Combating Rising Healthcare Costs: How Health Savings Accounts Supercharge Retirement Savings

Greetings All,

As you probably know all too well, healthcare is one of the biggest expenses in retirement. Medicare doesn’t cover everything, and healthcare costs tend to increase over time. Health Savings Accounts (HSAs) were created to help put aside money for the expense of healthcare in retirement – and thanks to that sneaky risk they call inflation, HSAs can now be of even more value.

HSAs have always been a great way to accumulate a growing pool of funds that can be used for healthcare expenses later in life. With annual contribution amounts tied to the inflation rate, the increase in the annual contribution limit for 2023 was significant, increasing approximately 5.5% over the 2022 contribution limits.

These accounts allow individuals and families to accumulate savings in a “triple-tax-advantaged” way:

1.     Contributions are in pre-tax dollars, so they lower taxable income in the year they are made

2.     Accounts grow tax-free

3.     There are no taxes on withdrawals as long as they are spent on qualified expenses

So, what exactly is a Health Savings Account?

HSAs are a type of savings or investment account that allows money to be put away before taxes and then used for qualified medical expenses. These include deductibles, copayments, coinsurance, long-term care, and other healthcare costs. HSAs were created to be paired with high deductible health plans (HDHP), and this type of health care plan is required to be eligible to contribute to an HSA. An HDHP usually has a lower monthly premium in exchange for a higher annual deductible.

What Are the Benefits?

Saving in an HSA has benefits now and in retirement. Contributions can often be made through your workplace with before-tax payroll deductions. You can take a tax deduction if you choose to fund an HSA with after-tax dollars.

While you can use your HSA for current medical costs, if you don’t draw on your HSA before retirement, you create the potential to maximize the power of compounding. The account grows tax-free, and when you withdraw funds in retirement for qualified medical expenses, the funds aren’t taxed as income, like those in other tax-advantaged accounts.

While you may change jobs and health insurance providers, the HSA is your account and is unaffected.

The funds in an HSA never expire and can even be part of your estate plan.

What Are the Contribution Limits?

The contribution limits are linked to inflation, so the increase for 2023 was significant. Individuals who have self-only insurance coverage and a high-deductible health care plan can contribute up to $3,850. Family coverage is eligible for a contribution of up to $7,750. There’s also a $1,000 catch-up contribution for those 55 and older.

How Do They Work?

The list of qualified medical expenses is extensive and includes things like acupuncture, doctor visits, psychological therapy/psychiatric care, hearing aids, and prescription drugs, among other things. You’ll need to keep receipts, but the accounts are often online and may even provide you with a debit card.

Are There Any Limitations?

Just like other tax-advantaged accounts, if you don’t follow the rules, you may be hit with a tax penalty. If you withdraw funds from your HSA before age 65, either for non-medical costs or unqualified medical costs, you’ll have to pay the federal income tax on the amount and pay a 20% tax penalty.

If you are 65 or over and take out funds for non-medical or unqualified medical costs, you still have to pay the federal income tax on the amount, but you won’t get hit with the 20% tax penalty.

Why does this matter?

Health Savings Accounts are a way to save and invest money for one of the biggest expenses in retirement. The amounts you can contribute are significant, and it may make sense to consider opening an account or increasing your contribution to an existing account.

As always, please reach out if you have any questions.

Best,

CFS Team