“In this world nothing can be said to be certain, except death and taxes.” Benjamin Franklin obviously did not have a Health Savings Account (HSA). There are few gems in the tax code like the HSA. We’ll cover the basics first, but a little further down, I’m going to offer an idea that could really benefit you long-term. Contributions to an HSA can be made on a tax-deductible basis, earnings accrue tax-deferred, and distributions can be made tax-free! Even more, there are no income limits to receive all these benefits. The only caveat is that you must be participating in a High Deductible Health Plan (HDHP).
The IRS defines a high deductible health plan as any plan with a deductible of at least $1,300 for an individual or $2,600 for a family. An HDHP’s total yearly out-of-pocket expenses (including deductibles, copayments, and coinsurance) can’t be more than $6,550 for an individual or $13,100 for a family. (This limit doesn’t apply to out-of-network services) If you participate in a high deductible health plan, then you can make a contribution to an HSA, and have until April 15th of next year to do so.
The HSA does have contribution limits. For 2017, those limits are up to $3,400 for individuals and $6,750 for families. If you are 55 or older, you can make “catch-up” contributions, meaning you can deposit an additional $1,000 per year. If your spouse is also 55 or older, he or she may establish a separate HSA and make a “catch-up” contribution to that account. These limits include any money that an employer may contribute as well so if they put $2,000 in on your behalf, your deductible contributions are reduced by that same amount. These limits are set to increase for 2018.
Now for some long-term planning. Many people make their annual contributions, go to the doctor, then withdraw the money (typically using a debit card) and pay for their care. That’s the idea, right? Yes, this was beneficial as you have paid for your healthcare costs on a tax deductible basis. However, there are some relatively unknown advantages to HSA’s that may allow you to reap an even greater benefit. For example, did you know that you even though the money is set aside today, it could be left in the HSA to maximize the compound growth effect over years? Then, during retirement, it could be withdrawn tax-free….after years of compound growth!
If you can organize a filing system and retain receipts for past medical costs you paid out of pocket since establishing the HSA, you can file for reimbursement in retirement. Doing this will allow you to supplement your retirement income tax-free in years in which tapping other accounts would push you into a higher tax bracket or expose you to higher Medicare premiums. For example, imagine you have retained receipts related to out of pocket medical expenses (while covered under an HDHP) that have not been reimbursed and those receipts total $20,000. Further imagine that you are in your 5th year of retirement and have an unexpected expense of $20,000 and don’t want to add to your taxable income by withdrawing the assets from your IRA. No problem, take a $20,000 distribution from your HSA and include those medical receipts in your tax file for the year. Voila!
This works if you are willing to pay for your medical costs with other dollars and if you have an HSA account with good long-term investment options. If the latter is not present, you do have the option of opening another HSA at an institution of your choice that supports them. Your employer likely only will contribute (any money they put in plus your payroll deducted portion) to the administrator they have chosen, but you can periodically just transfer that balance to the one you have chosen. I commonly refer my clients to Health Savings Administrators as they have a lineup of Vanguard funds that can be used to invest contributions for the long-term. For what it’s worth, they also have a debit card option if needed.
The compound effect on earnings could be substantial. In my opinion, this is an opportunity worth pursuing, which is why I do it myself. For me, it was a no-brainer, or WealthAdviceMadeSimple.