Deciding between health care options can be a real drag when open enrollment comes around.
If you’ve spent any time Googling, you might be more confused now than when you started. If you’re leaning toward a health savings account — but you’re like, “I still don’t know if it’s right for me” — then keep reading.
A health savings account, or HSA for short, is a savings account for medical expenses. But it’s so much more than a savings account you’d get from your bank or through your retirement plan.
How Does an HSA Work?
Congress approved HSAs in 2003 to help consumers offset the cost of health care in high-deductible insurance plans.
To qualify for an HSA, you must have a plan with a deductible of at least $1,300 for an individual, but no more than $6,550; for families, the deductible must be at least $2,600, but no more than $13,100.
You can have any money you put into an HSA deducted from your paycheck tax-free. Once you have $2,000 in your account, you can invest it in mutual funds that grow the same way they would in a retirement or investment account.
Any money you withdraw for medical expenses is tax-free forever. Nonmedical withdrawals are subject to taxes and a 20% penalty.
If you don’t use it all by age 65, you’ll pay income taxes on the amount you withdraw for nonmedical expenses. However, you can use the money for medical expenses without penalty.
You heard that right: tax-free investing, tax-free growth and tax-free withdrawals for medical expenses.
Plus, unlike the “use-it-or-lose-it” flexible spending account, an HSA lets you roll over what you don’t spend to the next year.
You’re probably thinking, “That HSA sounds sweet! I’ll go with that and put enough in to cover my super-high deductible!”
Woah now. Let’s see how to take full advantage of this thing. Here are five ways to get the most out of your HSA.
1. Max Out Your Contributions
The best place to start is maxing out your HSA every year.
“A dollar saved today in an HSA has the potential to grow much faster and with better tax efficiency than other accounts,” said Matt Hylland of Hylland Capital Management.
At a 6% growth rate, someone saving the maximum of $3,450 a year for 30 years would contribute just over $100,000 to their account. But thanks to compounding interest, the account would grow to nearly $290,000!
Historically, HSA contribution limits have risen about $50 every year, so your account could be worth even more than $290,000 after 30 years if you max it out every year.
2. Have Your Contributions Deducted Straight From Payroll
When you have your HSA contributions automatically deducted from your paycheck, not only do you put your savings on autopilot, but you also get a little extra tax break.
Kevin Han from Financial Panther learned this one firsthand.
“When I started utilizing an HSA, I just contributed to it without doing payroll deductions,” he said.
But when you contribute through deductions, you don’t have to pay FICA taxes, i.e., Social Security and Medicare. “I realized that contributing to my HSA with payroll deductions could save me that little extra percent,” Han said.
Even 401(k) contributions, which are pretax, are subject to Social Security and Medicare taxes, so HSA contributions are one of the only ways to avoid them. The deductions can be set up easily through your company’s benefits portal.
While HSAs are exempt from federal income taxes and FICA, they aren’t exempt from state income taxes in Alabama, California, New Jersey and Wisconsin.
3. Pay for Medical Expenses Out of Pocket
HSAs have no restrictive windows for reimbursement. As long as the expense was incurred after you set up your HSA, you can be reimbursed for it at any point in the future, even if you leave your job or switch plans.
The HSA is yours forever, and any medical expenses you incur from that day forward are reimbursable. So if you’ve got enough in savings to pay for medical expenses out of pocket, you could leave your HSA untouched and let it grow with the market.
Let’s say you have $5,000 in your HSA and incur a $2,000 medical expense. You can take that out of your HSA now, or pay out of pocket and let that $2,000 grow. If you leave it in there for one year at a 6% return, you’ll make $120. That’s $120 that can continue to compound in your HSA even if you take the $2,000 out after a year.
Digitally save receipts for qualified medical expenses for yourself, your spouse and any dependents. (Yep! It’s not just for the owner of the account!) Qualified medical expenses can be anything from acupuncture to X-rays.
This is especially useful if you want to use your HSA but don’t have enough funds in it to cover the full cost of the procedure. You can wait until you can contribute more or it grows to cover the full expense, then submit for reimbursement.
You can request a reimbursement from your HSA bank at any time and submit copies of your receipts to the IRS, along with Form 8889 in the year you’re reimbursed.
HSA administrator Shonna Walker takes it even further. She suggests you pay for medical expenses out of pocket using a credit card that earns cash back or travel points. If you need to be reimbursed, at least you’ve earned cash back or points!
4. Reduce Medical Expenses
There are obvious benefits to letting your money grow tax-free in your HSA, but the elephant in the room is how do you afford to do that?
Reducing your medical expenses is key. Some things you can do to achieve this include:
“Keep your own copy of your medical records and ask for copies of any test results,” suggests Michael Dinich, the financial adviser behind Your Money Geek. “Having your files with you can cut down on some appointments needed and having recent tests handy can reduce the need for costly redundant diagnostic tests.”
5. Switch Plans When You Need to
If you can plan ahead during open enrollment for big expenses, such as pregnancy or surgery, do the math to see if switching plans will actually save you money.
“This is hard to exactly time, but if you know you are trying to start a family, looking to get a medical procedure done, or even after you have a newborn, switch to a non-HSA plan,” said Ryan Miyamoto of Derive Wealth. “This will lower your out-of-pocket expense, but you still can keep your HSA account.”
You might even find that the lower premium payments of a high-deductible plan coupled with out-of-pocket expenses could be cheaper than the steep premiums of low-deductible plans.
The good news is you’re not committed to any plan for life.
Jen Smith is a junior writer at Codetic, not a CPA. She gives tips for saving money and paying off debt on Instagram at @savingwithspunk.