The Triple Tax-Advantaged Medical Savings Plan – Too Good to Be True?
A Health Savings Account (HSA) is a tax-advantaged account that must be paired with a high-deductible health plan (HDHP). To maximize tax benefits HSA funds are used to pay for qualified medical expenses, including things like prescription drugs, eyeglasses, deductibles, and co-payments. HSA funds may also be available for investment depending on the custodian. Those interested in lower cost plans that provide good investment options should review independent reviews/ratings of popular HSA plans (e.g., Morningstar produces an annual review).
Before opening an HSA, you must first enroll in an HDHP, either on your own or through your employer. An HDHP is “catastrophic” health coverage that pays benefits only after you’ve satisfied a high annual deductible, and as such a HDHP is usually best for those that are relatively healthy. For 2022, the annual deductible for an HSA-qualified HDHP must be at least $1,400 for individual coverage and $2,800 for family coverage. However, your deductible may be much higher, depending on the plan.
An HSA can be a powerful savings tool. Because there’s no “use it or lose it” provision, funds roll over from year to year. And the account is yours, so you can keep it even if you change employers or lose your job. If your health expenses are relatively low, you may be able to build up a significant balance in your HSA over time. You can even let your money grow until retirement, when your health expenses are likely to be substantial.
How can an HSA help you save on taxes?
HSAs offer several valuable tax benefits:
- You may be able to make pretax contributions via payroll deduction through your employer, reducing your current income tax.
- If you make contributions on your own using after-tax dollars, they’re deductible from your federal income tax (and perhaps from your state income tax) whether you itemize or not. You can also deduct contributions made on your behalf by family members.
- Contributions to your HSA, and any interest or earnings, grow tax deferred.
- Contributions and any earnings you withdraw will be tax free if they’re used to pay qualified medical expenses.
How much can you contribute to an HSA?
For 2022, you can contribute up to $3,650 for individual coverage and $7,300 for family coverage if on a HDHP plan all year. This annual limit applies to all contributions, whether they’re made by you, your employer, or your family members. You can make contributions up to April 15th of the following year (i.e., you can make 2022 contributions up to April 15, 2023). If you’re 55 or older, you may also be eligible to make a $1,000 “catch-up contribution” to your HSA account. If you become eligible for an HSA after the beginning of the year your maximum contribution for the year is the annual maximum dollar amount for the year, even though you weren’t eligible for the entire year.
Items to be aware of:
- If you use your HSA funds for expenses that aren’t healthcare related, you’ll pay a 20% penalty for nonqualified expenses. In addition, you’ll owe income taxes. Once you reach age 65, however, this penalty no longer applies, though you will still owe income taxes on any money you withdraw that isn’t used for qualified medical expenses.
- You must remain in the HSA-eligible plan for the entire calendar year following the last month of the year in which you made that contribution to avoid penalties and taxation of contributions.
- If you have relatively high health expenses (especially within the first year or two of opening your account, before you’ve built up a balance), you could deplete your HSA or even face a shortfall.
What if I switch health insurance plans mid-year?
If your new health insurance plan is an eligible high-deductible health plan, you can continue to make contributions to an HSA for that year. Contributions can be made either to your existing HSA or the one sponsored by a new employer. However, if your new health insurance is not an eligible high-deductible plan, then you are able to contribute a prorated amount for the number of full months in the tax year that you were covered by an eligible high-deductible plan. If you have exceeded this amount in contributions, work with your HSA provider to withdraw the excess. Remember that employer contributions made to your HSA are included in the maximum allowable amount.
What about going on Medicare?
In general, if going on Medicare at 65 (even if just Part A) you cannot contribute to an HSA for the month going on Medicare and all months thereafter. Contribution for the months prior to going on Medicare can be made on a prorated basis. There are tricky rules regarding contributions if going on Medicare after turning 65 if one can delay enrollment due to being on a qualified employer health insurance plan having at least 20 employees. To avoid penalties, one should stop contributing to their HSA plan 6 months before enrolling in Medicare if applying after age 65.
Other Benefits to Consider with HSAs
HSA funds may be saved to pay for other future expenses, such as long-term care (LTC) premiums and Medicare Part B and D premiums. If reimbursing for any such premiums one should keep a record of those premiums paid or subtracted from Social Security (e.g., keep SSA-1099 Social Security form showing Medicare Part B premiums paid).
HSA funds can be used for any tax dependent such as children, spouses, or elderly parents. The funds may be used on qualified medical expenses for those individuals. The HDHP can be self-only or a family plan.
We encourage you to review all your tax, financial or legal questions with your CPA, financial professional or Attorney as this blog is meant solely for educational purposes.
Peak Asset Management, LLC is an SEC registered investment adviser. This is not an offer to buy or sell securities. Past performance is not indicative of current or future performance and is not a guarantee. The information set forth herein was obtained from sources which we believe to be reliable, but we do not guarantee its accuracy.
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