Whether you are young, old, starting a family, or retiring, you are likely being impacted by rising health care costs. According to one study, medical costs are expected to increase by 6.5% through 2017, much higher than the pace of general economic inflation. In addition, the average deductible for people with employer-provided health coverage has more than tripled over the past decade, from $303 in 2006 to $1,077 in 2015 (benetworthy.com).
One of the increasing trends to plan for rising costs of health care is the number of people choosing to be on a High Deductible Healthcare Plan (HDHP) where they have the ability to save in a Health Savings Account (HSA). You can sign up for an HSA through your employer’s health plan or on your own. They can be funded through direct deposits from your paycheck or self-directed contributions to your account. Here are the powerful short and long term tax advantages that have made HDHP’s and HSA’s so attractive.
Not only are all your contributions tax-deductible for the year that you make them, but they are also tax-free when withdrawn for qualified medical expenses. In case a light bulb didn’t just go off inside your head, let me repeat that. As long as you use the money on qualified medical expenses, not only are your contributions tax-deductible, but your money grows tax-free and withdrawals are tax-free.
There is likely not another tax opportunity like this! Like all tax deals, the IRS puts a limit on how much you are allowed to benefit. For 2017, the contribution limits are $3,400 for individuals and $6,750 for a family, with an additional $1,000 catch-up provision for those age 55+ (Learnvest.com).
Most people use a debit card linked to their HSA to pay for out-of-pocket medical expenses throughout the year. If you don’t use the entire account, your funds will accumulate year after year, and you may have the option to invest a portion in mutual funds, depending on your HSA provider. A good rule of thumb is to keep a year’s worth of healthcare expenses in cash—if you are actively funding the account--and invest the rest for growth. This provides the opportunity to pay for all your medical expenses with completely tax free dollars.
In certain situations, you might benefit from paying all medical expenses out-of-pocket, allowing the entire HSA to remain invested for long-term growth. Consider that if you invested $6,750 each year and it compounded tax-free with 7% returns. After 10 years you would have access to $93,000 of tax-free money. After 15 years, you would have $170,000!
This will put you in a position to cover future and/or retirement health care expenses with tax-free dollars, particularly during a time of life when those expenses may be elevated. The list of qualified health expenses is vast, ranging from doctor visits, co-pays and prescription drugs, to vision care, orthopedic shoes, hearing aids, long-term care insurance premiums (limited) and Medicare parts A, B, C and D.
With this potential, an HSA doesn’t have to be just a healthcare account, it can also serve as a supplemental retirement account--one you never knew you had. As a financial planner, it excites me to help clients identify opportunities like this to plan for their financial future.
Do you have access to an HSA? Are you maxing it out? How else could you be better planning for your financial future?
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