Healthcare costs are going up. Between 2005 to 2014, annual out-of-pocket healthcare spending rose from an average of $2,664 to $4,290. And health insurance premiums were the biggest reason for those costs rising.1 So it makes sense to look for ways to reduce those monthly premiums.
Enter the high deductible health plan (HDHP) and HSAs. HDHPs offer lower monthly premiums than most other insurance plans. And HSAs give you a way to pay for some of your medical expenses with pre-tax dollars. In order to start contributing to an HSA, you must have an HDHP.
If your employer offers this benefit, you may be tempted to check that box during open enrollment. Note, too, that HSAs are also available to self-employed individuals. But first, you need to figure out if an HSA is a good fit for your personal situation.
HSAs offer a number of advantages:
- Contribution choice and flexibility. Contribute as much (or as little) as you want each year, up to the 2018 IRS maximum for individuals ($3,450) or families ($6,900).
- Triple tax benefits. You don’t pay taxes on your contributions. Your account grows tax-deferred. Withdrawals are tax-free as long as you spend the money on qualified medical expenses.
- Employer contributions. As an added benefit, many employers will make extra contributions to your HSA to help encourage you to save and reward healthy behaviors. If your employer contributes to your HSA, you never have to pay taxes on these dollars if you use them for qualified medical expenses.
- Full account ownership. You own and control 100% of your HSA, including any employer contributions and earnings. You can take it with you when you change jobs, and no vesting requirements apply. If you stop participating in a HDHP in the future, you can still keep the balance in the account, although you won’t be able to make any new contributions.
- Investment choice. You usually have the option to invest your HSA money just as you would a 401(k) or IRA. Some providers may have a minimum account balance you have to accrue before you can do so. Investing your HSA can potentially help your account grow, which is particularly valuable if you are using your HSA to build up money for later-in-life healthcare expenses.
- No spending requirements. You don’t have a time limit for spending the money in your HSA. Unspent funds remain in your account, which can help build your savings balance over time. This can be helpful if you anticipate larger medical expenses in the future. This also allows you to use an HSA for retirement planning purposes. If you aren’t using your HSA funds regularly now, you may be able to build up a nice nest egg to cover healthcare expenses when you retire.
- High deductibles. While the upsides of HSAs are compelling, the HDHP requirement could make it a mismatch for some people. An HDHP requires you to pay for all medical costs up to your deductible, which can be as high as $10,000. While an HDHP’s lower premiums can help offset these out-of-pocket expenses, you need to be prepared for them. This is why it’s important to have an HSA or other savings available to help you cover your expenses — and why it pays to plan your contributions accordingly, so you don’t get caught short.
- Age limits on contributions. Once you hit age 65, you can no longer contribute to an HSA. But you can use accumulated funds to pay for qualified medical expenses even if you’re on Medicare.
- Penalties and taxes on non-medical withdrawals. If you spend HSA money on something other than medical expenses, you’ll owe income tax on what you spent plus a 20% penalty if you’re under age 65. If you’re over age 65, you won’t pay the penalty, but you’ll still owe the income taxes.
- Avoiding care to save money. Another risk with an HDHP is a tendency to avoid medical care. A recent study found that people with HDHPs had fewer outpatient office visits2 — and this trend held true for workers at all income levels. Staying away from the doctor simply because you don’t have the cash (or don’t want to spend it) could lead to even more medical issues.
Weigh your options.
A health savings account may be beneficial if you:Are relatively young and in good health.
- Are relatively young and in good health.
- See doctors only occasionally and have a history of fairly low medical expenses.
- Aren’t expecting significant medical costs in the near future.
- Want to save for the long-term.
- Are looking to reduce insurance premiums.
- Have the financial resources to pay out-of-pocket for everything except major medical costs.
Remember, it’s not enough to consider whether the HSA could benefit you — you also need to decide if an HDHP is right for you, since you’ll have to have one to open an HSA. You may want to think twice about signing up for a high deductible plan if you:
- Visit the doctor often, whether it’s due to a chronic medical condition or other reasons.
- Expect to have expensive medical procedures in the near future that you aren’t prepared to pay for out of pocket.
- Engage in high-risk activities that increase your chances of major injuries.
- Prefer the peace of mind that comes with having low-deductible insurance coverage.
Each of your open enrollment benefit decisions require some research and calculations to find the option that works best for your situation. Look at your past medical expenses and think about what may be coming around the bend to decide if an HSA makes sense for you.