Your Health Savings Account – a Physical and Fiscal Fitness Program

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by Laura Tanner, Ph.D, CFP® 

Learn more about Laura on NerdWallet’s Ask an Advisor

You have tax incentives for saving for retirement (including 401(k) plans and IRA’s).  But did you know that there is also a way for you to save money on your health care expenses, both now and in the future?  If you have a high-deductible health plan (described below), a health savings account (HSA) could save you money.

What is an HSA?

The HSA is an investment account where you contribute pre-tax dollars to be used for health care expenses.  There are no income limits on contributions to an HSA account, so the higher your tax bracket the greater your potential savings.  Earnings grow tax-deferred, and if the funds in the HSA are spent on qualified medical expenses, you will not have to pay taxes when you withdraw money from the account.  That is a tax trifecta (pre-tax contribution, deferred taxes on earnings, no taxes on withdrawals for qualified expenses)!  Examples of qualified medical expenses include the deductible for your health plan, co-payments, and vision and dental care. Nonqualified medical expenses include nonprescription drugs (unless prescribed), health club dues and elective cosmetic surgery.

Note:  if you open an HSA account on your own (rather than through employer), your contributions to the account are deductible.

In addition to the tax benefits, funds in the HSA carry over from year to year (unlike a Flexible Spending Account or FSA).  So you can accumulate savings for health care costs in the future.  It is projected that a 65-year old couple retiring this year would have total retirement health care costs of over $200,000 (and this is with Medicare coverage).

Are You Eligible for an HSA?

Criteria include:

  • you must have a high-deductible health plan (HDHP), either through work or on your own
  • you are not enrolled in Medicare
  • you cannot be claimed as a dependent on someone else’s tax return

For 2013, an HDHP has a deductible of at least $1250 for an individual or $2500 for a family.

How Do You Open an HSA?

Your employer may offer an HSA (with possible matching contribution) or you can open an account on your own.  An article in the New York Times provides tips for selecting an HSA provider, including a link to a database of providers and reminders to look closely at fees and investment options.

You should consider keeping near-term (one year) projected medical expenses in a cash equivalent in your HSA account.  Funds for longer-term medical expenses can be invested.

What Are the Annual Contribution Limits and Deadline?

For 2013, the annual limit for contributions to your HSA account is $3250 for an individual policy and $6450 for a family policy.  In addition, for account holders over the age of 55, there is an additional allowable $1000 contribution (for both individual and family policies).

You have until April 15, 2014 to make 2013 contributions to your HSA account.

What if You Spend the HSA Funds on Nonqualified Expenses?

Before the age of 65, if you take out money for nonqualified medical expenses or other needs, there will be a 20% penalty, in addition to incursion of income tax.

After the age of 65, there is no longer a 20% penalty on withdrawals from your HSA, but you will owe taxes.

Remember:  No penalty or taxes due at any age as long as HSA money is spent on qualified medical expenses.

Possible New Year’s Resolution:  If you have a high-deductible health plan, open and fund an HSA account prior to April 15, 2014.