Why It Matters
  • An increasing number of people are becoming eligible to use health savings accounts. Newly eligible clients may not understand them.
  • An HSA can be used for more than just paying today’s medical costs.
  • Savings in an HSA can be invested, much like in a retirement account. Clients may need assistance.

As the health savings account (HSA) becomes more common, clients may not understand the potential to use one for something beyond paying current healthcare costs.
Your clients probably already understand using individual retirement accounts (IRAs) and a workplace tax-deferred savings account such as a 401(k) plan to save for retirement. But there are limits.

They may not understand there could be another tax-advantaged way to save: the HSA. When you have your annual year-in-review conversation, asking about changing circumstances such as the sale or purchase of a house, the addition of a child, or job changes, you may also want to ask about changes to their healthcare insurance.

If a company – or a change of jobs – has resulted in the switch to high-deductible health insurance, your clients may be eligible for an HSA for the first time in their lives. It could be a concept they don’t quite understand.

HSAs can be sort of like an IRA for health care, but a little different. Money goes in pre-tax. It grows tax free. And if it’s used for qualified medical expenses, it comes out tax free. That’s a triple tax advantage.

And a recent Kaiser Family Foundation study found high-deductible plans are becoming more common. In 2016, 29% of workers were in such plans, up from 20% in 2014.

HSA savings can be used at any age to pay qualified medical costs. But clients with the means to pay deductibles and copays today could pay those costs out of pocket and leave HSA savings untouched to grow tax deferred. Then in retirement, after age 65, they can tap it for anything and only pay ordinary income tax, just as they would with an IRA or workplace retirement plan.

The catches

Of course, the generosity of the government has limits. Clients should understand the rules:

  • They must qualify. The most important requirements are:
    • They must be in a high-deductible health insurance plan. For 2017, that’s a plan with a deductible of $1,300 or more for an individual, $2,600 for a family plan.
    • These limitations are adjusted for a cost of living increase every year, so in 2018, these amounts increase to $1,350 or more for an individual, $2,700 for a family plan. In future years, there may be additional cost of living increases.
    • Additionally, a high-deductible plan cannot require that you have more out-of-pocket expenses under the plan than $6,650 for individuals and $13,300 for a family.
    • With certain exceptions, you cannot be enrolled in a plan that is not a high-deductible health insurance plan or a plan that covers benefits covered under the high-deductible health plan.
    • Failing to meet the above requirements or any other requirements needed to qualify means that your HSA contributions will be taxable. Plus, any tax you owe will be increased by an additional 10%.
  • Once it’s in, it’s in. If they put money into an HSA, they’ll pay income tax plus a hefty 20% penalty if they use it for anything other than qualified medical expenses (generally, until age 65, exceptions include death and disability). That’s double the penalty for early IRA withdrawals.
  • There are limits. The most they can put into an HSA in 2017 is $3,400 per individuals, or $6,750 for family coverage (plus a $1,000 catch-up for those 55 and older). These limitations are also subject to a cost of living index, so, in 2018, the limits are $3,450 for individuals, or $6,900 for a family plan. Individuals who are 55 and older are also allowed to make an additional annual catch-up contribution of $1,000. The amount allowed for catch-up contributions does not change from year to year. The amount you are allowed to contribute may also be limited by other factors, such as contributions made to another HSA. Amounts that can be contributed to an HSA are also subject to certain monthly limitations.
  • Overfunding penalty. If they contribute more than the allowable amount into an HSA, they’ll have to pay ordinary income tax on the excess plus a 6% excise tax. This can trip clients up if they change jobs mid-year or otherwise change insurance plans from an eligible high-deductible plan to a plan with lower deductibles. And some employers contribute to employee HSAs. That company contribution counts toward the limit. If an excess amount is deposited, all is not lost. Excess contributions can be removed prior to filing taxes and reported as income. A tax professional could help.
  • No loans. Unlike some workplace retirement accounts, contributors cannot borrow from an HSA.
Why explain the HSA?

Some clients may confuse HSAs with the workplace flexible spending account (FSA) that sets aside “use it or lose it” money for health and dependent care they must use in the year they set it aside. They should understand money in an HSA is portable. And if they’re eligible and the company doesn’t offer an HSA, as a financial professional you could help them set one up on their own.

You can also help clients decide if they want to invest the money inside the HSA, rather than letting it sit in a low-interest savings account. Clients may need help understanding what risk level is appropriate for HSA savings. Every situation is different.

And if they’re worried they won’t need their HSA savings for medical expenses in retirement, consider most people today pay about $109 in monthly premiums for Medicare Part B (that’s the part that covers doctors). And that cost can go up. Most 65-year-olds joining Medicare in 2017 will pay the standard cost of $134 a month (think about that, $134 x 12 = $1,608 per person, or $3,216 for a couple).

An HSA can be used to pay those Part B premiums (but not Medigap coverage). So even a healthy 65-year-old will likely have a monthly qualifying medical cost.

Finally, you can explain the effect of compound interest. In this hypothetical example, imagine a 35-year-old who contributes $3,400 a year until he’s 65 (assume he doesn’t add the $1,000 catch-up and the IRS doesn’t raise the contribution limit, even though it does sometimes). With a modest 4% average annual return, he would hypothetically have more than $200,000. Of course markets go up, but they also go down. It’s important investors understand risk.

Gains and principal, if spent on qualified health care, are never taxed. To help explain, the IRS has a surprisingly easy-to-read publication on HSAs.

Things to Consider
  • Clients who have had a bad experience with an FSA may not understand the workings of an HSA and could be missing out.
  • Investing inside an HSA is a complex concept clients may need help with.
  • Healthcare costs are virtually inevitable, even for healthy people. It may make sense to prepare now for health care later.

Neither Transamerica nor its agents or representatives may provide tax, investment, or legal advice. Anyone to whom this material is promoted, marketed, or recommended should consult with and rely on their own independent tax and legal advisors and financial professional regarding his or her particular situation and the concepts presented herein.