The savings game: Advantages and features of health savings accounts

There are many tax advantages associated with health savings accounts (HSAs). Consider them “health care IRAs” that can be used after retirement.

To have an HSA you must also have high-deductible insurance, which can cost more out of pocket for health care expenses, but you will have lower premiums and protection from catastrophic expenses. You will also be able to accumulate significant assets to pay for qualified health care expenses in retirement with tax-free withdrawals.

In ways, these accounts are superior to most retirement accounts. In IRA expert Ed Slott’s monthly bulletin, Ryan McKeown, CPA, CFP, summarized the advantages of HSAs.

Benefits

Your contributions to an HSA are tax deductible (AKA “above the line”) regardless of your tax status or income, meaning your adjusted income is reduced, lowering your taxable income.

Your distributions from the account are tax free if used for qualified health care expenses; and your earnings on contributions are tax-free as long as they are used for qualified health care expenses. There is no “use it or lose it “ rule ( i.e., you do not have to spend the amount annually). Even after joining Medicare, you may continue to withdraw from your account tax-free if the funds are used for qualified health care expenses. Your spouse, if named as beneficiary, automatically owns the account and has the same tax benefits as the original owner. The account is portable if you choose to roll the account to another HSA.

When you make contributions from your wages, this not only reduces your taxable wages, but it also reduces your income subject to Social Security taxes and lowers the possibility you would be subject to possible higher premiums associated with Medicare premiums for Part B and D.

If your employer offers you free matches to employer-defined-contribution plans, it pays to maximize your contributions to obtain the maximum match. But consider making HSA contributions rather than unmatched contributions to your retirement plan. Unmatched contributions to your retirement plan don’t have the tax advantages of your contributions to your HSA.

Eligibility

To be eligible for an HSA, you must be enrolled in a high-deductible health plan (HDHP) to contribute. In 2023, qualifying plans for individuals carry a minimum deductible of $3,000; the maximum out-of-pocket expense is $7,500. For family coverage, the minimum deductible is $3,000; the maximum of out-of-pocket expenses is $15,000.

You generally cannot have other health insurance (such as a FSA account); you can’t be enrolled in Medicare or Tricare; you can’t have received care from the VA within the last three months, other than preventative care, or hospital care and medical services with a service-connected disability; you can’t be an eligible dependent on someone else’s tax return.

The self-employed are eligible to establish HSAs. Under the existing tax code, self-employed individuals may deduct many health care expenses. However, certain expenses, such as deductibles and co-pays, are not deductible, but these can be paid from your HSA account. In addition, once you retire from your self-employed business, if you have established an HSA account, you will be able to pay all of your qualified health expenses from this account tax-free.

Contribution limits and penalties

In 2023, for individuals under age 55, the annual contribution limit to an HSA is $3,850; for those 55 and over, the limit is $4,850; for family coverage, under age 55, the limit is $7,750; for those 55 and over, the limit is $8,750.

If you withdraw funds from your HSA for purposes other than health care expenses, the withdrawal amount is taxable, and a 20% penalty will be assessed; after 65, there is no penalty, but the amount withdrawn is taxable. So you should try to restrict withdrawals to health care expenses only.

Bottom line: HSAs can provide you with significant tax savings. If you are eligible to establish an account, look carefully at the potential advantages for you now, and in retirement.

This article is written by Tribune Content Agency and Elliot Raphaelson from The Savings Game and was legally licensed via the Tribune Content Agency through the Industry Dive Content Marketplace. Please direct all licensing questions to legal@industrydive.com.