How a Health Savings Account (HSA) Can Help You Save for Retirement

According to Fidelity, an average retired couple (age 65) in 2022 may need approximately $315,000 to cover healthcare expenses in retirement—and that’s after-tax money!

Even more daunting is that the Centers for Medicare & Medicaid Services projects that healthcare prices will grow at an annual rate of 2.5% over the next decade due to healthcare inflation and increased longevity. Therefore, if your retirement is still a few years away, this number will likely grow significantly by the time you get there.

Fortunately, with proper planning, you can ensure healthcare expenses won’t derail your retirement plans. One tool to help you accomplish this is a health savings account (HSA).

A health savings account, defined

A health savings account is a type of savings account you can use to pay for qualified out-of-pocket healthcare expenses, including deductibles and copays. Eligible expenses include anything from Medicare premiums and long-term care costs to dental and vision expenses for yourself, your spouse, or eligible dependents.

HSA qualification requirements

Not everyone can open an HSA, as you must meet specific qualification requirements. For example, you must be 18 years of age or older and maintain a high-deductible health plan as your only insurance. A high-deductible plan—as of 2022—means your health plan has a minimum annual deductible threshold of $1,400 for individuals (or $2,800 for families). Additional prerequisites include that you cannot be enrolled in Medicare (Part A or Part B) or Medicaid to contribute to an HSA, nor can you be claimed as a dependent on anybody else’s tax return. Click here to review all qualification requirements on the IRS website.

How a health savings account works

You can open an HSA account at any bank, credit union, or insurance company offering one. If your employer offers an HSA, you can open an account directly through them.

If you open an HSA through your employer, you can make pre-tax contributions through payroll deductions (just like a 401k). If you open an HSA on your own, you can make deposits into the account and then claim them as tax deductions come tax time. The only exception is that if you live in New Jersey or California and make payroll deductions with your employer, your contributions will be taxed for state income tax purposes.

Every year, you determine the specific amount you'd like to contribute—provided that amount doesn't exceed government-mandated limits (as of 2022, $3,650 for an individual and $7,300 for family coverage). If you’re age 55 or older, you can contribute an extra $1,000 above these thresholds.

You can fund the account through a deposit, transfer, or payroll deduction and then access funds to cover qualified medical expenses using a debit card or checks to pay for qualified out-of-pocket healthcare expenses. Even if you later become ineligible for HSA contributions, you can still use the funds in your account to pay for qualified expenses.

How an HSA can help cover future healthcare expenses

For starters, health savings accounts are generally triple-tax advantaged in that you can make pre-tax contributions (or claim tax deductions if you make after-tax contributions), the amount in the account can grow tax-free (other than in California, New Hampshire, New Jersey, and Tennessee), and you can use the money to cover qualified expenses in the absence of taxes.

You also don’t need to spend the balance in your HSA account every year; any leftover money automatically rolls over to the next one. In fact, your HSA funds will continue to do this on an annual basis and remain in your account indefinitely until used. When you consider that current retiree households spend almost $7,000 a year on healthcare expenses (according to the U.S. Bureau of Labor Statistics), it’s easy to see why this feature helps make HSAs so appealing.

HSA fees and taxes

Know that if you contribute funds beyond the aforementioned limits, you’re on the hook for a 6% tax on these excess contributions—and that if you have an HSA through your employer, any contributions your employer matches also count towards your annual limits.

You should also not contribute more than what you can afford. That’s because if you’re under 65, any amount you withdraw for non-medical purposes will be subject to both income taxes and a staggering 20% early withdrawal penalty. After age 65, any HSA withdrawals made for non-medical uses are still subject to taxes but won’t incur this consequence.

Other facts to know about health savings accounts

A health savings account is portable, meaning that money in your HSA remains available for future qualified medical expenses even if you change health insurance plans, work for a different employer, or retire.

Anyone can contribute to your health savings account—including your parents, aunts, uncles, friends, or even strangers who decide to help you save for healthcare expenses!

Another benefit of an HSA is that you can invest the account balance in mutual funds, stocks, and/or other investment tools (choices vary by provider). While such investments can carry additional risk, these options can also help you—over time—potentially tuck away a lot more for retirement.

When you open an HSA, the IRS will prevent you from also having a flexible spending account (FSA). However, if your employer allows this, you can qualify for a limited purpose FSA and in turn use this exclusively for vision and dental expenses such as dental cleanings, fillings, vision exams, contact lenses, lens solution/cleaner, and prescription glasses.

In sum: how an HSA can help cover future healthcare expenses

Several tools can help you save for future healthcare expenses, and a health savings account is just one of them. However, if you’re eligible to open an HSA, you should certainly consider doing so since healthcare expenses will only continue to rise as time marches on.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and is not intended to provide specific advice or recommendations for any individual or business.