HSA Hacks: The Most Powerful Retirement Savings

Health Savings Accounts or HSA’s are typically perceived as being – well, savings accounts for people enrolled in a High Deductible Healthcare Plan (HDHP), like you would have at a bank that can help you pay for your health care expenses.

And that’s entirely true. They can do that. If you are enrolled in a HDHP (which is a requirement to contribute to an HSA), you can contribute money on a pre-tax basis, meaning that those funds are not subject to federal income tax, state income tax, or FICA taxes. When you withdraw the funds, if you use the money to reimburse yourself for qualified medical expenses, those distributions are not considered income and are not subject to taxes then either. Double tax advantaging is pretty sweet, right?

But wait, there’s more.

HSA’s can not only hold cash, but those funds can actually be invested and grow over time. So instead of just spending that money right away, you could invest those funds instead, allowing them to compound and grow for years. Not only is the principal in the account tax free if it is reimbursing qualified medical expenses, but the growth is ALSO tax free for a qualified distribution.

Mind blown yet? Hold onto your butts folks . . .

Another important feature of HSA’s that goes along with the double tax advantaging is the timetable for when reimbursements can take place. As long as the expense occurs after the HSA is established, you can reimburse yourself for that expense at any time, so long as you have documentation supporting the expense (and you don’t reimburse yourself multiple times for the same expense – that’s fraud!). Again, when you reimburse yourself, even for a qualified medical expense several years ago, the distribution is not considered income and is not subject to taxes.

So now wait a minute. You’re saying that instead of just holding the funds in cash, we can invest them instead, and then they can grow and compound over time. Meanwhile, I can pay out of pocket my medical expenses, but keep the receipts, and then years if not decades later I can reimburse myself, out of a potentially much larger pool of money if my investments grow, and go on vacation to Mykonos or Bali or Playa del Carmen, and that reimbursement/my really sweet vacay would be tax free, no income?

Yep. That is precisely how that would work.

That seems . . . wrong . . . like really kinda busted.

Yep. Oh and by the way, HSA’s are not a qualified retirement account, so there is no requirement to withdraw the funds at any time.

Want to let them grow past your 70’s? You can do that.

Want to have ample funds for long-term care much later on in life? Done.

And if you don’t need the funds for medical expenses, what happens? If you are age 65 or older and withdraw funds for non-medical expenses, those distributions are taxed as ordinary income, just like you receiving distributions from your 401(k). 

Now this all sounds amazing, and it really kinda is, but there are a couple of downsides I must point out. First, if you withdraw the funds for non-medical expenses prior to age 65, not only do you pay income taxes on those funds but you also pay a 20% penalty. That’s an ouch!

Second, in order for these strategies to work, you are paying out-of-pocket for your medical expenses initially, with the idea of letting that savings grow. This strategy will not work “as” optimally if you withdraw the funds earlier instead of later, and could potentially result in you losing money depending on the condition of the market, which is worth noting. That said, you can also think of this as a sort of secondary emergency savings, where if you were to go through a major hardship to the point where you ate through many months of cash savings, you could still use the reimbursement trick as a secondary means of carrying you through a really rough period without adding more income (and thus more taxes) while at the same time avoiding touching your retirement accounts (which would likely result in additional taxes and potentially tax penalties). So in a sort of way, this is actually another clever way not just to build offense, but to provide additional defense of the household balance sheet.

Third, you need to make certain that you save your receipts for your medical expenses in a place, or perhaps multiple places, to keep them safe and secure. We strongly recommend scanning/taking pictures of them and saving them into cloud/digital storage, preferably with a backup available, because if you lose this information, you lose your ability to reimburse because you won’t be able to prove what you are reimbursing for. Save those receipts and invoices so you can be completely reimbursed later on tax free.

Finally, keep in mind that for 2023, the self-only HSA contribution limit is $3,850 and the family limit is $7,750 – the HSA must be opened and funded by April 15th, 2024. For 2024, the contribution limits jump to $4,150 for individuals and $8,300 for family coverage. That is both a ton of tax avoidance and a ton of potential tax-free earnings you can be taking advantage of if you plan accordingly. Keep in mind that you do not need to use your employer’s HSA in order to have one – as long as you are enrolled in an HDHP, you can open an HSA separately, fund it with post-tax dollars, and then come tax time you’ll report on your tax return that you contributed to an HSA and you’ll receive those taxes paid in your tax filing.

As we head into another workplace benefits season, one of our key jobs as planners is to help clients navigate important decisions about things like health care benefits and HSA’s, as well as a whole host of other topics pertaining to how money is saved, invested, and working toward your goals and building a stronger future with you. If that sounds like something you’re interested in, consider reaching out for a free consultation and let us know about your financial situation and how we can be of help. Thanks for reading and I hope you find this edition of The Briggs Blog to be helpful (though remember that this article is for general informational purposes and should not be construed as personalized advice or a recommendation).