t think you have money free to contribute to another savings account, Fronstin still recommends going ahead and opening an HSA.
“Even if you can’t build up a balance in your HSA account, you can at least get tax benefits from making contributions,” says Fronstin. “Using it for immediate medical costs gives you the ability to pay those bills on a pre-tax basis, it reduces your taxable income, and if you make contributions through your paycheck, you can get FICA wage tax breaks.” FICA is a federal payroll tax that goes to supporting Social Security and Medicare.
Where to open your HSA
Those with health insurance coverage through the workplace have it easy. Typically, you just need to indicate to your employer that you want to open an HSA to get started, since most companies that offer such high-deductible health plans have already selected an HSA-provider to help manage employee accounts. This is especially true if your workplace contributes to your HSA. Investment solutions and research firm Devenir found that companies put, on average, $839 into each of their workers’ accounts in 2018. That’s like receiving a tax-free bonus. Devenir also found that more than 26% of all money contributed to an HSA in 2018 came from an employer
If you're self-employed, bought insurance through a health insurance marketplace, or don’t have access to an HSA through your employer, don’t worry: You can still have an HSA. You just need to set one up on your own with any of the dozens of financial institutions that offer them. Your priorities can help dictate which provider you choose.
If, like the majority of Americans, you’ll be spending your HSA money on current health care needs, account maintenance fees should be your top concern--though easy online bill pay and access to a debit card may also be important to you, Ramthun says.
If you plan to be one of the 8% of Americans who are saving their HSA funds for retirement, then you should put more emphasis on picking a provider that will allow you to use the savings account as an investment vehicle, meaning it has solid investment choices with low underlying managers fees and investment fund fees.
An analysis by Morningstar of the 10 largest HSA-plan providers found Alliant Credit Union to be the best option for those using their HSA to pay current medical bills, while HealthEquity was best for those looking to invest HSA savings. But you can do your own comparison based on whatever criteria you deem most important using a search tool by Devenir that sorts through 580 plan providers. If you decide to switch providers at any point, you can do so without incurring a tax penalty.
“You have flexibility with where you keep your money. You can move it to a different HSA provider, but you might have to pay a transfer fee, so you don’t want to make such transfers often,” Fronstin says. If your employer contributes to your account, it's a smart idea to leave an HSA open with the provider they’ve chosen so you don’t miss out on receiving such payments, and then move the funds once a year into your preferred HSA, he adds.
How to use an HSA
This year you can put up to $3,500 in your HSA if you have individual coverage or up to $7,000 if you have family coverage. Those age 55 and older can contribute an additional $1,000 per year.
Most people whose account is tied to an employer-provided health insurance plan opt to have their company direct a portion of each paycheck into the account. But contributions don’t need to come from a paycheck or be spread out over the year. It can be done as one lump sum too; just be sure to contribute before the April tax deadline if you want the tax deduction to count for the prior calendar year, Ramthun says.
Once the money is in the account, it is yours forever. You can keep it there as long as you like and repay yourself at anytime for eligible medical expenses incurred after establishing the account. If you have family coverage, your HSA can be tapped to pay a spouse or child’s medical bills too. It can even be used to pay for healthcare costs you rack up while on a non-high-deductible health plan in the future.
“There is no limit or deadline for reimbursing yourself, but the No. 1 thing you need to do is keep records,” says Ramthun. “Keep copies of all your bills, receipts, and credit card statements. You want them as proof that you did incur an actual expense and didn’t claim a reimbursement from the HSA already.”
Stockpile enough of these previous medical expenses, and the HSA can be a lifeline when you’re hard-pressed for cash or facing a rainy day.
This story has been updated to include information about Medicare enrollment and HSA eligibility.