Perhaps your employer is offering an HSA-qualifying high deductible health plan (HDHP) this year for the first time, or maybe you’re shopping individual health plans and are considering pairing an HSA with a qualifying high deductible health plan (HDHP) to help with out-of-pocket costs.
Whatever the reason, it’s important to understand how HSAs work so you can make them “work” for you. We’ll cover some HSA basics in this blog post, including:
- What an HSA is and how to open one
- 2020 annual contribution limits
- What you can use HSA funds for
- Who may want to open an HSA
- Other options to help with out-of-pocket healthcare costs
Please note that the materials available at this website are for informational purposes only and not for the purpose of providing legal or tax advice. You should contact your attorney or tax professional to obtain advice with respect to any particular issue or problem.
What are HSAs and How Do They Work?
An HSA is a type of savings account where you set aside money on a pre-tax basis to help pay for qualified medical expenses, including health insurance deductibles, copayments, and coinsurance. By using untaxed dollars from an HSA in this manner you may be able to lower your overall healthcare costs.
Here are some of the basic features and limitations of HSAs:
- You can only open and contribute to an HSA if you have an HSA-qualifying high deductible health plan. You also must be under age 65 in order to open or contribute to your HSA.
- After you open your HSA and have accrued a balance, you can withdraw those funds at any time tax-free to use for qualifying medical expenses (more in the next section).
- Or you can reserve more of your HSA funds now and invest them…more on that below.
- Unused HSA funds roll over from year to year and your HSA is “portable,” meaning that it goes with you, whether you change jobs or change health plans.
- Before age 65, if you use HSA dollars for a non-qualifying medical expense, you’ll pay ordinary income taxes on that withdrawal and a 20% penalty.
- After age 65, any withdrawals not used for qualifying medical expenses will still be taxed as ordinary income though you won’t be subject to the additional penalty.
- There are annual HSA contribution limits – employer-provided contributions count towards that limit.
2020 Maximum Annual Contribution Limits
|Under Age 55||$3,550||$7,100|
|Age 55+ Catch Up Contribution||$1,000||—|
The IRS has rules for how much you can contribute if you enroll in or lose an HSA-qualifying HDHP part-way through the year. Learn more about specific use cases and the “last month rule” at IRS.gov.
What Can You Use HSA Funds For?
You can use HSA funds for qualified “medical expenses” without incurring a penalty. Qualified medical expenses are those that “generally would qualify for the medical and dental expenses [tax] deduction.” As mentioned earlier, using your HSA funds for anything that does not qualify as a medical expense may result in a 20% penalty on top of the withdrawal being subject to income tax.
The IRS further defines “medical expenses” in Publication 502 in part, as: “…the costs of diagnosis, cure, mitigation, treatment, or prevention of disease, and for the purpose of affecting any part or function of the body. These expenses include payments for legal medical services rendered by physicians, surgeons, dentists, and other medical practitioners.”
The health insurance out-of-pocket costs that you’re responsible for when you obtain healthcare (deductible, copays and coinsurance) count as medical expenses. Your HSA dollars may also cover services and medical equipment that your health insurance policy does not cover at all, such as dental or vision care.
Some of the new or lesser-known qualifying medical expenses include:
- Over-the-counter medications like pain relievers, allergy, acne, cold and cough medicines – this recent change reversed a 2009 change as part of the Coronavirus Aid, Relief, and Economic Security Act (CARES, passed March 27, 2020)
- Menstrual and feminine hygiene products: tampons, pads and liners (also a result of the CARES Act)
- Health insurance premiums if you’re receiving unemployment benefits
- Premiums for Medicare parts B and D and Medicare Advantage Plans (not Medicare supplement plans)
- Acupuncture and Chiropractic
- Dental treatment to prevent and alleviate dental disease (not including teeth whitening)
- Fertility enhancement treatments like in vitro fertilization
- Vision care such as eye exams, contact lenses, eyeglasses and vision correction surgery
- Psychiatric care, medical care provided by a psychologist, and therapy
- Long term care services
And there are a lot more. If you have questions about whether specific medical products or services are covered, you’ll want to contact your HSA provider.
How To Access Your HSA Funds
HSA distributions typically occur one of two ways, either by:
Paying for qualified expenses directly – Many banks provide a debit card for use at the point of care or when paying your portion of a medical bill with your health savings account.
Paying a different way, such as a debit or credit card, then reimbursing yourself with your HSA funds later. And that can sometimes be much, much later, since there is no time limit for reimbursing yourself from your HSA.
In either case, you’ll want to keep receipts of qualified expenses that you used your HSA funds for. If the IRS becomes involved, you may need to prove that:
- Your HSA withdrawals were only used for qualified medical expenses
- They weren’t paid for or reimbursed from another source (like insurance)
- You didn’t also take an itemized deduction for these medical expenses
So why would someone wait to reimburse themselves from their HSA? Why wouldn’t they just use their HSA dollars immediately when paying for healthcare?
Some people use HSAs not just as a health savings account, but as a “wealth-building tool.” We’ll look more at that unique feature of HSAs next.
HSAs as a “Wealth Building” Tool
HSAs can actually function beyond just being a “savings account” for health-related monies. In fact, they’re often referred to as a “triple tax-advantaged financial tool” because contributions to HSAs:
- Can lower your federal income tax rate
- Grow tax-deferred
- Can be withdrawn tax-free for eligible medical expenses anytime
Here are a few other features and limitations to keep in mind if you’re considering leveraging an HSA this way:
Rolls over, portable: As previously mentioned, an HSA is not “use it or lose it,” (that’s a flexible spending account, or FSA) and they are portable. If you started an HSA with one employer, then changed jobs or lost your health insurance or enrolled in a new policy, you keep your HSA and can still use those funds anytime for medical-related expenses.
Contribute only while enrolled in a HDHP: Enrolling in an HSA-qualifying HDHP is what makes you eligible to contribute to an HSA. If you lose your qualifying health plan because you changed jobs or insurance plans, you can no longer continue to contribute to your HSA. Also, if you’re enrolled in a high deductible health plan that is not HSA-qualifying, you won’t be able to open an HSA.
Invest in mutual funds, stocks or ETFs: Contribute as much as you can now to your HSA (up to the annual contribution limit) and use fewer of those funds now for healthcare (particularly if you’re younger, healthier and have other ways to pay for care), and you can invest a portion of your HSA into mutual funds, stocks or exchange-traded funds (ETFs).
If you’re able to invest the maximum annual amount over a longer period of time, your HSA can grow into a fairly significant source of income later in your life. For example, if you contribute the individual maximum of $3,550 each year for 35 years, less $1,000 per year that you may withdraw for medical expenses, an annual average of 5% on the balance of your HSA results in an account worth around $250,000.
The HSA you contribute to today could be especially helpful after you retire since:
- You may need more healthcare later in life, including long term care services
- It’s likely healthcare costs will continue to go up
- You can pay some Medicare premiums with tax-free HSA funds without having to dip into other savings
Remember, the primary purpose for your HSA is to help you afford healthcare, including healthcare you may need today.
How Do You Open an HSA?
For individuals: Check with your health insurance provider to see if they partner with any HSA institutions, or see if your bank offers an HSA option. Remember, you have to have an HSA-qualifying HDHP to be eligible to open an HSA. Learn more about high deductible health plans, including how to shop for them on the ACA Marketplace.
For group plan enrollees: Employers that offer a qualifying HDHP may contribute or match their employees’ contributions. Often, the HSA administrator is predetermined so all you need to do is obtain the information from your employer or HR representative to open the account.
Who Should Open an HSA?
Your individual financial situation and healthcare needs will determine whether or not a high deductible health plan and an HSA are right for you. People that may find this option particularly attractive may include:
- Younger people, especially if they (or a parent) can maximize the contribution and wish to try to leverage the long term growth potential of an HSA.
- Higher-income earners that may be able to afford health coverage with higher premiums and lower out-of-pocket costs but want to add a triple tax-advantaged investment option to their portfolio.
- Anyone who’s enrolled in a high deductible group plan whose employer is contributing to the HSA.
It’s important to reiterate that leveraging an HSA for investment purposes shouldn’t be your primary consideration when choosing individual health insurance. You need to select coverage that works with your current finances and supports your healthcare needs today.
Other Options for Lowering Costs or Supplementing Benefits
If an HSA-qualifying HDHP just doesn’t make sense for you right now, there may be other options for either helping lower your out-of-pocket or premium costs, or supplementing your ACA-qualifying benefits. Let’s look at a few of them below.
ACA Subsidies or Short Term Health Insurance
Finding the right health insurance fit may mean qualifying for and using ACA subsidies in order to obtain ACA-qualifying health coverage. You can learn all about these subsidies and also see if you may qualify for assistance. Remember, you can only enroll in these types of comprehensive health plans during the annual open enrollment or a special enrollment period.
Or it could mean enrolling in temporary health insurance if you qualify, especially if you just need short term coverage while you’re between health insurance plans or jobs.
These plans, typically referred to as “short term health insurance,” are not ACA-qualifying coverage – importantly, that means they don’t cover the essential health benefits or pre existing conditions, and are not guaranteed issue. Also, you can be charged more based on your health status.
Even so, you may find this type of plan to be a good fit, particularly if your primary concern is obtaining benefits for unexpected high-cost medical care as opposed to routine healthcare or planned services, and if you can obtain that coverage at a lower monthly premium than an unsubsidized ACA plan.
See if short term health plans are available in your area, quote and compare.
Supplemental Gap Insurance
If you don’t have access to an HSA because you don’t have a qualifying HDHP or it just doesn’t make sense financially to open one, gap health insurance may be another option for additional funds when you experience a qualifying injury or illness as it provides supplemental insurance benefits on top of what your major medical policy provides.
These plans have relatively affordable premiums based on a number of factors, including the benefits level you select. And benefits can be used towards your major medical policy’s deductible, other out-of-pocket costs, or even other expenses like transportation. Learn more about gap plans.
Quote and compare – find out how much gap coverage could cost you
Telemedicine for Routine Care
Telemedicine may be another way to reduce your out-of-pocket healthcare spending by allowing you to address routine healthcare issues via a virtual doctor’s appointment rather than an in-person doctor’s office or urgent care visit, both of which can be more expensive especially without insurance coverage.
Of course, telehealth services aren’t right for all health conditions and often an in-person exam or tests are needed for accurate diagnosis and treatment.
But if you require help for routine, non-acute conditions like ear infections or allergies, it may be worth checking into. Telemedicine is not insurance. Learn more about telemedicine and find out if it’s right for you.
Want to try it out? Enroll in Telemedicine today.
Summary and Next Steps
HSAs can be a helpful tool but they’re not a good fit for everyone. Some of the key takeaways from this blog post are:
- HSAs can be used as a savings account to pay for medical expenses today, and/or leveraged as a triple tax-financial tool to invest, grow and generate future income.
- HSAs roll over year to year and are portable – they belong to you, not your employer or the insurance company that you have your HDHP through.
- You should open an HSA if you have an employer willing to contribute to or match your HSA contribution since it’s one of your job-based benefits.
- HSA funds can be used tax-free for qualified medical expenses either at the point of service or as a self-reimbursement
- Your HSA withdrawal may be subject to income tax and a 20% penalty if you use the funds for non-qualified medical expenses.
- There are other options for reducing out-of-pocket or premium costs such as: supplemental gap health insurance, non-qualifying short term health insurance, and telemedicine (which is not insurance).
Hopefully, you now have some basic knowledge of HSAs and how they may be used to help cover healthcare costs today or into the future. For more help with HSAs, you should consult a financial professional.
To speak with an insurance agent about health insurance coverage options call 888.855.6837 today.