Health Savings Accounts (HSAs) offer an essential, but often under-utilized opportunity to save BIG on end-of-year taxes. But did you know that you can also leverage your HSA contributions into a robust source of retirement savings?
Before we explain why a sound retirement strategy often involves maintaining an HSA, we’ll review:
- The triple tax benefits that these savings accounts can confer
- Key considerations for selecting the perfect HSA for your medical and retirement needs
- Annual contribution and catch-up guidelines
- Withdrawal protocols before and after age 65 And much more!
- Stay tuned to master the ins and outs of HSA contributions and mine an unexpected source of retirement earnings!
What is a Health Savings Account (HSA)?
When you signed up for health insurance, did you select a high-deductible health plan (HDHP)?
For 2021, the IRS defines an HDHP as any individual insurance plan with a deductible equal to or greater than $1,400. For families, this deductible threshold doubles to ≥ $2,800.
If you did, then the federal government allows you to open a tax-advantaged account (known as an HSA) to offset your medical expenses.
To discover why this is so important, let’s consider the following scenario:
A family with modest-to-low annual health expenses decides to take advantage of the lower monthly premiums afforded by an HDHP (deductible = $2,800). In the plus column, this means that the family will pay a lower monthly insurance bill. However, as a significant downside, the family must cover their first $2,800 in medical expenses without any financial assistance from their insurance company.
After the family meets this deductible, then the insurance company will start contributing toward these costs. (Although copayments may still be required, the insurance company will typically cover the remaining balance.)
Needless to say, coming up with $2,800 out-of-pocket to fund an emergency appendectomy may present a significant financial hardship. In recognition of this, the federal government allows you to divert a portion of your earnings into a tax-free account, known as an HSA.
You may find yourself asking:
How much of a difference can these tax savings make? As you’ll learn in the next section, the answer is quite a lot.
Three Opportunities to Save BIG on Taxes with HSAs
Let’s start with the basics.
Firstly, when you contribute money to an HSA, the US government doesn’t require you to pay federal taxes on those earnings. (However, New Jersey residents must still pay state taxes on these contributions – but more on that later!)
You are a married couple, earning $100,000 a year, and intend to file your taxes jointly. Your income tax bracket indicates that you will pay 22% of your earnings in federal taxes. If you place $5,000 of your annual earnings into an HSA, then you will save approximately $1,100 in end-of-year taxes.
Here’s a full rundown of the math:
$5,000 in HSA contributions * .22 (your household’s income tax rate) = $1,100 in federal tax savings
*Keep in mind – these numbers represent a quick-and-dirty estimate. For complete accuracy regarding your tax situation, you should always consult a certified public accountant.
Secondly, like any other savings account, your HSA earns interest. Interest earned on your everyday savings account is considered taxable. However, this isn’t true of HSA accounts. That interest rate may seem teeny-tiny, but when it comes to gaming your retirement, every little bit counts.
Lastly, you can withdraw funds from your HSA without suffering tax penalties—as long as you use those funds for their intended purpose (i.e., for medical expenses). Other savings accounts that confer tax benefits (e.g., 401(k)s or traditional IRAs) require you to pay taxes if you withdraw funds before you reach a certain age. Again, this is not true of an HSA if the funds are allocated for medical expenses.
In summary, HSAs allow healthcare consumers to save big on taxes whenever the following events occur:
1. You make tax-free contributions to your HSA.
2. Your HSA account earns tax-free interest.
3. You access your tax-free HSA funds to pay for medical expenses.
How to Open a Health Savings Account (HSA)
If your employer offers an HSA, then this is usually a good place to start. Sometimes, as an added perk of the job, an employer will even deposit regular sums into your HSA. Even if your employer doesn’t offer this benefit, the advantages of enrolling in a work-sponsored HSA include the following conveniences:
1. HR typically performs all the heavy lifting when it comes to setting up the account.
2. You can make tax-free contributions directly from your paycheck into your HSA each pay period.
If your employer doesn’t offer an HSA, contact your insurance provider to inquire if they contract with any HSA organizations. Often, HSAs are provided through financial institutions (such as Bank of America or Wells Fargo). Therefore, even if your insurance company doesn’t partner with an HSA supplier, you may find an attractive alternative at your financial institution.
Need more assistance refining your search? Check out HSA Search to explore your possibilities in detail.
Lastly, consider the following factors when selecting an HSA provider:
Do you wish to contribute to your HSA by making online transfers, issuing a personal check or money order, or transferring funds from an existing HSA? Check with your HSA provider to ensure that the type of contribution you intend to make is permitted.
Be on the lookout for hidden fees. Some HSAs require activation and closeout fees as well as periodic maintenance charges. Examine all of the fine print carefully to ensure that your earnings from HSA interest won’t be wiped out by these fees.
Lastly, inquire about any special features associated with your account. For example, will you be issued a debit card?
Does your HSA provider offer online banking?
Sometimes, these little conveniences can help you take the final leap when making your decision.
2021 HSA Contributions Limits
Some employers invest a predetermined amount into their employees’ HSAs. Therefore, when we discuss HSA contributions, we are referring to the total amount invested by both the employer and the employee. For 2021, the IRS has set its annual HSA contribution limits to:
- $3,600 for single individuals with personal high-deductible healthcare plans (HDHPs)
- $7,200 for families on high-deductible family healthcare plans
These numbers include a slight adjustment from last year to account for inflation. For example, families can now invest an additional $100 in maximum HSA contributions than was previously possible in 2020.
Furthermore, individuals who turn 55 years of age before the end of the tax year can contribute an extra $1,000 in annual HSA contributions. You may hear of this referred to as a “catch-up” contribution. If a husband and wife are both above age 55, then each individual can contribute an extra $1,000 to the family’s HSA. In other words, the family’s maximum annual HSA contribution will rise from $7,200 to $9,200!
At age 65, the rules governing HSA contributions become tricky. If you enroll in any part of Medicare, you will no longer qualify to contribute to your HSA.
Remember: Medicare does not qualify as an HDHP.
This is where careful retirement planning can come into play. Sit down with one of our retirement tax specialists today and learn how you can maximize your HSA funds. With the guidance of an expert, you can avoid costly mistakes and identify hidden HSA benefits that allow you to retire in style.
Withdrawing Funds from Your HSA Before & After Age 65
You can withdraw penalty-free funds from your HSA to pay for qualifying medical expenses at any time. Examples of qualifying medical expenditures and services include:
Copayments & deductibles
Certain insurance premiums
Prescription medication fees
Routine medical services
Emergency medical services
Dental and vision care
Psychiatric and psychoanalytic services
And much, much more.
For a full list of qualifying services, visit the latest version of IRS Publication 502: Medical and Dental Expenses (Including the Health Coverage Tax Credit) to learn more.
However, if you use your HSA funds to pay for non-qualifying or non-medical expenses, then the IRS will assess a 20% penalty on the full withdrawal amount. This penalty lifts when you reach age 65 or meet the qualifications for a disability. These funds can still be taxed as income, but presumably, because you’re now retired, you should fall into a lower income bracket. This is why HSAs are generally considered an excellent source of retirement savings. Not only do these accounts earn tax-free interest, but you’ll also only pay income taxes on these funds if you use them for non-medical expenditures after you reach age 65.
Chances are, however, that you’re going to need that money precisely for its intended purpose: medical care.
It goes without saying:
The annual costs associated with personal healthcare begin to skyrocket as we age.
By leveraging the triple tax benefits of an HSA, you’ll have beaten the tax system three times when it comes to saving money for your retirement.
Overwhelmed by Retirement Planning? Steven Lissner & Co. Can Help.
Planning your retirement can certainly be tricky. Especially if you live in New Jersey.
New Jersey is one of two states that collects state income tax on HSA contributions. However, this doesn’t mean that opening an HSA isn’t for you. After all, you can make up to half a million dollars and still only pay a 6.37% state income tax rate on your earnings.
What you truly need is for someone you trust to sit down with you and crunch the numbers. A seasoned veteran in the field who has 30+ years of experience in securing maximum returns on retirement investments for his clients. Someone who understands the ever-shifting landscape of tax law…
That someone is Steven Lissner and his industry-leading team of certified public accountants.
Not only will Steven ensure that you secure the maximum refund on your taxes year after year, but he will also help you transform those tax savings into a powerful source of retirement funds.
To take full advantage of the triple tax benefits afforded by an HSA, contact Steven Lissner & Co. today for an expert consultation!