How a HSA Can Elevate Your Wealth
The Lesser Known Investment Account
Roth IRAs and 401(k)s typically get all the attention when in comes to building your wealth for retirement. Brokerage accounts can likely claim the number 1 seed for non-retirement accounts but sitting alone in the corner of our fictional "investment tools party" (sounds lame, huh?) is the Health Savings Account or HSA.
HSAs have gained popularity because they are offered with many high deductible plans as a way to stash away money to be spent on eligible health expenses without paying taxes. While this is a nice benefit, this is just scratching the surface of the many benefits of these accounts.
Repeat after me. "Triple Tax Advantaged."
You read that correct. Not one. Not two. But three times tax advantaged. How?
For starters, any contributions into an HSA are not taxed, so that is one.
Two is the fact that the money in an HSA can actually be invested in securities such as bonds, stocks, mutual funds, and ETFs. You do not pay any tax on any income or gains while invested.
Our third dose of tax advantaged greatness is not paying any tax on money you withdraw to pay for eligible medical expenses. Eligible medical expenses cover an assortment of medical related costs which are summarized here.
Now that we have established why these accounts are so powerful, we must talk about the limitations. First off, to be eligible to open an HSA you must have a high deductible health plan (HDHP). Here are the stipulations for this:
- annual deductible of at least $1,500 for self-only coverage and $3,000 for family coverage
- out-of-pocket maximum does not exceed $7,500 for self-only coverage and $15,000 for family coverage
- Not be enrolled in a health plan that is not an HSA-eligible plan, such as a full purpose health care flexible spending account (FSA)
- Not enrolled in Medicare
There is also a limit on how much you can contribute to the account each year. Here are the limits for 2023:
- $3,850 for self-coverage only and
- $7,750 for family coverage
- Those 55 or older get an additional $1,000 added to these limits as a catch-up provision.
- One note is that these limits do include employer contributions (eg. if you employer contributes $500 to your self-coverage plan you would only be able to contribution $3,350 in 2023)
These limits are going up for 2024 to $4,150 for individuals and $8,300 for families. The $1,000 catch-up contribution remains the same for individuals 55 or older.
Insurance Savings From HDHP and HSA
Humans are risk averse by nature. We typically shy away from change or anything that is different. HSAs are relatively new having only been around since 2003. They have started to gain traction as time as gone on but people remain skeptical because they don't know much about them.
Health expenses are known to be expensive (my daughter had a cut on her chin that cost us a cool $1,000 to glue this year at an emergency room). This can push us to pick low deductible plans to avoid having to pay more out of pocket expenses. What you may miss is if you don't have any pre-existing conditions or known future expenses, it can be much cheaper to pay the lower premium on the high deductible plans and pay the remainder out of pocket. This can save hundreds if not thousands of dollars. Keep this in mind during open enrollment and compare the costs between the plans offered to you.
The Potent Portability of an HSA
Most people know that when you leave an employer you can take your 401(k) with you by transferring it to an IRA or moving to a new 401(k). The same is true for HSAs. If you have an employer sponsored plan with a HSA and you decide to change jobs or retire, you are able to make a seamless transition by taking it with you without having to incur any sort of penalty. You know what they say, the best availability is portability (I know, no one says that).
How To Open An HSA
If you have confirmed your eligibility for an HSA, there are several ways to open an HSA. Many employers now offer the option of opening the account directly through their insurance options. This is an attractive option as you can deduct your contributions directly from your paycheck to avoid the hassle of doing so in your tax return.
If your employer plan does not offer, you can open it through a bank or credit union where you may already have a bank account. However you do it, be sure to track your contributions to ensure you stay under the limit.
Investments in Your HSA
When it comes to investing your HSA, it can be a helpful exercise to consider your time horizon (when you will need this money to pay for medical expenses). If you are expecting a large amount of medical costs in the near-term (within 5 years), it may be appropriate to keep your investments choices to the low-risk variety. If you can afford to wait more than 5 years, a long-term strategy of diversified mutual funds and/or ETFs can be a good idea. This could allow your money to grow at a much faster rate than just keeping it in savings. Keep in mind to consider your risk tolerance and risk capacity. If either of those are low, consider a more conservative strategy.
In order to invest this money, it will mean paying out of pocket for any medical expenses you incur. This can be tough to stomach in the short term but can pay off in the long term with a diversified strategy and favorable market returns allow for tax free growth.
Retirement Benefits of the HSA
According to the Fidelity Retiree Health Care Cost Estimate, the average retired couple age 65 will need around $315,000 to cover health care expenses during retirement. If you have the good fortune to live into your elder years, you will likely need a small fortune in order to pay for your medical bills. That is a near certainty. By maxing our your HSA and investing the contents in an applicable strategy of investments, you can increase your probability of hitting this number. Better yet, it will allow you to do this without every having to pay a dime in taxes. Not even a Roth IRA can say that (as you pay the tax before contributing).
The Greatest Investment Account?
In my opinion, yes, the HSA is the best investment account that is currently available for us. Here is why:
- Unless you living in a remote cabin in the woods, you are likely to incur medical expenses in your life. If you live to old age, it will likely be a lot.
- You never pay any taxes on anything with it being triple tax advantaged. Not the contributions. Not on any growth. Not when you withdraw it (so long as it is for medical expenses).
- You can invest your contributions and allow the power of compound interest do it's thing.
- You can take it with you should you decide to leave your employer.
There you have it, my current favorite investment vehicle. Be sure to stay under the contribution limit and only use it for medical expenses and you too will see the power of having another tool in your investing tool belt.