How a Health Savings Account (HSA) Can Help You Save for Retirement
According to Fidelity, the average recently retired couple (age 65) may need approximately $315,000 to cover healthcare expenses in retirement—and that’s after-tax money!
Even more daunting? The Centers for Medicare & Medicaid Services (CMS) projects that healthcare prices will climb an average of 5.4% per year through 2031—with this number likely to grow even higher for those several years away from retirement.
Fortunately, proper planning can help ensure healthcare expenses won’t derail your retirement plans. One tool to help you accomplish this is a health savings account (HSA).
What is a health savings account (HSA)?
You can use a health savings account to pay for qualified out-of-pocket healthcare costs including deductibles and copays. Eligible expenses include anything from Medicare premiums and long-term care costs to dental and vision expenses for yourself, your spouse, or eligible dependents.
HSA qualification requirements
Not everyone can open an HSA, as you must meet specific qualification requirements to do so. For example, you must be enrolled in an HSA-eligible health plan and have no other health insurance; this means that as of 2024, your health plan has a minimum annual deductible threshold of $1,600 for individuals ($3,200 for families) with out-of-pocket maximums (excluding premiums) not exceeding $8,050 for single coverage or $16,100 for family coverage.
Additional prerequisites include that you must be at least 18 years of age and cannot be enrolled in Medicare (Part A or Part B) or Medicaid, nor can you be claimed as a dependent on someone else’s tax return. Click here to review all HSA qualification requirements on the IRS website.
How a health savings account works
You can open an HSA account at any bank, credit union, or insurance company that offers one—or directly through your employer if the company offers this.
Those who move ahead with the latter option can make pre-tax contributions via payroll deductions (just like a 401k); if you live in New Jersey or California, however, these contributions will be taxed for state income tax purposes. If you open an HSA on your own, you can make deposits into the account and then claim them as deductions come tax time.
You determine the specific amount you'd like to contribute each year, provided it doesn't exceed government-mandated limits (as of 2024, $4,150 for an individual and $8,300 for family coverage); those age 55 or older can contribute an extra $1,000 above these thresholds, known as a “catch-up contribution.”
You can fund the account through a deposit, transfer, or payroll deduction and then access funds using a debit card or checks to pay for qualified out-of-pocket healthcare expenses. Even if you later become ineligible for HSA contributions, you can still use the funds in your account for qualified expenses.
How an HSA can help you save money for future healthcare expenses
For starters, health savings accounts are generally triple-tax advantaged in that you can make pre-tax contributions (or claim deductions if you make after-tax contributions), the amount in the account can grow tax-free (outside of California, New Hampshire, New Jersey, and Tennessee), and you can use the money to cover qualified expenses in the absence of taxes.
You also don’t need to spend the balance in your HSA account every year; any leftover money automatically rolls over to the next one. In fact, your HSA funds will continue to do this on an annual basis and remain in your account indefinitely until used. When you consider that current retiree households spend an average of $7,540 annually on healthcare expenses (per the U.S. Bureau of Labor Statistics), it’s easy to see why this feature helps make HSAs so appealing.
HSA fees and taxes
Know that if you contribute funds beyond the aforementioned limits, you’re on the hook for a 6% tax on these excess contributions—and that if you have an HSA through your employer, any contributions your company matches also count towards your annual limit.
You should also not contribute more than what you can afford, as any amount withdrawn for non-medical purposes is subject to both income taxes and a staggering 20% early withdrawal penalty for those under 65. Once you reach age 65, HSA withdrawals made for non-medical uses are still subject to taxes but won’t incur this consequence.
Other facts to know about health savings accounts
A health savings account is portable, meaning money in your HSA remains available for future qualified medical expenses even if you change health insurance plans, switch companies, or retire.
Anyone can contribute to your health savings account—parents, aunts, uncles, friends, or even strangers who decide to help you save for healthcare expenses!
Another benefit of an HSA is that you can invest the account balance in mutual funds, stocks, and/or other investment tools (choices vary by provider). While such investments sometimes carry additional risk, these options can also help you—over time—potentially tuck away a lot more for retirement.
When you open an HSA, the IRS will prevent you from also having a flexible spending account (FSA). However (if allowed by your employer), you can qualify for a limited purpose FSA and use this exclusively for vision and dental expenses such as cleanings, fillings, vision exams, contact lenses, lens solution/cleaner, and prescription glasses.
Finally, know that once you enroll in Medicare, you can use the money in your HSA account to pay premiums, deductibles, copays, and coinsurance for Medicare Part B, Part D, and/or Medicare Advantage plans (Medigap premiums are a different story).
In sum: how an HSA can help cover future healthcare expenses
Several tools can help you save for future healthcare expenses, and a health savings account is just one of them. If you’re eligible to open an HSA, certainly consider doing so as healthcare expenses will only continue to rise in the years to come.
Still have questions about Health Savings Accounts? Schedule a FREE discovery call with with one of our CFP® professionals.
FAQs
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You can use HSA funds to pay for deductibles, copayments, coinsurance, and other qualified medical, dental, and vision expenses: including medications, products, procedures, or programs designed to treat/prevent disease and help you stay healthy. Visit the IRS website for coverage details.
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You can generally contribute to an HSA up until the tax filing deadline (April 15, 2025 for the 2024 tax year).
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If you didn’t have a high-deductible health plan (HDHP) for the entire year, you can only contribute a portion of allowable limits; calculate your prorated contribution amount by counting the number of months you were enrolled in an HSA-eligible health plan and dividing that number by 12. Then multiply that by the total amount you could contribute if you were eligible the entire year. For example, if you were enrolled in an HSA-eligible plan for six months, take that number and divide it by 12 (that equals 0.5). As 2024 contribution limits are $4,150 for individuals and $8,300 for families, you’d be eligible to contribute half (0.5 multiplied by $4,150 or $8,300) of those amounts. There are exceptions to this general rule, however, so be sure to read the next FAQ as well…
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Also known as the “full-contribution rule” or “13-month rule,” this is an exception to the general rule above and basically determines whether you can make a full year’s contribution despite a lack of coverage for the entire year. You must be HSA-eligible on the first day of the last month of the tax year (December 1, for most taxpayers) to qualify for the entire year, but this only holds true if you stay enrolled in an HSA-eligible plan from December 1 through December 31 of the following year (the “testing period”). Should you meet the last-month rule requirement, you can make a maximum contribution for the current year. To illustrate, those who became HSA-eligible on November 1, 2024 can only contribute 2/12ths of the annual contribution limit under the general rule but can contribute the full annual amount for 2024 under the last-month rule—provided they stay HSA-eligible for the remainder of 2024/2025. Ineligible contributions become taxable income and incur a 10% penalty in the event of testing period violations.
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Providers receive ratings based on their performance under two specific use cases: 1) as a spending account used to cover imminent medical expenses and 2) as an investment account designed for long-term savings. Ratings are determined by Morningstar and published annually in Health Savings Account Landscapes reports. The evaluation process assesses providers on how well they serve these distinct purposes, giving individuals valuable insight into the best HSA providers for their current medical cost coverage or long-term savings goals needs.
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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.
Disclosures:
This document is a summary only and is not intended to provide specific advice or recommendations for any individual or business.
