Health savings accounts explained

WHAT IF YOU COULD GET COVERAGE for your medical expenses as well as potential tax benefits, while being able to save for your future, all at the same time? By enrolling in a qualifying high-deductible health plan (HDHP) and linking it to a health savings account (HSA), you can have all that. Which may be why, increasingly, companies are offering these accounts as an option for their employees as they plan their health coverage. And people who are self-employed are increasingly considering them as well. “HSAs are intended to help you save pre-tax or tax-deductible dollars to pay for qualified medical expenses — both now and in the future — that aren’t covered by insurance,” says Jennifer Goldsmith, director and head of Health Benefit Solutions at Bank of America.

Still, many people find HSAs confusing. Here’s some information about them to mull over as you consider ways of funding present and future healthcare costs.

1. Who’s eligible for an HSA?

The primary condition for opening an HSA is that you also must be enrolled in a qualified HDHP. You can view the current annual limits to help you determine the minimum deductible amounts and out-of-pocket maximums for an HDHP. Even if your employer doesn’t offer an HSA — or if you’re self-employed — you may be able to open an HSA on your own, as long as you’re also enrolled in an HDHP. Keep in mind, in addition to being enrolled in an HDHP, you cannot be claimed as someone else’s dependent on their tax return and you cannot have disqualifying additional medical coverage, such as a general-purpose health flexible spending account (FSA).

2. What are the potential tax advantages of an HSA?

The money you can contribute to these accounts is tax-deductible or pre-tax, and any increase in the value of your account is free from federal taxes — so long as withdrawals are made for qualified medical expenses. “One of the most important features of an HSA is that it has the potential for triple tax advantages — when money goes into the account, when it grows and when it comes out,” Goldsmith says.¹

3. How much can I contribute annually?

When making HSA contributions, keep in mind these limits. You may contribute funds for the current tax year up until your federal tax return filing deadline (without extensions). You can put money into an HSA every year that you are eligible, until you enroll in Medicare. After that, you’re no longer allowed to contribute, but you may still use your HSA balance to cover qualified medical expenses with tax-free distributions. Special rules apply to reduce the annual limits in a year you become eligible or cease to be eligible.

4. What expenses can I cover with my HSA?

A wide range of routine medical costs, including:

• Qualified out-of-pocket medical expenses you incur before you’ve met your HDHP deductible
• Medical, dental or vision coinsurance and copayments
• Prescription drugs and over-the-counter medications
• Some medical treatments not covered by your insurance, such as visits to a chiropractor
• Some kinds of medical equipment like eyeglasses

HSAs can reimburse these expenses only to the extent that the expenses are not covered by insurance or otherwise.

5. How can I tap into my HSA funds?

There are a number of ways you can tap into the cash in your HSA. While the availability of certain features will differ depending on the provider, some HSAs will give you a debit card or checkbook that you can use to directly pay for qualified medical expenses. With other providers, you might be able to set up a direct transfer of funds from your HSA to your regular bank account to reimburse yourself for qualified expenses you’ve already incurred. You can check with your employer or the HSA administrator to learn about the available options.

6. Are there any time restrictions on my ability to use an HSA?

No. One of the great advantages of an HSA is that you’re not required to take money out of it by any given date, such as the end of the year — you can save and may even be able to invest your balance until you need it. If you lose your job and continue insurance coverage under COBRA, you can use your HSA to pay your premiums. Another plus: Even if you leave the employer that originally sponsored your HSA, you can keep that HSA, or transfer or roll the balance over to another HSA — one offered by your new employer or an HSA you open yourself.

7. What are my investment choices?

It varies. Some HSAs function as savings accounts only, while others allow you to invest your contributions in a selection of mutual funds or other investment choices, giving your account the potential to grow. If you’re thinking about making that sort of investment, consider your goals. Do you plan to use the account to pay for everyday health expenses in the short term rather than saving it for future anticipated medical costs? If so, then you may want to keep those funds in cash or investments that offer easy access to cash.

Anticipating that you won’t be using the account anytime soon? Then consider mutual funds or other investment choices that may be more appropriate for the long term. Be aware that your account balance might have to reach a certain amount before your provider allows you to invest it, and you may need to maintain a certain cash balance in your account. Please note that investing in securities involves risks, and there is always the potential of losing money when you invest in securities.

8. Can I use my HSA in retirement?

Yes. Starting an account now while you’re in good health could help you in retirement — when your medical bills are likely to increase. For individuals who are Medicare-eligible (generally age 65 or older), your HSA can be used to pay for premiums for Medicare with tax-free withdrawals, as with other qualified medical expenses, although withdrawals to pay for Medicare supplemental policies are generally not tax-free. You can even pay for non-qualified expenses, but you will need to pay regular income taxes on those withdrawals — the 20% federal tax penalty will not apply if you are at least age 65. In addition, notes Goldsmith, “You can also use an HSA to pay with pre-tax dollars for your qualified long-term care insurance premiums.”

9. Are there instances in which an HSA is not necessarily the best choice?

An HSA may not be right for everybody. You might prefer to select a health insurance plan with a lower deductible, in which case you wouldn’t be eligible to contribute to an HSA. Or you might, for instance, have other savings priorities — like building a general emergency fund — that leave little room in your budget for funding yet another savings account. Or if you’re young and in good health, you might decide you’d rather devote any spare cash to investing in an IRA or other account dedicated solely to retirement. But, if your employer offers any HSA contributions, you should try to get those funds if possible.

But for many others, an HSA can be a useful solution for addressing some of the high costs of healthcare. “In today’s healthcare market, we all need to take a long-term view of health coverage,” Goldsmith says. “If you consider the cost of insurance in combination with the potential savings provided by an HSA, you may be better positioned to meet your medical needs — and possibly have money left over to help you meet your other goals.”