The power of health savings accounts for retirement planning

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The number of health savings accounts (HSAs) is skyrocketing, but most account holders are not taking full advantage of the retirement planning power of HSAs.

There were more than 30 million HSAs holding around $ 82.2 billion at the end of 2020, according to an estimate from Devenir, a company that provides investment services to healthcare accounts.

You are eligible for contributions made to an HSA when your medical insurance has a high deductible plan that qualifies for the HSA. Not all high deductible plans qualify for the HSA. Check with your insurer or employer to make sure yours qualifies.

Anyone can contribute to your HSA as long as the total contributions do not exceed the annual limit. Employers often make contributions, as do the people who own the accounts.

The maximum contribution to the HSA in 2021 is $ 3,600 for a person with an individual medical plan and $ 7,200 for a person with a family plan. An additional catch-up contribution of $ 1,000 is authorized for people aged 55 and over. Contributions cannot be made once you have signed up for a Medicare game.

Contributions made by an individual to his own account are deductible from gross income, and contributions made by an employer to the employee’s account are excluded from gross income.

In addition, the account can be invested and the income is tax free.

Distributions from the account are tax-free when used to pay for eligible medical expenses. An eligible medical expense is an expense that would be deductible as an itemized medical expense on your income tax return and that is not reimbursed by insurance or another source.

These three tax advantages in one vehicle are unique. Unlike traditional 401 (k) and IRAs, you don’t just defer taxes with an HSA. Unlike a Roth IRA, you don’t pay taxes now to avoid taxes later. Money paid to an HSA is never taxed as long as the distributions pay for eligible medical expenses.

Plus, HSAs don’t have minimum distributions required in your lifetime.

Your spouse can inherit your HSA and enjoy the same benefits as you.

Most people use their HSAs during their working years to pay for medical bills that are not covered by insurance, such as deductibles, copayments, and items not covered.

But a better strategy is to fully fund the HSA during your working years and pay for routine medical expenses from non-HSA sources where possible. Leave the HSA balance compound to use during retirement.

Most HSAs are invested for security and earn today’s low interest rates. But many HSAs can be linked to brokerage accounts. They can be invested like the rest of your retirement portfolio and generate the same returns.

After you retire, it’s time to start withdrawing money from the HSA.

Of course, you can use the HSA to pay for eligible medical expenses during retirement. These can include insurance premiums including health insurance premiums. They also include expenses that are generally not covered by Medicare, such as dental and vision services and hearing aids.

Expenses should not be paid directly by the HSA. You can be reimbursed by the HSA after paying the fees. Keep receipts and proof of payment in case the IRS audits you or the HSA custodian raises questions.

These HSA distributions are tax exempt because they pay for eligible medical expenses. They will also not be included in the adjusted adjusted gross income when calculating the surtax on health insurance premiums, the amount of social security benefits to be imposed or any of the other stealth taxes.

But an HSA can be used more effectively. You can use it to manage your tax bracket during retirement and to reduce your income taxes for life.

A key rule about HSAs is that there is no deadline for receiving reimbursement for medical expenses. In other words, a distribution does not have to pay for routine medical expenses to be tax exempt. You can accumulate receipts for eligible medical expenses you paid from non-HSA sources and receive reimbursements from the HSA when you need spending money.

In a retirement year where you need the extra cash, you don’t have to withdraw it from taxable sources such as a traditional IRA or by selling assets in a taxable account for capital gains. Instead, take a non-taxable reimbursement from the HSA for unreimbursed eligible medical expenses that you have paid in the past.

The strategy allows you to raise additional cash without increasing your tax bill for the year. The strategy is particularly beneficial in a year when your income is already near the top of your tax bracket or you want to avoid increasing the surtax on Medicare premiums or the amount of Social Security benefits imposed.

Some people do not maximize their contributions to an HSA because they believe their medical bills will never be high enough to deplete the account balance and fear that they have limited access to the money.

Do not worry about that. HSA distributions can be used to pay for non-medical expenses. When distributions from an HSA are used to pay for something other than qualifying medical expenses, the distribution is included in the gross income to be taxed.

There is an additional 20% penalty when you are under 65 and receive a distribution for non-medical expenses. But from age 65, a distribution from an HSA to pay non-medical expenses is taxed in the same way as a distribution from a traditional IRA.

An HSA can also be a legacy vehicle, passing on tax benefits to a spouse or other beneficiaries, as I will explain next month.

Anyone eligible for an HSA must make maximum contributions to the account. It’s best to fully fund an HSA before you contribute to a 401 (k) or IRA and invest the HSA in the same way as the rest of your retirement portfolio. The strategy will maximize the lifespan of your retirement nest egg.


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