MacGyver was resourceful, as you are resourceful.
The plucky polymath from the action-packed TV show could take any household items at his disposal – paperclips, a piece of chewing gum, some Duct tape, a Swiss Army Knife – and build a highly effective device to save the day. Similarly, as you plan for retirement, you essentially have to assemble various assets to create an effective, sustainable income stream.
Retirement income can come from a variety of sources. Common ones include Social Security, employer-sponsored plans (401(k), 403(b), etc.) and pensions. But some assets are not as obvious as potential retirement tools. One of which is the health savings account (HSA).
An HSA is a savings and investment account available to people in high-deductible health plans (HDHP) to help pay for out-of-pocket medical costs. To qualify for an HSA, you must be part of an HDHP with no other health insurance and have yet to qualify for Medicare. Also, you cannot be claimed as a dependent on someone else's tax return.
Although designed for medical needs, HSAs have various features, such as greater tax advantages than other investment accounts, that make them a valuable asset in retirement.
Here are 5 reasons to consider an HSA as part of your retirement income plan.
1. HSA contributions are tax-deductible
Contributions to an HSA are made with pre-tax dollars, which can lower the amount of federal and state income taxes you owe. (Note: a few states do tax HSA contributions, so check your state’s tax laws.) Further, HSA contributions are not subject to FICA taxes, nor do any employer contributions count as taxable income.
Annual maximum HSA contributions in 2023 are $3,850 (self-only coverage) and $7,750 (family). Individuals age 55 or older can also make an annual “catch- up” contribution of up to $1,000. There are no income limits on the amount you can contribute.
You can contribute to an HSA until age 65, when you are eligible for Medicare. That means you can save and invest in an HSA over many years to help increase your income pool for retirement, as long as you can keep from touching the money.
2. HSA funds can grow tax-free
The funds in your HSA grow tax-free. That’s right. You do not pay taxes on any interest, dividends or capital gains you earn.
3. HSA withdrawals are tax-free for qualified medical expenses
You do not owe taxes on money withdrawn from an HSA to pay for qualified medical expenses. These range from hospital bills and insurance deductibles to Medicare premiums and long-term care services.
This is an important advantage of an HSA over a traditional 401(k) or IRA as it relates to retirement. You pay income taxes on withdrawals from those accounts no matter how you use that money.
Health care will likely be one of your largest expenses in retirement. A 65-year-old couple retiring this year should expect to spend about $295,000 on health care costs alone in retirement, according to Fidelity Investments’ most recent Retirement Health Care Cost survey. So, an HSA is the best thing to have for health care costs in retirement, compared with withdrawing from other retirement accounts that would trigger taxable income.
Altogether, the triple tax advantage – tax-deductible contributions, tax-free growth and tax-free withdrawals for qualified medical expenses – of an HSA make it a highly valuable retirement asset.
Of course, you can save in an HSA for more than just medical needs. However, that money is taxed as ordinary income just like a traditional 401(k) or IRA. And, if you use that money for anything else before you’re 65, you are subject to a 20% penalty on top of income taxes on those funds.
4. HSAs are not subject to RMDs
In most retirement accounts, you must begin taking required minimum distributions (RMDs) every year, starting at age 73. With an HSA, you can leave those funds untouched for as long as you like.
5. Don’t lose it, if you don’t use it
Funds in an HSA can be carried forward year after year. Unlike a flexible spending account (FSA), you won’t lose it if you don’t use it. What’s more, HSAs are fully portable. As the account owner, you get to take it with you upon changing jobs or leaving the workforce.
Opening an HSA
Now that you know what makes an HSA a useful retirement income source, it is important to recognize what an HSA is not: right for everyone. Again, to access an HSA you must join a high-deductible health plan (HDHP). An HDHP makes the most sense for people who are healthy and rarely need treatment, or those who have the economic means to afford the high expenses.
The original purpose of an HSA is to help people cover out-of-pocket medical expenses with a tax break. Looking at an HSA as an investment tool makes sense only if you are confident you can pay those out-of-pocket costs with other funds. That way you can let the account balance grow and then take advantage of the tax breaks in retirement.
When one “MacGyvers” a solution to a problem, one finds a simple yet elegant solution to something using existing resources. From an HSA to your home, you likely have a variety of existing resources that can help you generate income or control taxes in retirement. Instead of improvising though, creating a personalized retirement plan can solve your retirement challenges without any of the suspense.
Are you nearing retirement and looking for ways to maximize your assets for long-term income? There are a variety of steps that will help you prepare for retirement. This ebook, Your Money in Your 50’s, documents the important things to have in place as your retirement date nears.
