Health Savings Accounts as a Retirement Strategy

Many of our clients have asked about Health Savings Accounts (HSA). Volumes have been written about the program. Here is a brief summary of HSAs, which were established as part of the Medicare Prescription Drug, Improvement, and Modernization Act signed into law by President George W. Bush on December 8, 2003. They were developed to replace the Medical Savings Account system.

Health Savings Accounts have become more popular over the last few years and are expected to continue to grow as a result of the Affordable Care Act with enrollments topping 7 million. HSA-compliant health insurance plans account for nearly 20% of the offerings on the new health exchanges. In addition, large companies are accelerating adoption of HSA plans and participants and fast-growing private exchanges are choosing HSA plans more than 50% of the time, according to industry reports.

What is a Health Savings Account?

A Health Savings Account allows individuals to pay for current health expenses and save for future qualified medical and retiree health expenses on a tax free basis. To be eligible for a Health Savings Account, an individual must be covered by an HSA Qualified High Deductible Health Plan (HDHP), must not be covered by other health insurance, cannot be enrolled in Medicare, and can’t be claimed as a dependent on someone else’s tax return.

  • 2014 High deductible health plan For calendar year 2014, a “high deductible health plan” is defined under § 223(c)(2)(A) as a health plan with an annual deductible that is not less than $1,250 for self-only coverage or $2,500 for family coverage, and the annual out-of-pocket expenses (deductibles, co-payments, and other amounts, but not premiums) do not exceed $6,350 for self-only coverage or $12,700 for family coverage.
  • 2014 Annual contribution limitation For calendar year 2014, the annual limitation on deductions under § 223(b)(2)(A) for an individual with self-only coverage under a high deductible health plan is $3,300. For calendar year 2014, the annual limitation on deductions under § 223(b)(2)(B) for an individual with family coverage under a high deductible health plan is $6,550.

(Account holders, who are 55 or older, can make an additional catch-up contribution to their own account. The maximum “catch-up” contribution to an HSA is $1,000.)

Who can contribute to a Health Savings Account?

Contributions to HSAs can be made by either the employer or the individual, or both. If contributions are made by the individual, it is an “above-the-line” deduction, which is a tax deduction that individuals subtract from their gross income to arrive at Adjusted Gross Income. If contributions are made by the employer, it is not taxable to the employee (excluded from income). Contributions can also be made by others on behalf of an eligible individual and deducted by the individual. All contributions are aggregated.

HSA & Retirement Planning

One thing that may make these accounts interesting to HFA clients as a retirement strategy is there are no income limits or phase-outs for the tax deductions; this makes HSAs especially attractive to high-bracket clients. The deductions are above the line on clients’ tax returns, which can help clients who are facing a loss of tax benefits keyed to Adjusted Gross Income or modified AGI. HSA deductions can also reduce exposure to the 3.8% surtax on net investment income.

In addition, once the account holder has reached age 65, HSA funds can be distributed for non-Qualified Medical Expenses (QME). Similar to traditional IRA distributions after age 59-½, these distributions would be subject to taxes but no penalty. This means there may be opportunities to piggyback an HSA with a traditional IRA or 401k plan to maximize retirement savings. Because there is no Required Minimum Distributions (RMD) as you would have with a traditional IRA, these accounts can offer tax deferred growth for a potentially longer period of time.

The Bottom Line

There are different types of investment options within the HSA and these plans can be somewhat complex to set up. This article covers the highlights of this subject and should not be construed as tax advice. For more information, either contact our office (610-651-2777) or your plan administrator.