Health Savings Accounts (HSAs) are often referred to as the holy grail of tax advantaged accounts; contributions are tax deductible, the account grows tax deferred and money withdrawn for qualified medical expenses comes out free of income tax. That’s a triple tax advantage and there really aren’t any better deals out there, especially coming from the federal government. So, what are these accounts and how are they potentially going to get better?
HSAs were created by The Medicare Prescription Drug, Improvement and Modernization Act of 2003. This Act allowed individuals with so called high deductible health insurance plans to establish and fund a Health Savings Account which would allow them to save funds for future qualified healthcare expenses (to help cover the “high deductible”). For 2018, the limits on how much can be contributed to an HSA (either employer or employee contributions) is $3,450 for someone with individual coverage, or $6,900 for someone with family coverage. Added to that is the ability of individuals over the age of 55 (who are not enrolled in Medicare) to contribute a “catch-up” contribution of $1,000 per year. Research has shown that despite these not insignificant contribution limits, individuals are not fully taking advantage.
The Employee Benefit Research Institute has found that in 2016, only 13 percent of account owners maxed out their contributions. There is some discrepancy based on how long the owner had maintained an HSA account, as those that established accounts in 2006 were maxing out their contributions at a rate of 30%, while those who just opened accounts in 2016 were only doing so at a rate of 6 percent. Workers already struggling to save for retirement might not see fully funding their HSA as a high priority, but it’s important to consider what the potential costs of healthcare are in retirement.
Many individuals think that once they reach Medicare age (65), their healthcare costs should be mostly accounted for, but the reality is that with co-pays, co-insurance and other non-covered medical expenses, healthcare can still be a significant expense in retirement. A report created by the National Bureau of Economic Research entitled The Lifetime Medical Spending of Retirees determined that, on average, individuals incur $122,000 of medical costs between the time they turn age 70 and when they die, most of which is out-of-pocket. However, if you’re in the unlucky highest 5%, out-of-pocket medical bills could be more than $300,00. A great way to plan for those potential future costs is to save for them in an HSA, much the same way that individuals save for retirement living expenses in their 401(k) or 403(b). Having a bucket of money designated for medical expenses, that can be drawn from without incurring additional income taxes in retirement, would be a huge benefit to most retirees.
Legislation currently making its way through Congress, the Increasing Access to Lower Premium Plans and Expanding Health Savings Accounts Act of 2018, would allow individuals to increase their contributions to HSAs to the out-of-pocket limits for their particular coverage. In other words, those with individual coverage could increase their contributions from $3,450 to $6,550 and those with family coverage could increase their contributions from $6,900 to $13,300. Even though only 13 percent of individuals maxed out their contributions at today’s lower limits, it would give those with the ability to do so a great way to build up that tax-free bucket of assets for future health care needs.
Given where our national deficits and debt stand today, it’s unlikely that Medicare benefits will remain status quo, let alone improve. Already, those with higher Modified Adjusted Gross Incomes are subject to additional Medicare Part B and Medicare Part D premiums through income-related adjustments. Giving those individuals the ability to set aside more money now to account for those future expenses presents a good planning opportunity. If the HSA ends up being overfunded, the owner always has the option after age 65 to take a withdrawal for non-medical reasons that would then be subject to ordinary income taxes, just like an IRA.
Based on the research done about the low number of people who are fully funding their HSAs, it’s obvious that additional education and emphasis is needed on just how beneficial saving into the account can be, not only for current healthcare needs, but also healthcare needs in retirement, or even potentially for normal retirement spending needs. Congress acting to increase the contribution limits just creates additional opportunities for current tax deferral and the ability to save for what will no doubt be rising costs of medical care in retirement. A Certified Financial Planner™ professional can help you take all of these things into consideration and help you make the best decision for you.
For additional information on Health Savings Accounts, contact CI Budros Ruhlin Roe.
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Scott R. Kidwell, CFP®, RICP®