What is a Health Savings Account (HSA)?

A Health Savings Account (HSA) is a powerful savings vehicle that can be used for qualifying medical expenses. As medical costs continue to rise, these accounts are becoming increasingly popular because of their tax benefits and growth potential. Let’s look at what makes an HSA unique and how you can qualify for one.

Health Savings Account Tax Benefits

Health Savings Accounts are one of the only accounts that can avoid taxation completely. What do I mean by that? Your contributions into the account are considered “pre-tax,” or “before tax.” The best way to do this is to contribute directly from your payroll. This will allow your contributions to avoid FICA taxes as well (Social Security and Medicare). Then, when you invest the funds, the growth of the account is tax free. Lastly, if you use the funds in the account for qualifying medical expenses, they will avoid taxation.

Here’s an example:

Let’s assume you contribute $3,000 into your HSA, invest it in the stock market, and it grows to $6,000 over the next five years. In the year of contribution, you lowered your gross income by $3,000, which would equate to around $890 in tax savings (assuming you are in the 22% tax bracket plus 7.65% for FICA tax).

Then, let’s assume you need the $6,000 for an unexpected medical expense. As long as you use the funds for a qualifying medical expense, the $6,000 withdrawal will be completely tax free. This is different from most accounts, such as a Traditional IRA. With an IRA, you have to pay taxes on the money when you pull it out of the account.

You can find a list of qualifying medical expenses here:  https://www.hsabank.com/hsabank/learning-center/irs-qualified-medical-expenses.

HSA Qualifications

IIn order to qualify for an HSA, you must be enrolled in a High Deductible Health Plan (HDHP). A high deductible health plan has higher annual deductibles than normal health plans. For 2021, the IRS defines a high deductible plan as one with at least a $1,400 deductible for individuals and $2,800 for families. The total out-of-pocket maximums for the plan year are $7,000 for individuals and $14,000 for families.

Health Savings Contibution Limits

For 2021, you can contribute $3,600 if enrolled in an individual plan and $7,200 if in a family plan. It is important to note that these limits include all contributions, such as employer matches. Therefore, if your employer contributes $1,000, you can only contribute $2,600 or $6,200 depending on your plan type.

If you are over age 55, you can contribute an extra $1,000 per year to your HSA. This is known as the “catch-up” contribution. Once you enroll in Medicare, you can no longer contribute to an HSA, but you can still use funds in the account for qualifying medical expenses.

When to Consider an HSA Health Plan

Typically, a high deductible health plan is a good choice for young, healthy individuals who rarely go to the doctor. It’s also useful for those who simply don’t incur a lot of medical costs or have the assets to cover the higher deductibles and out-of-pocket maximums. You should evaluate your own circumstances before enrolling in a high deductible plan. It may make more sense to stick with a typical health plan depending on your situation.

A Health Savings Account is a great tool to help save for future medical expenses. The tax savings and growth potential are enticing for everyone. We hope this short description will give you a better understanding of what an HSA is and how it can potentially benefit you and your family.

Before making any changes to your health insurance, you should consult your financial professional.

Sources:

https://www.irs.gov/publications/p969

https://www.healthcare.gov/glossary/health-savings-account-hsa/

Additional questions about the benefits of an HSA? Let’s talk!