Feeling the Pain - How Health Savings Accounts Can Heal Your Retirement Strategy
Allyse Carter, CPA
Helping small businesses and individuals at every step of their financial journey.
By 2030 all ‘Baby Boomers’ will be age 65. If you think healthcare costs are unruly now, just wait. With an aging population and a disjointed healthcare system, near-future retirees need to think about how to fund their healthcare during retirement.
Sidebar: We all should be thinking about how to fund our healthcare during our working years and our retirement years.
Healthcare and medical costs will be the most important retirement costs and only increase as one ages. One can prepare for the inevitable by funding a health savings account (HSA). Many of us may already have one if we signed up for a high-deductible health insurance plan.
An HSA might already be a retirement tool that you have, and it should be maximized to its full potential. That is because HSAs have three times the tax benefits.
1.???? First, contributions are made pretax, meaning they reduce your taxable income.
2.???? Second, earnings on the assets held in the account grow tax-free.
3.???? Third, any distributions made for ‘qualified’ medical expenses are tax-free.
On top of the triple-dipping tax benefits, the account is portable, meaning that if you change jobs, insurance, or retire you get to take it with you.
The contribution limits for 2024 are $4,150 (single) or $8,300 (family) and if you’re 55+ there is an additional $1,000 catch-up.
Fun fact: you might be able to do a one-time funding from your traditional IRA or Roth IRA to your HSA.
Tax-free earnings always sound like a promising idea and HSAs can invest in a variety of investment vehicles the same way any other brokerage or retirement account. This is when you need to gauge your risk tolerance and talk to your investment advisor. Obviously, you need to keep a cash balance for medical expenses (duh), but if you are a few years (or decades) away from retirement this could be a suitable time to assess the market for any elevated earning potential.
Distributions for qualified medical expenses are tax-free. The typical medical expenses such as going to your routine check-up, getting that cavity in your back molar filled, or buying a pair of new prescription eyeglasses would all be ‘qualified’ expenses. However, some unique qualified medical expenses don’t automatically come to mind. The cost of buying, training, and maintaining a service animal, such as a guide dog for the visually impaired, are qualified medical expenses. Capital improvements for a home, such as installing a wheelchair ramp, are qualified medical expenses. Could these expenses be paid through an HSA? Possibly. See more about medical expenses here: Publication 502 - https://www.irs.gov/publications/p502
Fun Fact: You can reimburse yourself at any time for out-of-pocket medical expenses that you paid that were not reimbursed by the insurance company and not taken as medical expense deduction on Schedule A. But, you can’t reimburse yourself for expenses incurred prior to establishing the HSA.
There are a few caveats with HSAs, the main three are:
1.???? Distributions from your HSA that are not for qualified medical expenses are subject to ordinary tax rates and possibly an additional 20% tax.
2.???? If you are already at retirement status and have Medicare, you can’t contribute to an HSA.
3.???? You can’t deduct itemized medical expenses on Form 1040, Schedule A, which have been paid through an HSA. That’s quadruple dipping. We can’t do that.
Since healthcare and medical costs will be a retiree’s primary source of pain, funding an HSA should be a priority in the retirement planning strategy. Even before the big-named retirement accounts. Folks nearing retirement should seriously consider contributing the most that they can to an HSA, it’s as tax-free as tax-free can be.
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