Would you believe that your HSA is one of the most tax-efficient savings vehicles for your retirement? If you answered “no”, you would not be alone. According to Cerulli & Associates, 51% of respondents with more than $2 million in investable assets treat their HSA as a retirement savings vehicle. In comparison, only one-third of those with $500,000 to $2 million do. Those that understand the flexibility of the HSA are using it like an additional Roth or traditional IRA. I am using my HSA as a back up for medical expenses in retirement or a fund for that sailboat I have my eye on – just don’t tell my wife.
The HSA offers a triad of tax benefits – 1) pre-tax or tax-deductible contributions, 2) tax-deferred growth, and 3) tax-free withdraws for qualified medical expenses.
Let’s start with the contributions. If you have a high-deductible health plan, you can contribute up to $3,550 for self-only coverage and up to $7,100 for family coverage. Contributions can be made directly thru employers (pre-tax contribution) or be made with post-tax money to your HSA account and deducted on your tax return. Your contributions can be invested in mutual funds or exchange-traded funds (ETFs), and those investments will grow tax-deferred, like in your 401k, IRA or Roth IRA. Distributions from your HSA to pay qualified medical expenses are made tax free, like a Roth IRA.
To maximize the benefit of an HSA for long-term planning, you need to pay your current medical expenses from other personal savings sources and leave you HSA alone. This will enable the HSA account to grow and be a source to 1) help bridge to retirement if you retire before Medicare eligibility at age 65. You could use an HSA to pay Cobra coverage or pay health premiums while on unemployment. 2) pay Medicare expenses for Part B and D, 3) pay long-term care expenses by paying part of the cost for a “tax-qualified” long-term care insurance policy, and 4) once you reach age 65 you can use your HSA just like an IRA account to cover any cash flow needs – living expenses, a new boat, travel, you name it. These withdraws are subject to income tax, just like an IRA or 401k but you have still received the benefit of the tax-deferred growth of that account.
If you are fully contributing to your retirement account, you need to consider using the advantages of an HSA for your excess savings.