Health savings accounts have been getting more attention lately as Congress and the Trump administration work to replace Obamacare.
The problem for many people is that they have no idea when to use these tax-advantaged accounts — and that could hurt their retirement.
Nearly half of HSA users didn't know they can invest the money in the account, according to a survey by Fidelity Investments of 5,133 people in December.
What's worse is that 38 percent of account holders didn't know that HSAs offer triple tax advantages: First, contributions are tax deductible. Second, those contributions can be invested and grow tax-free. Third, withdrawals aren't taxed as long as you use them for qualified medical expenses, such as doctor's visits, prescription drugs and dental care.
"No account has better tax advantages," said Roy Ramthun, president and founder of HSA Consulting Service. Ramthun is known as "Mr. HSA" because he led the U.S. Treasury Department's implementation of HSAs after they became law in 2003.
Other tax-advantaged accounts don't offer three tax breaks. With traditional IRAs, 401(k)s and workplace retirement plans, your contributions aren't taxed and grow tax-free, but you pay taxes when you withdraw. For Roth IRAs and 401(k)s, you pay taxes upfront on your contributions while you enjoy tax-free growth and withdrawals.
The catch with HSAs is that you have to use a high-deductible health plan. Such a plan means you'll have to pay a deductible of at least $1,300 for individual coverage and $2,600 for families this year. The maximum 2017 out-of-pocket costs for these plans are $6,550 for individuals and $13,100 for families.
"Not every high-deductible plan makes people eligible for an HSA," Ramthun said. The confusion about high-deductible plans can make it harder for people to embrace HSAs, he said.
That's unfortunate because HSAs can be a powerful retirement savings vehicle. Fidelity estimates that a 65-year-old couple retiring in 2016 would need roughly $260,000 to cover health-care costs during retirement. So if you have 22 years of retirement, that's roughly $985 per month. A well-funded HSA can cover that cost completely tax-free.
And if you're healthy enough to not have many health care costs in retirement, you can withdraw the money from your HSA without penalty and use it for anything you want when you are age 65 or older. However, you will pay income taxes on withdrawals if you don't use it for health care.
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Because of the triple-tax advantages, workers may need to revamp their retirement savings strategy. Jeanne Thompson, a senior vice president at Fidelity, recommends that people contribute to their retirement plans enough to receive matching contributions from their employer and then fund their HSAs because they have more tax advantages.
Keep in mind that HSAs have much lower contribution rates than workplace retirement plans. In 2017, you (and your employer) can contribute up to $3,400 to an HSA for individuals and $6,750 for families. Account holders age 55 and older can contribute an extra $1,000. For 401(k)s and other retirement plans, you can contribute up to $18,000 this year and $6,000 more if you are age 50 and older.
HSAs don't seem to crowd out 401(k) contributions and may actually be increasing overall retirement savings among workers.
Employees using both a 401(k) and HSA had a higher savings rate, 10.6 percent of their 2016 salary, compared with those saving in just a 401(k), which was 8.2 percent of salary, according to a recent analysis of the employee benefit programs Fidelity manages for more than 23,000 businesses. Fidelity found that 88 percent of people who opened an HSA maintained or increased their 401(k) savings after they enrolled in an HSA.
"It's almost like savings begets savings," Thompson said.
Provisions of the American Health Care Act, which passed the House by a narrow 217-213 vote on May 4, will nearly double the contribution limits for health savings accounts and give people more flexibility in how they can spend money in these tax-advantaged accounts.
Though top senators have said they want to write their own health-care bill, key lawmakers in the debate are supportive of boosting the benefits of HSAs. For example, Senate Finance Committee Chairman Orrin Hatch, R-Utah, sponsored legislation earlier this year that would increase HSA contribution limits the same way as the American Health Care Act.
"One of my concerns is that HSAs haven't truly been embraced by both sides of the aisle," Ramthun said. However, he is optimistic that contribution limits for HSAs will eventually be raised. "If Congress misses on the health-care bill, there is still tax reform," he said.
You don't have to wait on Congress or President Donald Trump to open an HSA.
Unlike flexible spending accounts, you don't have to "use it or lose it" with an HSA each year. In fact, more than three-quarters of HSA account holders withdraw less than they contribute, and roughly a quarter of people don't touch any money from their accounts, according to Fidelity.
Your employer may direct you to sign up with its preferred HSA provider, but if you are enrolled in a qualified high-deductible health plan, you can choose whatever provider you want. However, if employers only offer matching HSA contributions to their preferred provider, it makes sense to stick with them.
Roughly 80 percent of employers give "seed money" to workers to fund their HSAs, according to Fidelity. That can come in the form of a direct contribution or a dollar-for-dollar match. The average contribution at Fidelity-run plans was $541 last year.
If you do receive matching contributions to your HSA, Ramthun recommends that you keep one HSA with your employer's preferred provider and open another one to use as an investment account.
Devenir, an HSA consulting firm in Minneapolis, estimates that about 10 percent of the roughly 20 million HSA account holders have a balance of $5,000 or more and 4 percent of people are using their HSAs as investment plans. Many HSA providers require that you have at least $1,000 in your account before you can invest.
How should people invest their HSA money? Generally, you should have enough cash in your HSA to cover expected medical expenses and invest the rest. Here are some portfolio guidelines Fidelity uses based on age:
HSAs can travel with you if you change jobs or insurers. Use HSASearch, which is run by Devenir, to comparison shop for more than 320 providers. Just like with any retirement account, fees and investment options matter.