Wednesday, November 25, 2020

A Rare Triple Play: The Health Savings Account (HSA)

Business owners, self-employed professionals and anyone else who has the flexibility to choose between a variety of health insurance plans might consider enrolling in a High-Deductible Health Plan (HDHP) that is compatible with a Health Savings Account (HSA).

A health savings account is a powerful tax savings and retirement tool

Small Moves Add Up Over Time

Optimal management of your finances involves not only doing the big things right, but also doing many small things right as well. Lots of small things done well consistently can compound into a massive improvement over time. One of these small things might be setting up and funding an HSA for yourself.

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With Open Enrollment for 2021 health insurance now under way, many are considering whether to enroll in an HSA-compatible health insurance plan so they can take advantage of the significant tax benefits of an HSA. (HSAs are permitted only for those enrolled in HSA-compatible HDHPs.)

HSAs Offer Formidable Benefits

We view HSAs as very powerful accounts because they offer the following triple-play of tax advantages that no other type of account can match:

  1. HSA contributions are fully tax deductible. 2021 contribution limits are $3,600 for individuals and $7,200 for families.
  2. HSA account assets grow tax-free.
  3. HSA distributions used for qualified medical expenses are also tax-free.

These tax attributes of HSAs make them, dollar-for-dollar, the most powerful retirement savings vehicles, ahead of Roth IRAs (for which contributions are made post-tax) and IRAs and 401(k)s (from which distributions are taxed).

Build A Nest Egg For The Future

Many people use their HSA funds to pay for current-year medical expenses. We think HSA owners should make the maximum contribution each year, however—then consider covering their medical expenses with funds from outside their HSAs. This way, their HSA assets can be retained in their powerful HSA accounts and invested for the distant future. And by contributing regularly to an HSA each year, HSA owners will not only reduce their current-year tax bills, but also build a handy account that they can tap, tax-free, for medical expenses during retirement.

People using HSAs as savings/investment vehicles should note the following:

  • First, withdrawals are only tax-free if used for qualified medical expenses.
  • Second, many HSA custodians levy fees on transactions, so costs can add up.
  • Third, the penalty for withdrawals not used for healthcare expenses prior to age 65 is 20% versus a 10% penalty on IRA withdrawals prior to age 59 1/2. Withdrawals would also be taxed as ordinary income.

As always, when it comes to making financial moves, what’s right for one person’s situation may not be right for someone else. However, using an HSA as an investment vehicle, given its trio of tax advantages, is certainly worth considering.

If you would like to see if we can help you with your situation, schedule a call with us:

 

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