In my other post I talked about retirement and why it’s important for you to think about putting money away especially if you are young. The topic of a Health Savings Account (HSA) is a similar concept, but much less well known. Personally it is my favorite tax advantaged account I have, and I highly recommend you keep reading to see if it is a good fit for you.
The thing that makes an HSA special is that it is triple tax advantaged. This means that income that you contribute to an HSA is not taxable, the portfolio growth of the account is not taxable, and qualified withdrawals for medical expenses are not taxable. If you remember from retirement accounts, the Roth account is the one where you pay taxes now and get a break later, and the Traditional account is where you get a break now and pay taxes later. An HSA is the best of both worlds, no tax whatsoever.
You may have picked up on the language I used though, that like in the name, an HSA qualified withdrawals are only for medical expenses. The IRS website has a good list of what constitutes qualified medical expenses (https://www.irs.gov/pub/irs-pdf/p502.pdf). As we can see it isn’t only doctors visits and surgeries you can have qualified expenses for, but also smaller things like bandages, birth control, glasses, contacts, therapy, and much more. The average American spends over $12,000 a year on healthcare (source) which means that you will not have problems finding stuff to spend your account funds on.
HSA Requirements
There is one main requirements for being able to contribute to an HSA, you need to be enrolled in a High Deductible Health Plan (HDHP). For 2023, the IRS defines a HDHP as having a deductible of at least $1,500 for an individual, or $3,000 for a family plan (source). Just as a reminder, the deductible is the amount of money you have to pay on services before your insurance kicks in. If your deductible is $1,500 and you get into a bad accident requiring expensive surgery, you will be responsible for paying that first $1,500 before your plan starts kicking in.
One upside of having a HDHP is that the monthly premiums you pay tend to be lower compared to plans that have a lower deductible. Even without an HSA, having a HDHP makes sense for people who have less frequent medical needs and who can afford to pay their deductible if needed. The maximum amount you can contribute to an HSA in 2023 is $3,850. Keep in mind, that contributing to an HSA requires a HDHP
How do You Benefit?
As mentioned earlier, an HSA is triple tax advantaged. If you are in a 24% income bracket and you max out your contribution in tax year 2023, that is $876 that you can avoid in just federal income taxes. In addition to this, while your investments grow in the portfolio you also will pay no taxes (even with assets that pay dividends). And finally, when you withdraw your assets someday for qualified medical expenses, you also pay no taxes. If you are unable to spend enough money on medical expenses (this is unlikely as you age since even nursing homes are HSA eligible), you can treat your account as a Traditional retirement account and just have to pay taxes on the money you take out, as long as you are 65 or older.
You also don’t have to withdraw money from your HSA every time you spend money on qualified medical expenses. If you are well organized, you are able to save the receipts for qualified expenses, and cash them out at a later date. I personally choose to do this so I can have tax free access to funds whenever I need them. In the meantime the account value will continue to grow in the market, and whenever I choose to withdraw or if I need the money, I simply withdraw the assets from my account and mark those receipts as cashed out (In case IRS was wondering what the expenses are from).
Conclusion
If you already have a High Deductible Health Plan, I highly recommend considering open up an HSA account and contributing to it. If you are on a non HDHP plan, then ask yourself if you would be able to meet the deductible of such plan if you needed to. If you can afford the deductible, then consider switching your plan if allowable and contributing some of your money. If you have frequent medical issues, it may make more sense to have a low deductible plan since you would regularly meet your deductible with a HDHP, which would mean that you are unable to contribute to an HSA. If you are healthy and have money to contribute, to me an HSA is a no-brainer.