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May 8, 2018

HSAs: A Compelling Way to Save for Healthcare Costs in Retirement

401k advisor annapolis in maryland at SCM

HSAs: A Compelling Way to Save for Healthcare Costs in Retirement

By Gregory S. Ostrowski, Managing Partner, CERTIFIED FINANCIAL PLANNER®, CRPC®,  Scarborough Capital Management 

reduce your tax bill with an HSA
You HSA could allow you to reduce your tax bill while putting money aside for future health care expenses.

One of the most common questions we get is, “how do I prepare for my healthcare costs in retirement?”

And one of the best answers just might be three little letters: HSA.

Health Savings Accounts (HSAs) can be useful tools when it comes to paying for healthcare costs, because they are specially designed to lighten your tax burden in three different ways. Money goes in on a tax-deductible basis, grows on a tax-deferred basis, and can be spent tax-free as well—so long as it’s spent on qualified medical expenses (including Medicare premiums).

This gives them an advantage over other forms of retirement planning accounts—not even your IRA account lets you save this much on taxes. The only catch is that your HSA account must be used for qualifying expenses—namely, healthcare. But, according to our research, the average retiring couple will need at least $200,000 saved up for medical care in retirement. That’s a lot of cash—and it doesn’t even include the costs of long-term care.

If you’re going to need that much money just for medical costs, you may want to consider a dedicated account for it. Choosing an HSA as your dedicated account for future healthcare costs could make sense under the right circumstances. An HSA may even help you save on your current taxes.

The Basics of an HSA

In the simplest of terms, an HSA works like a savings account. You put money in, and you take it out when you need it. But there are very specific rules that must be followed, around how that money is spent that make an HSA different.  Adhering to those rules allows for tax breaks that may make an HSA another way to save for future healthcare costs.

Here’s what you need to know:

  1. You own the account, and the funds don’t expire.
    1. There’s no “use it or lose it” provision with an HSA, so your funds won’t disappear if you don’t touch them. You can even keep the funds if you change employment—once the money is in your HSA, it’s yours. It is important to note, however, that some accounts have maintenance fees that can add up over time.
  2. Contributions are limited.
    1. Like all good things, there’s a limit to how much you can contribute to your HSA each year. These limits change from year to year, so do your research before making any big financial plans.
  3. They’re the only account to offer triple savings on taxes.
    1. Money contributed to an HSA is tax deductible. It grows tax-deferred. And it comes out tax free, as long as it’s spent on qualified medical expenses1. This may save you 30% or more on every dollar you put in.2
  4. Misuse the funds, and you will be penalized.
    1. If you’re under 65, you will be subjected to a penalty for using your HSA funds for anything other than qualified medical expenses. The amount you withdraw will be subject to income tax and may be subject to an additional 20% tax. Be sure to review the rules and regulations of your HSA, and contact your tax professional with questions.
    2. Regardless of age, withdrawals will be subject to taxes if not used for eligible medical expenses.
  5. You must meet the requirements to enroll.
    1. You are covered under a high deductible health plan (HDHP), on the first day of the month.
    2. You are enrolled in only in that HDHP plan.
    3. You cannot be enrolled in Medicare.
    4. You cannot be claimed as a dependent on someone else’s taxes.

If you meet the above requirements, you’re good to go! And, like all savings accounts, the earlier you get started, the better off you are.

Getting the Most out of Your HSA

Now that you know the basics, let’s talk a little about the details around your HSA.

First and foremost, being enrolled in an HSA-compatible health plan means having a high deductible. If you tend to spend a lot on medical expenses to begin with, you may be better off with a different type of plan (if your employer offers one). One unlucky medical event, or even a lucky but expensive one like the birth of a child, and thousands of dollars could vanish from your HSA to cover your deductible.

That being said, an HSA may be a good plan option for younger, healthy individuals who don’t usually spend a lot of time (or money) at the doctor’s office. That’s because the costs of the plan tend to be low, and most employers offer some sort of contribution matching. All of this means you won’t be paying for a health insurance plan you won’t likely use, as you would under a traditional plan; you’ll be contributing to a savings account that can pay off down the road, when you need it most.

HSAs also offer a nifty tax benefit—since the money you contribute to an HSA is tax-deductible, you may be able use your HSA to reduce your taxable income and get into a lower tax bracket if you’re on the cusp. This could be a benefit, if you qualify, so be sure you take advantage of it if it makes sense for your individual situation.

A Priority for Retirement Saving

While an HSA should by no means be your only way to save for retirement—it can be, after all, an effective option for covering medical expenses—it should definitely be an option you consider as part of your retirement portfolio.

When used properly, and for those who qualify, no other savings account is as tax efficient as an HSA. That makes these accounts a valuable way to maximize your current income for future expenses. If you think an HSA might be right for you, get in touch with a professional today and see how it fits into your personal retirement plan.

 

 

1 For detailed information on HSAs and qualified medical expenses see: https://www.irs.gov/publications/p969#en_US_2017_publink1000204046

2 There are no federal taxes on HSA contributions, but some states will tax them. Consult with an expert to know all the details before starting your HSA. SCM does not provide tax or legal advice.

 

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