The Triple Play Tax Benefits of HSAs

As we welcome the Boys of Summer back for the 2023 MLB Season, I am spending some of my time finalizing my taxes and reflecting upon the tremendous triple tax advantages of HSAs. Why do higher-income households inquire about Health Savings Accounts? They have heard about what an HSA can potentially offer them: a pool of tax-exempt dollars for health care, a path to tax savings, even a possible source of retirement income after age 65. You may want to look at this option yourself.

You must enroll in a high-deductible health plan (HDHP) to have one, a health insurance option that is not ideal for everybody. You fund an HSA with tax-free contributions. Some employers will even provide a matching contribution on your behalf.

HSAs offer you three potential opportunities for tax savings. Your account contributions are tax free (that is, tax deductible), the earnings in your account grow tax free, and you can withdraw funds from your HSA, tax free, so long as they are used to pay for qualified health care expenses, such as deductibles, co-payments, and hospitalization costs. (HSA funds may not be used to pay health insurance premiums.)

HSA Tax Benefits. A large draw for many are the tax benefits inherent to HSAs:

• Contributions through an employer are always pretax
• You can invest the funds after your account balance reaches a certain level
• Distributions for qualified health expenses aren't taxable

At age 65, you can even turn to your HSA for retirement income. Current federal tax law allows an HSA owner 65 and older to withdraw HSA funds for any purpose, penalty free. You can use an HSA to pay Medicare premiums (other than premiums for a Medicare supplemental policy, such as Medigap) or Long Term Care insurance premiums. No Required Minimum Distributions (RMDs) are ever required of HSA owners. Keep in mind, however, if you take a distribution that is not used for a qualified medical expense, the money may be taxable and a penalty could apply, depending on your age.

Why is an HSA less attractive for some people? Well, the first thing to mention is the related high-deductible health plan. When you enroll in one of these plans, you agree to pay all (or nearly all) of the cost of medicines, hospital stays, and doctor and dentist visits out of your pocket until that high insurance deductible is reached. If you are a senior (or a younger adult) with a chronic condition or illnesses, you may end up spending all of your annual HSA contribution and reducing your HSA balance to zero year after year. That inherently works against one of the objectives of the HSA – the goal of accumulation, of growing a tax-advantaged health care fund over time.

Additionally, unlike a Flexible Spending Account (FSA), which is funded with pretax dollars but must be used by a specific deadline, HSA contributions can remain in your account to be used for future medical bills at any time. In short, this means there is no "use it or lose it" penalty.

Keep in mind that if you spend your HSA funds for non-qualified expenses before age 65, you may be required to pay ordinary income tax as well as a 20% penalty. After age 65, you may be required to pay ordinary income taxes on HSA funds used for non-qualified expenses. HSA contributions are exempt from federal income tax; however, they are not exempt from state taxes in certain states.

If you would like to explore opening an HSA, consult a comprehensive financial advisor or other insurance professional to see if you can enroll in a qualified HDHP. If your employer currently offers a HDHP, they are also likely aligned with an HSA provider.  The HSA contribution limits for 2022 are $3,650 for single coverage and $7,300 for family coverage. Those 55 and older can contribute an additional $1,000 as a catch-up contribution. And if you are looking for last minute ways to reduce your 2022 taxes, take a moment to make certain that you maxed out your HSA contribution for the 2022 tax year, if not, you can top it off right up to your filing deadline, April 18th, 2023.

This content is developed from sources believed to be providing accurate information, and provided by Twenty Over Ten. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.