Health Savings Account (HSA)

Anyone ever heard of the Health Savings Account (HSA)? If not, no worries, because it is the topic of this post.

I hadn’t heard of HSAs until a couple years ago and I only stumbled across them because I was doing research on financial freedom and independence (Armageddon, anyone?). People were describing the HSA as a super IRA and my interest was peaked.

I looked hard at the HSA for a number of reasons, notwithstanding, I was limited in my investment options. I had the IRAs (one for my wife and one for myself) but that was it. If you have a saving mentality you can meet the limit on the IRA ($6,000 max 2019) and then you’re left with wondering if there is another vehicle to utilize for retirement savings. Enter the HSA.

The Health Savings Account (hereafter referred to as HSA) is, as the name implies, a savings account which you can use to pay off qualified medical expenses. You can click on the link below to see qualified expenses and use a search engine for specific examples.

https://www.optumbank.com/all-products/medical-expenses.html

What’s the advantage of an HSA?

This begs the question: why have an HSA? You can certainly save and pay medical expenses from a dedicated checking or savings account. The answer, is very simple: TAXES. The HSA is a tax advantaged account, allowing you, the account holder, to avoid paying taxes on the money you put into it. In short, the HSA is a IRS approved way to save and shelter money from taxes – and use it for qualified medical expenses.

For 2020, if you have a single plan, you can put into an HSA a max of $3,550 and a family plan allows you to put in $7,100, tax free.

If you happen to be making over $77,401 but under $165,000 and file married (many in the skilled trades fall in this category) then your tax bracket is 22%. Click here for more information.

$7,000 x 22% = $1,540

Congratulations; you just saved money. Check the link above to see the tax brackets and see where you fall if not in the 22% bracket.

Now, there are limits on not just what’s defined as a qualified medical expense but also on the availability of the HSA itself; not everyone can have one. There are parameters one must meet before they can possess an HSA.

For example, they must have an insurance plan with a high deductible; a HDHP.

For 2020, the deductible is $1,400 for a single plan and $2,800 for a family.

In addition to the higher deductible, the health care plans must also have out of pocket maximums they prescribe.

For 2020, a single plan will have an out of pocket maximum of $6,900 and a family plan will be $13,800. Check out what Optum Bank has to say here.

In addition to the above, other points to consider about an HSA include:

Like many retirement accounts, the HSA rules allow “catch up” contributions, which amount to an additional $1,000 yearly on top of the annual limits the IRS imposes. Interestingly enough, however, is the “catch up” age for the HSA is 55 and not 50, like 401ks, IRAs, etc., have.

Also worthy of note is another eligibility rule. To contribute to an HSA for any given month you must have been covered from the beginning of the month. So, if after an open enrollment period you select a health plan with an HSA, and coverage begins January 6th (the start of a new pay period; this is common), you are not able to contribute for the month of January. This, of course, affects your yearly contribution amount. Let’s look at some simple math:

$7,100 ÷ 12 = $591.16

When we divide the yearly limit by the number of months in a year, we see the monthly amount we can contribute, which is $591.16. In the example above, if we were eligible for the rest of the year, we would only be able to contribute $6,508.84.

Since we’re on the subject, what happens if we overcontribute? Remember, this is a tax advantaged account, so it’s safe to assume the IRS watches them closely. So, what happens when we put too much money in an HSA for a given year?

You get fined. Well, more accurately, you pay a tax – an excise tax, at 6%, on excess contributions and it applies for each year the excess funds remain in your HSA. Suffice it to say, there is no gain to contribute extra – it actually costs you – which is counterproductive.

The selection of your health plan with accompanying HSA is important for a number of reasons. HSAs vary in a lot of the ways retirement vehicles do: maintenance/admin fees, investment options, ease of moving your money around, etc. If maximized, they make more of an impact than most realize. Aggressive investment in an HSA for years can net someone with a balance over $100,000. What does 22% look like for 100,000?

Whether you come up with $22,000 (22% of $100,000) or take $1,540 (22% of the $7,000 yearly) and multiply it by 14 (which is how many years to get a balance to $100,000 and brings you to $21,560) the effect is the same: you’ve avoided paying taxes and increased your wealth!

*Note: the above doesn’t deal with investment gain AT ALL. Since no one could predict what they would look like, I thought mere contributions would be a better example to drive home the point of avoiding taxes, the legal way.*

Speaking of taxes, having laid the ground work for the HSA, let’s look at why some call it the super IRA.

The Tax Trifecta

What is it that gives the HSA its famed reputation as a disguised super IRA? Simple: it’s the way it treats taxes. Earlier, I wrote the HSA contributions are tax free, and they are. But, that isn’t the end of its tax avoidance. When your contributions are invested AND used for medical purposes they too are tax free! Hence the tax trifecta.

So you get to put money in tax free, it gets invested and grows tax free, and if spent for qualified medical expenses, you can spend it – TAX FREE. Do you realize just how much money you have saved by avoiding taxes? A WHOLE LOT.

The next question is how it’s compared to an IRA in the first place and it’s a simple one, really: when you turn 65, whatever funds you have in your HSA can be pulled out as though they were in a regular, tax deferred (traditional) IRA – WITHOUT PENALTY. All you do is pay taxes, just like you’d do if the money were in a traditional IRA. Now THAT’S a deal.

It’s also why many are choosing to pay for their qualified medical expenses out of pocket vs pulling from the funds in their HSA – they want their tax advantaged HSA to grow. Here is but one of many examples of this being done across the country.

To be honest, the HSA was first intended to provide a place people could save and pay for medical expenses tax advantaged but the secrets out: it masquerades as a tax advantaged fund people can save for retirement for AND use for qualified medical expenses – TAX FREE. What’s not to like about a double whammy like that?

Downsides

It’s only right to ask about any downsides – we gain a more honest and objective view that way. To that end, I believe there are indeed some downsides that should be duly noted.

High deductible

That goes without saying; it’s implied in the type of plan one must have to be eligible to even have an HSA in the first place. A high deductible health plan isn’t for everyone, though, and should be weighed in the body of evidence when deciding what plan to pick. If you use your healthcare sparingly, only when you definitely need to (and that is very rare), then having a high deductible health plan (hereafter it’ll be a HDHP) with an HSA attached makes sense. If you use your healthcare more frequently, however, it may not be the best choice. An honest assessment with some hard and fast numbers can lend an invaluable ear when deciding these things.

Conversely, if you blow past your out of pocket max every year for healthcare a HDHP may be your cup of tea. I’ve compared rates before and found many of the cheaper plans (monthly premiums, that is) had a higher out of pocket max than the HDHP. The goal, of course, is to keep as much money for yourself as possible. What path you take varies depending on your personal needs and I hope you actually do the due diligence required to make heavy decisions such as this.

Not everyone is eligible

This is a downside as far as I’m concerned. I wonder how many more would willingly choose to save via an HSA if they were eligible? I know I would.

Unfortunately, if you do not have a HDHP that meets the IRS requirements, you are not eligible to have a HSA. And, just as important, even if you have a HDHP, you cannot be covered by any other health plan – which knocks you out of eligibility. You know what that means? Since I write these posts from a skilled trades perspective, my friends covered under a Collective Bargaining Agreement (union) are ineligible because they have insurance already. Even if their spouses were to select a HDHP they could not contribute to an HSA. But hey, I believe those covered by CBA’s have the best game in town and I’ve written a post all about that.

Why skilled trades have the best game in town

On the flipside, those of you who happen to be on the non union side likely do not have that constraint. However, while your constraint may not be eligibility, it’s likely in pay. I don’t want to chase this rabbit trail far but statistically it’s true.

In any case, an HSA is nice but not everyone is eligible for it. Ensure you are before you go out and open one up. Don’t incur penalties and give the government any more money than you legally have to.

Case study – a real world example

Let’s look at some hard numbers to make the point a little clearer regarding what you should choose. For my purpose of this demonstration, I’ll be using the Office of Personnel Management (OPM) compare tool found on their website, here. You have to indicate your zip code and pay frequency but after that you get a list of plans that you can select and compare. Shall we?

Learning how to read this chart is paramount. The three lines in each item represents if you are paying insurance premiums for self, self plus one, or family. For example, the plan on the left has a bi weekly premium of $191.22 for a yearly total of $4,971.72. You select this plan and you pay this amount no matter what.

The plan on the left is popular for one main reason: there is NO DEDUCTIBLE. If you used your insurance a lot you could see why it would be a popular one. Oh, and one last number for this plan most take no notice of is the out of pocket maximum: $11,000.

The plan on the right is a HDHP with an HSA. The biweekly amount you pay is $129.13 for a yearly total of $3357.38. In case you were wondering, that’s $1,614.34 less than the first plan. To further augment the HDHP/HSA choice is $1,500 is put into the HSA for you. Yeah, you read that right: someone else puts that money in the HSA for you. So far, we’re up to $3,114.34 difference between the two plans. See the out of pocket max for the HDHP? While the first plan had it at $11,000 the HDHP has it at $6,850. The difference is because with the HDHP you are paying the difference up front. The insurance company, through the first plan, although there is no deductible, gets their pound of flesh through higher premiums and a higher out of pocket maximum. At least with the HDHP/HSA combo you get a chance to save some dough.

Again, your use, frequency, personal needs, and education (or due diligence if you prefer) are all factors that should be weighed when deciding what health plan you pick – if you have a choice, that is. For some, there is no choice. For some, these numbers seem little. I’ve hear horror stories of people paying over $1,000 a month for insurance – and that amount is just to HAVE it – not to use it.
I’m not in a position to judge but I do sympathize – I think it’s criminal for the rates to be what they are. But alas, I’m digressing and while it may be a worthy discussion to have this is not the post to do it.

I merely wish to highlight the differences between two plans and the sheer money difference which exists. Truth be told, I wasn’t going to post any other additional plans but I think I will now, just to further demonstrate the differences between plans and to highlight the benefit of the HDHP/HSA combo. Feast your eyes on all this complexity:

All in all, I personally think HDHP with an HSA is a really nice item, and while not everyone’s cup of tea, it certainly should be used much more that it is. In review, when I look back at the two compared plans earlier, I find it hard to believe that some pick a plan because it doesn’t have a deductible – especially when they don’t use their insurance or use it sparingly. To each his own, I guess. Personally, I want to keep as much of my money as I can and I think the HSA is a fantastic tool available; at least, for those the IRS deems eligible.

Do you research. Don’t just pick a plan but actually know why you pick it. If you have a place of employment where you don’t have a choice perhaps you may want to look into other options, especially if you are paying through the nose for health insurance. I’m of the opinion that benefits are a good reason to switch employers and not just money and/or job satisfaction. There is a lot riding on those choices so get informed. And if you have a low cost health plan, are in one under a CBA, or have a spouse who works for benefits while you bring home the bacon, be thankful. No seriously; remember that which you have because there are scores of people who have FAR LESS and spend MUCH MORE for it.

Additional links and Information

Check the link below for a look at HSA treatment after age 65:

https://infinitybenefitsolutions.biz/health-savings-accounts-and-age-65/

• You can find Optum HSA contribution limit information here.
• Office Personnel Management’s (OPM) comparison tool is here.
• Internal Revenue Service (IRS) has some handy information, albeit heavy with verbiage, here.
• The Mad Fientist is who I first read about the HSA and I’m going to give him a shout out. The link to his blog post is here.
• I had a reader email me his website, HSAlist.org, which has a comprehensive list of things you can purchase with HSA dollars. This list was born out of having to research what he could and couldn’t buy – and then documenting it.