The most important thing you should know about Health Savings Accounts is that you should never write an article about them in a Microsoft Office product. It will continually change H-S- A to H-A- S and you will spend the greater part of your day cursing Bill Gates and fighting the urge to drink Jack Daniels straight from the bottle. Other than that, there are a few things about HSAs that you should know.
What is an HSA?
According to IRS Publication 969, a Health Savings Account (HSA) is “a tax-exempt trust or custodial account you set up with a qualified HSA trustee to pay or reimburse certain medical expenses you incur. You must be an eligible individual to qualify for an HSA.” As usual, the goal of the IRS is for the reader to lose interest after the third word of the first sentence. Let’s use a loose analogy and think of an HSA as an IRA to pay for health care costs. HSAs have similarities to IRAs in that both have qualification requirements and offer both tax advantages and investment options within the accounts. With an IRA, you have to meet eligibility requirements before you can set aside money pre-tax and use it for expenses (retirement) later. The IRS defines the required qualifications and limits as to how much you put aside every year. Similar to a 401k, you can take the money with you when you change employers. The same concepts apply to HSAs.
Health Savings Accounts offer tax advantages that no other investment or savings vehicle can match. Basically, HSAs combine the benefits of traditional and Roth IRAs. First, money goes in pre-tax just like a tax-deductible IRA contribution, except there are no income restrictions on tax-deductibility. HSA contributions are always tax- deductible. Next, the invested funds grow tax-free. Lastly, when you take money out of the HSA, you won’t pay tax on the distribution as long as the money is used for qualified expenses, just like a Roth IRA. Keep in mind, even though you won’t pay taxes on the distribution, you will have to report it to the IRS on Form 8889.
How Can I Qualify?
To qualify for an HSA, you must be enrolled in a high-deductible health plan (HDHP), have no other health insurance coverage except what is permitted, cannot be enrolled in Medicare or be claimed as a dependent on someone else’s tax return. Even if you are enrolled in Medicare and can no longer contribute, you can use the existing funds in your Health Savings Account to pay for out-of- pocket medical expenses. You can even use the HSA to pay premiums for Medicare Part B, D and Medicare Advantage programs. HDHP minimum deductibles are $1300 for individuals and $2600 for families and the maximum deductible and out-of- pocket expenses are $6550 for individuals and $13,100 for families.
If you are eligible, you and your employer can make contributions to the HSA. For 2017, the contribution limits are $3400 for individuals and $6750 for families. Just like with IRAs, you can make contributions to HSAs up until your tax filing deadline. Also, there is a catch-up provision allowing you to contribute an additional $1000 annually if you are 55 or over. If you are no longer working, don’t worry; you can contribute outside of a payroll deduction.
So What Makes HSAs the Holy Grail of Tax Benefits?
HSA distributions are tax-free provided they are used to pay qualified medical expenses, which include doctor’s visits, diagnostic tests, prescriptions and surgeries (non-cosmetic). Treatments such as acupuncture, eye exams and dentist visits are also considered to be qualified. Many custodians offer debit cards that can be used at the time of purchase, but the money can be used to reimburse yourself, and there is no time limit on the reimbursement as long as the expense occurred after the HSA was established. Just make sure you keep your receipts. Non-qualified expenses are things like cosmetic surgery, nutritional supplements and over-the- counter medicines for which you do not have a doctor’s prescription. If you don’t use the money for a qualified medical expense, you will have to pay taxes plus a 20% penalty on the distribution. Once you turn 65, the penalty is waived for all distributions. If the money is used for a non-qualified expense, you would pay tax on the distribution, but no penalty.
Another similarity with IRAs is that HSA money can be invested. Different custodians have different fees. New regulations require 401k plans to be more transparent about their fees, but HSAs do not have similar requirements, so it’s important to ask the custodian for their fee structure. While you are on the phone with the custodian, go ahead and ask about the available investments. Some offer platforms similar to 401k plans in that you can invest your money in mutual funds, while some only offer FDIC-insured savings accounts.
Health Savings Accounts are becoming a more popular savings vehicle for retirement. Unlike Flexible Spending Accounts, the balance in Health Savings Accounts rolls over each year and you can take the account with you when you change jobs or retire. Since health care costs are the biggest unknown in retirement planning, growing your balance within your HSA can alleviate some of the concerns you may have about paying for your health care in retirement.
If you want to learn more about how Health Savings Accounts fit into your financial plan, contact us at www.mscm.net or 214-922- 9200.