A health savings account (HSA) helps people with high deductible health plans (HDHPs) pay for preventive care and medical expenses while getting special tax savings on those funds. Despite the many benefits of this type of account, few people who qualify for an HSA actually have one. And few people who do have an HSA use it for all the things they could and should buy with it.
So what is an HSA? What is an HSA contribution? And why does it all matter? Read on to learn more.
Who Can Open an HSA?
The IRS sets the rules for opening and contributing to HSAs.
If you: have a high deductible health plan, no other health insurance including Medicare, and can’t be claimed as a dependent on someone else’s tax return, you are among those who can open an HSA.
While you cannot have multiple health plans to qualify for a health savings account, you are allowed to have other types of coverage—such as:
What is a High Deductible Health Plan (HDHP)?
You might hear HSAs referred to as a “high deductible health plan HSA.”
As the name suggests, a high deductible health plan (HDHP) is a health insurance plan in which the annual deductible is higher than a traditional health plan.
Remember: Your deductible is the amount you’ll need to pay before the insurance company pays for medical expenses.
In 2021 and 2022, plans are considered HDHPs if they have a deductible of $1,400 or more for an individual or $2,800 or more for a family.
Because these amounts are higher than what many people may have in their savings, an HSA can help. You or your employer can set aside funds to pay for medical expenses, and you also get the advantage of those contributions being tax-free.
Why Choose an HSA Plan?
So why use an HSA? Well, they have what’s called a triple tax advantage. That means you get the benefit of tax savings in three different ways:
- The funds you deposit into your HSA are tax-free, up to the IRS’s 2021 maximums of $3,600 for an individual and $7,200 for a family.
- Any interest you earn on those funds is also tax-free.
- And lastly, you are not taxed when taking funds out for qualified medical expenses.
While these three advantages can really make a difference in the short term, they can make an even bigger impact long-term if you don’t spend the money you contribute.
You might wonder: “Why choose an HSA plan if I’m not going to use the money right away?” Well, you have the option to let your HSA funds sit and earn interest year-over-year in order to help the funds grow tax-free. And, unlike 401(k)s or similar retirement plans, you’re not required to take out a distribution once you hit a certain age.
For these reasons, many people consider HSAs to be an excellent way to save for retirement.
Benefits of Using an HSA
There are many reasons to open and contribute to a health savings account. Explore these HSA benefits:
- You get to choose how much or how little money you want to save for medical expenses, up to the maximum limits set by the IRS.
- Even though many people may get employer contributions to their HSA, your account is still tied to you — not your job. All the funds belong to you, even when you change jobs.
- Since HSAs are considered pre-tax funds, you can potentially lower your tax liability (the amount of taxes you owe) by contributing to an HSA.
- Some banks offer HSAs that pay you interest or allow you to invest the funds. Your gains on those are also tax-free.
- When you use the money in your HSA for a qualified expense, you’re not taxed on it — even if you’re reimbursing yourself for a previous medical bill.
- You’re not required to take a distribution of your HSA account once you hit a certain age.
- Many banks offer free HSA accounts with debit cards for easy purchases at the pharmacy or your doctor’s office.
- You can use HSA funds for all sorts of things, from eyeglasses to bandages.
Potential Disadvantages of Using an HSA
Even though HSAs are largely considered to be valuable, there may be some potential downsides to be aware of. However, these HSA disadvantages do not mean you should avoid an HSA — only that you should plan around them:
- Illnesses and accidents don’t always come with a warning. The unexpected nature of medical events means that it can be challenging to budget the right amount to contribute to your HSA.
- You have to be very aware of what you’re spending your HSA on — you’ll be required to pay taxes on any funds you spend on non-qualified expenses.
- If you’re making monthly deposits, it can take a while to build up enough funds in the HSA. If you accrue medical bills in January or February — before you’ve had a chance to grow your HSA balance — you may have to pay those funds out-of-pocket.
How Much Can I Deposit Into My HSA?
The IRS sets maximum limits for how much you can contribute to an HSA using pre-tax dollars. Generally, these HSA contribution limits tend to go up a little every year, gradually giving you more saving power to grow the money in your HSA.
Note: If you’re 55 or older, you get to contribute $1,000 more than the totals listed above.
What Can I Make Tax-Free Withdrawals For?
The IRS maintains a long list of expenses that are considered “qualified medical expenses” — meaning you won’t be taxed on the withdrawals you take to pay for them.
That list covers a broad range of things, including costs that are applied to your deductible and even some that aren’t. Consider your HSA a medical savings account for the following:
- Hospital bills
- Dental care, including cleanings and treatment
- Eye care, including exams and glasses
- Certain Medicare premiums
- Hearing aids
- …and much more.
There are also qualified expenses called “Lifetime Care” and “Long-Term Care.” These categories include fees for certain facilities — like retirement homes — that provide medical care. Learn more on page 10 of this publication from the IRS.
Next Steps to Take
An HSA can be a very important part of your overall financial plan. Not only do you get the benefit of tax-free contributions, but the money can also grow tax-free and be taken out for qualified medical expenses tax-free. It’s a win-win-win.
However, just keep in mind a few things:
You only get the benefit of the tax savings if you use the funds for qualified medical expenses; you’ll need to watch your spending closely to make sure you don’t buy non-qualified items with your HSA money.
You’ll also want to remember that you can only use the money you already have in your HSA; if you get sick or injured in January, you might not have enough in the account to pay for the resulting bills.
Above all, these plans are worth considering, together with other important types of coverage, including health insurance, dental and vision insurance, and voluntary policies like Critical Illness insurance.
Talk with your bank or benefit’s administrator at work to learn whether you qualify for an HSA and ask what you can do to open your account.
Come tax time next year, you might be glad you did!
What’s your story? Add a comment below to share why you love your HSA. We may feature it on a future blog post!
This informational material shall not be considered financial advice. The Hartford assumes no responsibility for any financial, investment, or tax-related decisions. Those seeking resolution of specific financial, legal, tax, or business issues, questions, or concerns regarding this topic should consult their own financial, investment, tax, legal, or other business consultants, advisors, or other professionals.