Health Savings Account – 7 money benefits you probably didn’t know

A Health Savings Account is a powerful tool that is more than just covering medical expenses – it is an investment vehicle unlike any other with the best tax advantages when used correctly. I approach this article with the premise that you can either have one that is offered by your employer or that you open one yourself as an individual keeping in mind you are covered by an HSA-qualified health plan, also known as a high-deductible health plan (HDHP).

Known Tax advantages

The main purpose of an HSA is to cover qualified medical expenses through the years using funds in the account with no penalties on those withdrawals. But did you know there is a unique tax advantage that separates an HSA from various forms of 401K, IRAs and 529 – it is triple tax advantaged.

What does that mean you might ask. It means, the money you contribute annually to an HSA (limits found here; 2024) is:

1. Considered pre-tax i.e. it is deducted from your ordinary income thus lowering your current year tax liability,
2. Grows tax free when invested i.e. you can pick and choose investments depending on the brokerage bank you set up your account with putting the cash you contribute to work,
3. Withdrawals and gains are tax free when used to cover qualified medical expenses.

Lesser Known Benefits

But did you know, there are four more lesser known benefits to an HSA which are truly amazing!

1. Penalty Free withdrawals after age 65 towards any non-qualified medical expense – taxed at ordinary tax rate based on your then tax bracket,
2. Retroactive reimbursement for qualified medical expenses incurred any time after the HSA was established,
3. No Required Minimum Distributions unlike traditional 401K and IRAs,
4. Unused amount rolls over tax-free to your spouse upon death.

These benefits allow one to technically pay out of pocket for medical expenses through the years (although documentation and receipt keeping on Excel/online drive are key) letting their investments grow tax-free and then cover those expenses in the future. Imagine if you left $1000 untouched and let it grow at a constant 8% (assumption) for 30 years and then withdrew it to cover a $1000 purchase from today, you’d have $9063 left over to cover other medical expenses.

Another lesser known benefit is the ability to use an HSA like a traditional IRA after 65 without Required Minimum Distribution Rules applying. You will pay taxes on your withdrawals as you ordinarily would from a traditional IRA but no penalties for non-qualified medical expenses. Realistically few would make non-qualified medical withdrawals after age 65 as rising healthcare costs will probably deplete most of your HSA but it is still a good to have ability at your disposal.

And finally, incase of an untimely death, the HSA can rollover to your spouse penalty free and will not trigger a distribution (taxable event). However, if you name your children, siblings, relatives or estate as a beneficiary, funds left after covering your qualified medical expenses in that year + past will be distributed and taxed as ordinary income to the beneficiary thus potentially increasing their tax liability for that year. Please consult with a certified tax professional to better understand what that liability could look like.

Conclusion

Knowing these unique benefits to HSAs, they can be a powerful tool in both financial planning but also retirement planning as they are more than just an account to take deductions against on your current medical expenses. However, an HSA isn’t for everyone. If you have medical conditions that constantly require trips to the hospital or are anticipating child births or a list of upcoming medical expenses, a low deductible health plan might be a better fit. I strongly advise anyone deciding between a HDHP/HSA vs a low-deductible health insurance to speak with a certified financial planner to do what’s best for you and your financial situation. This article is intended for educational purposes and not legal or financial advice.