What does a health plan have to do with your retirement plan? A lot
When it comes to planning for retirement, there’s a powerful tool that you might not know about. It’s called a health savings account (HSA), and it has some unique features to help you sock away more money.
The Scoop on HSAs
HSAs were introduced in 2003 to help people with high-deductible health plans (HDHPs) pay for healthcare. HDHPs have lower monthly premiums than other types of insurance plans, but higher deductibles and out-of-pocket costs. For example, in 2019 for plans to qualify as an HDHP, the minimum annual deductible for individuals is $1,350; $2,700 for families. (For 2020, the deductibles change to $1,400 for individuals; $2,800 for a family.) Many people who opt for an HDHP are generally healthy but want the peace of mind of knowing that they’ll have coverage in the case of a medical emergency or unexpected diagnosis.
HSAs are unique in the world of health plans because they allow for tax savings. An HSA lets you contribute money to a special savings account, tax-free, and then withdraw it later, also without a tax penalty, to pay for eligible medical expenses like doctor visits, lab work, prescriptions, eyeglasses, and trips to the dentist.
Plus, there's no yearly "use it or lose it" rule with an HSA, as there is with a flexible spending account (FSA). Your HSA funds remain available to you year after year until you spend them.
A Close Look at the Numbers
In 2019, for example, individuals were able to contribute up to $3,500 per year to an HSA for self-only coverage and $7,000 for family coverage. This is usually done as a pretax payroll deduction, which means the money gets taken out of your gross pay, which reduces your taxable income.
But any non-payroll HSA contributions you make on your own are tax deductible too—you just have to claim them on your tax return. And starting the year you turn 55, you can also make catchup HSA contributions, up to an additional $1,000 per year.
Where the Retirement Advantage Kicks In
An HSA can help you stay on top of your medical bills right now. But you can also use it to build wealth, says Roy Ramthun, a health care and public policy expert and the founder and president of HSA Consulting Services.
You're allowed to invest your HSA funds in stocks, bonds, mutual funds, and the like, and any money you make from investing isn't taxed. So if you can afford to pay for your healthcare costs another way, you can treat your HSA as an untouchable nest egg and let it grow for as long as possible. That's Ramthun's strategy. "I've had an HSA for 14 years, and I’ve never taken a withdrawal," he says.
You're going to be spending a lot on health care when you retire, so having a nest egg will be a huge relief. "The projections I’ve seen are that couples are going to need around $300,000 for their health care expenses in their retirement years. And that’s after what Medicare covers," says Ramthun.
Being able to pay for these costs with your HSA will save you a significant amount of money. Here's why: If you dip into another type of retirement account, like an IRA (individual retirement account), you pay taxes when you withdraw the funds. Say you have a $1,000 hospital bill. If you pay for it with an IRA, you'll need to take out about $1,250 to cover both the bill and the tax hit. But you're not taxed if you use your HSA funds for eligible medical expenses, so you'd only need to withdraw $1,000 to pay the bill.
Other HSA Perks for the Plus Column
By the way, there's no deadline for submitting a reimbursement claim, so you can hang on to your health care receipts and wait to withdraw funds until it makes the most financial sense to do so.
What’s more, most retirement accounts require you to start taking minimum distributions—which are mandatory yearly withdrawals—when you reach age 70.5. That's not the case with an HSA.
"You can continue to leave the money in your HSA if you want; you don't have to take it out," Ramthun says. Here's why that's beneficial in retirement: Taking distributions from a retirement plan can bump up your monthly income to a higher bracket, which can make your Medicare premiums go up, Ramthun explains. Speaking of Medicare, once you're on it, you'll no longer be allowed to add more pretax dollars to your HSA. But you'll always have access to the money that's already in the account.
What happens if you decide to use your HSA funds for something other than healthcare costs? You'll pay income tax on the money, plus a 20 percent penalty. But after age 65, that 20 percent penalty goes away, and you'll just have to pay income taxes on the withdrawal, making it very similar to an IRA, Ramthun explains.
Next Steps
If you're interested in opening an HSA account, keep in mind that not all high-deductible plans are HSA-eligible. So the first step is to check with your employer or insurance company to confirm that you qualify. Some health plans offer HSAs for their high-deductible plans, but you can also open one through some banks and other financial companies.
If you do qualify, Ramthun suggests that you put as much into it as you can. If your employer matches your 401(k) contributions, start there, because "that's free money," he says. "But once you've maxed out your employer’s matching dollars, the rest of your money should first go into the HSA until you’ve hit your maximum, and then to your other [savings and retirement] accounts."
The bottom line: An HSA can help you build wealth and feel more secure in retirement, so don't overlook it as part of your planning.
