Health savings accounts, or "HSA" for short, have been around since 2003, when President Bush improved upon medical savings accounts and flexible savings accounts. HSAs are superior compared to their predecessors because of the triple-tax-free benefits and they are not “use it or lose it.” They are becoming more and more important as our healthcare cost crisis continues, and I predict your HSA will play a significant role in the years to come.
A 2016 study by Fidelity estimates the healthcare costs for a couple starting retirement today will add up to approximately $260,000. At first glance, that might seem a little ridiculous - it did to me. Fidelity has been publishing these figures for about ten years or so and the first time I heard the number, which was over $200,000 at the time, I dismissed it. But let’s examine the numbers:
Age 65 retirement age and death at age 90
- medicare premium for him 134/mo
- medicare premium for her 134/mo
- medicare supplement for him 200/mo
- medicare supplement for her 200/mo
- that totals 668/mo plus deductibles and copay plus inflation for 25 years.
It adds up to over $200,000 from age 65 to age 90 plus deductibles and copays and that doesn’t even include inflation. And it doesn’t consider the fact that medicare is a broken system and just like social security, it faces systemic structural problems, which leads me to ask: What will happen to medicare premiums in the future?
Ok, now that we understand what we’re up against, let’s circle back to the HSA. The HSA is a bank account or investment account which can be used for medical costs, just like an IRA or 401k is designed to be used for retirement. You are eligible to contribute to an HSA as long as your high-deductible health insurance policy is HSA compliant. For a single individual, the contribution limit for 2019 is $3,500 and for a family the limit is $7,000.
We understand it makes sense to put money away for the future but what exactly are the benefits of an HSA? Why do we need to open up a special account just for medical?
The number one reason is taxes.
Health Savings Accounts Are Triple Tax-Free
The most attractive feature in my opinion is the triple tax benefit. Here’s how it works:
- Deductible – when you make a deposit to your HSA, you take the tax-deduction; just like a traditional 401k or IRA.
- Deferred growth – interest, dividends and capital gains are deferred just like a 401(k), IRA, or Roth IRA;
- Withdrawals for qualified medical expenses are tax-free, just like a Roth ira for retirement.
Nothing in our tax code can match the triple-tax-free benefit of the HSA. Not even a Roth IRA! Remember, a Roth is funded with after-tax contributions. Another important detail is that if you take withdrawals after age 65 for general retirement expenses (not medical), there are no penalties, you would just pay ordinary income taxes on your withdrawal similar to an IRA or 401(k).
HSA as Savings Account
My family has utilized an HSA for approximately 10 years since we started choosing high-deductible health insurance plans in an effort to lower our premium (these days we have a high deductible and a high premium, but we will address that problem another day). Our mindset was to fund the HSA, take the deduction, and then use the money in the HSA as we incurred medical costs. The result was that each year we would make the deposit, take the withdrawals, and at the end of the year the balance was close to zero. We were treating it as a reimbursement program. We had a health savings account. The only benefit was the tax deduction.
HSA as Investment Account
But what if we treated it like a health “investment” account? Rather than making the deposit and paying the medical expense from the HSA, we could make the deposit, invest the money in the HSA, and then pay the medical costs out-of-pocket. Over 40 years at 5%, your annual contributions could be worth $600,000! And that’s triple tax-free! A 2016 study by Fidelity estimates healthcare costs for a couple starting retirement today will add up to approximately $260,000. My guess is medical costs will continue to increase at a rate greater than inflation and I believe the best way to combat inflation is to invest. And if your health care costs in retirement end up being less than $600,000, you could use some of that money for general retirement expenses, as noted earlier. In that case, you just pay ordinary income taxes on the amount of the withdrawal, similar to an IRA or 401(k).
Take Action Now
If you already have an HSA, consider depositing the maximum allowed and invest the money to help cover your future needs. If you do not have an HSA, investigate if you’re eligible and get started today! If you are not eligible, consider how an HSA may fit into your 2019 health care plans.
For my family, we have an account set up at hsabank.com who has an arrangement with TD Ameritrade so we can have an investment account tied to our hsa bank account. They have an automatic transfer feature so the money can go back and forth.
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Peak Wealth Management is a full-service Registered Investment Advisor and financial planner in Plymouth, MI. We believe by providing education and guidance, we inspire our clients to make great decisions putting them on a path toward fulfillment and their own definition of true wealth. We believe everyone needs a financial plan and investment plan. We Inspire Success.