HSAs were designed to help make healthcare more affordable and give people more freedom in their personal healthcare decisions. However, due to tax advantages, friendly contribution options, and investment opportunities, more people are looking to their HSAs in retirement. Here’s what you need to know about your HSA and retirement.
Health Savings Accounts (HSAs) offer a convenient and effective financial tool for helping individuals and families cover the high costs of healthcare deductibles and other out of pocket expenses. However, because HSAs offer several tax advantages, they can also be used to supplement retirement accounts.
An HSA works somewhat like a Flexible Spending Account (FSA) in that participants make pre-tax (or tax-deductible) contributions into the account. If the HSA is provided by the employer, the deductions are spread out evenly and come directly from each paycheck. The money in the account can then be withdrawn at any time to pay for eligible healthcare expenses. Only those with a high-deductible healthcare insurance plan – deductibles of at least $1,300 for individuals and at least $2,600 for families – qualify for an HSA.
HSA and Retirement
Ultimately, an HSA acts more like an IRA or 401k retirement account. Unlike some types of FSAs, any money left in an HSA at the end of the year is not lost. Instead, it automatically carries over and continues to grow tax-free until the participant withdraws it. For HSA owners age 65 and older, any money withdrawn from the account for non-medical expenses gets taxed at the participant’s current tax rate. Participants under age 65 incur a 20% penalty for this type of withdrawal.
Even for a major medical expense, HSAs offer an advantage over traditional retirement accounts. Imagine that you incur a hefty bill for knee replacement surgery. Instead of withdrawing money from an IRA or 401k to cover it and paying taxes (or penalties), HSA funds can cover those costs tax-free.
Tax Advantages Help HSA Money Grow
HSAs offer three distinct tax advantages that benefit growing retirement accounts:
- Tax deductible. All funds deposited into an HSA account are pre-tax, which lowers the participant’s total taxable income.
- Tax-free. As long as they are used to pay medical expenses, HSA withdrawals are not taxed. Interest earned and investment gains are also tax-free.
- Tax deferred. Any unused money in an HSA account grows tax-free, with all taxes deferred until the participant withdraws the money at age 65 or older. The money is then taxed (when used for a non-qualified expense), usually at a lower rate.
Similar to retirement accounts, HSAs have annual maximum contribution limits. In 2017, the limits are $3,400 for individuals and $6,750 for families. If a participant can’t afford to contribute the maximum amount, HSAs allow spouses, parents, and friends to make contributions. Employers who offer HSA plans are also allowed to make matching contributions.
Another boon for those approaching retirement age are ‘catch-up’ contributions. At age 55, HSA owners can begin making additional contributions, over the annual limit, to their accounts. As long as you have a qualified high-deductible health care plan (deductibles of $1,300 or $2,600, as described above), you can add an extra $1,000 to your HSA. This raises the total annual contribution limit to $4,350 for individuals and $7,750 for families.
Investing Your HSA Funds
While HSA accounts act like a basic savings account, paying minimal interest, they also allow you to invest the money in mutual funds for greater returns. HSA providers usually require a minimum account balance (some as low as $1,000) in order to qualify. Once you save enough to meet the threshold, investing your HSA savings in a mutual fund account offers an effective way to add to your retirement savings.
For healthy people with minimal healthcare costs and who invest the unused money wisely, HSAs offer a safe and tax-effective tool for creating a larger retirement nest egg. Your HSA and retirement go hand-in-hand, no matter how you use it.