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The HSA – A Valuable Retirement Planning Tool

Employees may know that a health savings account (HSA) is a helpful way to pay for qualified medical expenses. What employees may not know is that an HSA offers benefits that go beyond this feature. An HSA can be used as a long-term savings vehicle to help boost retirement savings in a tax-efficient way and serve as a powerful complement to an employer-sponsored retirement plan or IRA. While each account type serves different purposes, together they can be valuable tools to maximize participants’ income in retirement.

Triple Tax Advantage

What really sets the HSA apart is its triple tax advantages:

  • Withdrawals for qualified medical expenses are tax-free.
  • Contributions to an HSA are pre-tax if made through payroll deductions, lowering overall taxable income, or may be tax-deducible if made outside an employer plan.
  • Any interest earnings and investment growth are tax-free.

An HSA Overview

To open an HSA, an employee must be enrolled in a high-deductible health plan, not covered by another health plan, and not enrolled in Medicare. Employees can contribute money to their account through an automatic payroll deduction or as a tax-deductible contribution.

  • 2024’s maximum HSA contribution limit is $4,150 for an individual and $8,300 for a family.
  • Those over age 55 can contribute an extra $1,000.
  • Employer contributions aren’t included in income for tax purposes.

HSA account owners can invest their money, similar to a 401(k) plan or an IRA in order to potentially grow these assets over time.

The Ins and Outs of Distributions

Distributions from an HSA that are used to pay qualified medical expenses are not taxed and an account owner can reimburse themselves for expenses years after they occurred. While there is no time limit on reimbursement, detailed expense records must be kept, and an account owner may not reimburse themselves for expenses incurred before opening the HSA. After an account owner turns 65, they can also use their HSA funds for non-qualified medical expenses. While the account owner will have to pay income tax on the funds, the 20% early withdraw penalty will no longer apply.

HSA Portability

The money in a participant’s HSA at the end of year rolls over to the next year and there is no requirement to use a specific balance before year-end. In fact, an HSA balance may be carried over indefinitely and there is also no age by which an account owner is required to use HSA funds. In addition, an HSA account is portable. If a participant changes jobs or health insurance plans, they retain ownership of the funds and they can:

  • Keep the HSA as is.
  • Roll it over to a different provider.
  • Transfer it to the new employer’s HSA administrator.

Estate Planning

An HSA may also be used as an estate planning tool but it is important to note that what happens to an HSA when the account owner dies depends on their choice of beneficiary.

  • If an HSA account owner names a spouse as a beneficiary:
  • The spouse will inherit the account tax-free and can continue using it as their own HSA.
    • The spouse will receive all the benefits of account ownership and can make tax-free withdrawals to pay for qualified health care expenses.
    • They may use the HSA with any type of health care plan, but if they have an HSA-eligible health insurance plan, they can also contribute to this HSA.
  • as a beneficiary:
  • The tax benefits of account ownership do not transfer to someone other than a spouse.
  • The account balance will be distributed to the account owner’s beneficiary and becomes taxable to them in the year an account owner passes away.
  • If an account owner names an estate as a beneficiary
  • The assets will be transferred to the account owner’s estate and treated as taxable income on the account owner’s final tax return.
  • The amount taxable to a beneficiary other than the estate is reduced by any qualified medical expenses for the decedent that are paid by the beneficiary within a year after the date of death.

A Word About Rising Healthcare Costs

Healthcare expenses continue to increase and healthcare-related expenses are often one of the most significant expenses in retirement. A recent study showed that a single person aged 65 may need approximately $157,500 saved to cover healthcare expenses in retirement. Employees who open an HSA and fund it through their working years can prepare for these rising healthcare costs in retirement. The money in an HSA can also be used to offset expenses related to long-term care insurance.

An Additional Benefit for Employees

Offering an HSA as an additional benefit to employees may help increase their retirement savings and may be an effective tool to attract and retain talent at an account owner organization. Please contact a local ABG representative with any questions about setting up or utilizing an HSA.