What Is An HSA?: A Guide To Health Savings Accounts
In the United States, many people are one health issue away from major debt. Millions of Americans struggle to pay off their medical expenses because of the high cost of healthcare and insufficient health insurance coverage. You don’t have much control over those things, but you can spend less out-of-pocket if you know your options.
One often-overlooked option is the HSA or health savings account. In this article, we’ll take a look at what an HSA is, who can open one, and its pros and cons.
What Is A Health Savings Account?
A health savings account (H.S.A.) is similar to a personal savings account, except the money is used to pay for qualified medical expenses. HSAs come with tax advantages that let you keep more of your money in case of medical emergencies. Both you and your employer can contribute to this account, but it’s wholly owned by you. Also, HSAs never expire, and you get full access to the funds without penalty once you retire.
You can only open an HSA if you also have a high-deductible health plan (HDHP). The HSA is designed to cover any costs that are over the coverage limits of your health plan. If you have another health plan but would like to have an HSA as well, you need to switch to an HDHP first.
How Does An HSA Work?
People with high-deductible health plans have to pay more out of pocket for their medical expenses, but the trade-off is lower monthly premiums. If you get sick, you’re on the hook for any costs up to your annual deductible, then the health insurance company pays a percentage of the rest (usually 80-90%, but it depends on your health plan).
You can use an HSA to pay for qualified medical expenses that aren’t covered by your health insurance provider. For example, if you have a $2,000 deductible and a $5,000 hospital bill, your health insurance might cover only $2,400. Your HSA can pay for some or all of the remaining balance of $2,600.
You can contribute to your HSA any time you want up to the annual limit. In 2020, that amounts to $3,550 for a self-only health plan and $7,100 for a family health plan. Instead of health insurance, your employer may offer HSA contributions instead. Any money that your employer deposits into your HSA counts towards your annual limit. If you are 55 years old or older by the end of the tax year, you can contribute an additional $1,000.
What Can You Use HSA Funds For?
The maximum out-of-pocket amount that HSA covers is $6,900 for an individual and $13,800 for families. While you generally can’t use HSAs to pay for your health insurance premiums without a tax penalty, you can use it to pay for qualified medical expenses such as:
Health insurance deductibles
If you don’t use any of the funds in your HSA this year, it will roll over into next year. Any interest you earn on your deposits is tax-free, so your emergency healthcare fund increases as long as you leave it in your account.
Since the money in your account never “expires”, some people use HSAs as a retirement fund. If you are over the age of 65, you can withdraw your HSA funds for any reason without any penalty. However, any non-medical withdrawals will be taxed as income.
You can technically use your HSA to pay non-medical expenses even before the age of 65, but your withdrawals will be subject to both income tax and an additional penalty of 20%.
Who Qualifies For A Health Savings Account?
If you have a qualified high-deductible health plan, you can open HSA accounts on your own or through your employer. Health plans with a deductible of $1,400 for individuals or $2,800 for families may be eligible. You also cannot have any other health insurance (including Medicare) and are not claimed as a dependent on another person’s tax returns.
Should You Get A Health Savings Account?
Like all health plans, there’s no one-size-fits-all answer here. HSAs are best for people who are generally healthy and don’t expect to have any major healthcare costs in the next year. They’re also good for those nearing retirement age since the funds can be used to offset qualified medical expenses after retirement.
Here’s a table that breaks down the pros and cons of an HSA:
You have control over the money in your account.
You have a high deductible through the HDHP, which is necessary to be eligible for an HSA.
You get to decide when and for what to use the money.
You can only use the money for qualified medical expenses if you don’t want to pay taxes/penalties.
Your employer (and other parties) can contribute to your HSA.
You have to keep receipts/documentation to prove that you spent the money on qualified expenses.
Employer contributions are made with pre-tax dollars, so they’re tax-free.
Your HSA relies on contributions, which many people (especially the sick and elderly) cannot make regularly.
You still own your HSA even if you change jobs or become unemployed.
You may feel pressured to save, which could result in you avoiding necessary medical care.
The money in your HSA account never expires.
It’s impossible to predict accidents/illnesses, which makes it difficult to budget for healthcare.
Any interest you earn on your HSA contributions is tax-free.
HSA contributions are tax-deductible until the annual limit.
Some HSA providers allow you to invest your money in stocks, mutual funds, etc.
You get a debit card, which allows you to pay for necessary healthcare immediately.
HSA vs Flexible Savings Account: Which Is Better?
HSAs are often confused with or compared to flexible savings accounts or FSAs. Both types help you pay for healthcare expenses, but there are a few major differences that you need to take note of:
If you don’t use the money in your FSA, you forfeit it at the end of the tax year.
You decide how much you want to contribute to your HSA. With an FSA, your contribution amount is fixed. If you want to change it, you have to wait until the next tax year.
You don’t need an HDHP to qualify for an FSA.
For people with high insurance deductibles, HSAs are a great way to offset healthcare costs and pay less out-of-pocket. Plus, the interest that you earn is tax-free, which means that it’s a viable alternative to an individual retirement account or IRA.
Need help in deciding whether an HSA is right for you? Wesley LLC can help you review your options and find the best providers. Contact us today to learn more!