HSAs (Health Savings Accounts) coupled with High-Deductible Health Plans (HDHPs) – just alphabet soup, or a winning combination for ensuring your financial security? Definitely, the latter!
More and more Americans are signing up for HSAs, and the reasons for this are varied. First, HSAs are (by definition) tied to HDHPs, which have lower premiums than many of the options available to individuals in this post-Obamacare market. At HSA for America, my team and I talk to a lot of people every day about their health coverage. Our clients and prospects who don’t qualify for a premium tax-credit subsidy to help with the cost of insurance premiums tell us that their premiums continue to go up every year. They’re looking for creative ways to lower their monthly health insurance bills, and a HDHP helps them do that.
But the unique beauty of a HDHP with an HSA is this: not only do you typically get lower premiums, you also get tax advantages that no other investment instrument can offer you. What are they?
- Contributions to your HSA are deductible from the top line of your tax return, meaning they are not subject to federal (and in many cases, state) income tax.
- The funds in your HSA grow tax free, year after year. And unlike Flexible Spending Accounts (FSAs), you retain the funds in your HSA at the end of the year.
- You can deduct the funds in your HSA to pay for qualified medical expenses tax-free.
So, the question for a lot of people becomes this: how do I best use the funds in my HSA? Do I deduct money for medical expenses as I need it, or do I leave the funds there, growing every year, for use in retirement?
Most investment experts feel that leaving the funds to grow is the best strategy. If you can pay your medical expenses that aren’t covered by your insurance plan out of your pocket now, you can use the money in your HSA when you’re retired. Why is this advantageous?
- People tend to underestimate the amount of money they’ll need in retirement for medical expenses, so it makes sense to leave your HSA funds alone now so that they’ll be there when you need them most.
- The longer you leave the funds in your HSA while you’re contributing to it, the bigger your balance will be in retirement, when you need them. That’s the magic of compounding interest.
- If you withdraw HSA funds prior to age 65 for any reason other than a qualified medical expense, you’ll pay 20% of what you withdraw as a penalty.
When you need the HSA funds for qualified medical expenses, they won’t be subject to taxes, unlike the other retirement funds you may have.