Since their creation in 2003, health savings accounts (HSA) have proven to be an attractive option for health plan enrollees who are also enrolled in a high-deductible health plan (HDHP). In the past decade alone, the number of HSAs has grown from 6 million to 30 million with annual contributions increasing from $11 billion to more than $40 billion.
This growth is all for good reason. These accounts offer triple tax savings where pre-tax dollars can grow tax-free and be withdrawn tax-free for qualified medical expenses. In 2022, the limit on tax-free HSA contributions will be $3,650 for individuals and $7,300 for family coverage.
These tax advantages are not the only benefit. High-deductible health plans expose enrollees to higher out-of-pocket spending with out-of-pocket limit of $7,050 for individuals and $14,100 for family coverage in 2022, HSA-qualified high-deductible health plans generally have lower monthly premiums than more comprehensive health insurance. These premium savings can be channeled into an HSA account.
There is a trade-off to these advantages. When account holders withdraw funds to purchase qualified medical expenses, those withdrawals are tax-free. When they withdraw funds for non-medical expenses, they must pay income taxes on those funds plus a 20 percent penalty if older than 64 years of age.
It should be noted that HSAs have three additional features that contribute to their attractiveness. The first is that unlike a flexible spending account, HSA funds area enrollee owned and do not need to be spent within a specified time-period. The second is the absence of required minimum distributions, a requirement of many tax-free investment vehicles. The third is the ability to use HSA funds to pay Medicare Parts B & D premiums which is an amount that for many can be considerable.
Finally, there is one little understood aspect of HSAs that make them more than just a way to pay for medical expenses with pre-tax dollars. HSA withdrawals do not have to occur at the same time the account holder incurs a qualified medical expense.
This means that an enrollee can pay for medical expenses using after-tax income thus allowing their HSA funds to continue growing tax free. Down the road, the account holder can still reimburse themselves for the care that was previously paid with after-tax dollars. This ability to let pre-tax funds grow uninterrupted is why HSAs are not just an attractive health plan enrollee option but is now considered as one of the best retirement planning vehicles available!
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