Hacking Your HSA

by Sophia Bera on July 19, 2017

If your health insurance plan is a High-Deductible Health Plan (HDHP), you may be eligible to contribute to a Health Savings Account (HSA). Unfortunately, HDHPs and HSAs confuse a lot of people, and it’s important to understand how they work so you can use them to your advantage.

HDHPs are attractive to many people because they have lower premiums in exchange for higher deductibles. That means that while the cost of your health insurance plan is lower, you’re on the hook for more of the cost of your medical expenses. This is where your HSA comes into play. It allows you to set aside money that you can use to pay for those out-of-pocket healthcare costs.

A young, healthy person with few ongoing medical expenses might prefer an HDHP with an HSA because their medical costs are relatively low. However, it might also be a good fit if under your HDHP you know that 100% of your medical costs are covered after you’ve met your high deductible and are anticipating a year with high medical costs (i.e. childbirth or surgery).

The Magic of the Health Savings Account

HSAs offer a triple tax benefit:

  1. You fund the account with pre-tax dollars, which lowers your taxable income.
  2. The money grows in your account tax-free (and can be invested!).
  3. You can make tax-free withdrawals to pay for qualified medical expenses. (If you withdraw money for nonqualified expenses, you’ll pay taxes and a penalty.)

No other account — not your 401(k), not your traditional IRA — offers the level of potential tax benefits that an HSA offers. You and your employer combined can contribute up to $3,500 for an individual or $7,000 for a family in 2019.

Many employers will incentivize their employees to choose the HDHP by making a contribution to the employee’s HSA. If this is your situation, make sure you subtract out the amount of your employer contribution when calculating how much to contribute. For example: if you’re on an individual plan and your employer contributes $1,000, you can make $2,500 in pre-tax contributions.

If you have your own HDHP that is eligible for an HSA and have not set up an HSA for whatever reason, I recommend HealthSavings.com. I like that they have a robust list of Vanguard and DFA funds to choose from. However, their website is not intuitive. If you’re looking for a more straightforward user experience, then I would try HSAbank.com.

There are a few ways to maximize your HSA. Read on to find out why I recommend them so often!

Hack #1: Earn Credit Card Rewards While Strategically Reimbursing Yourself for Medical Expenses

You can reimburse yourself for medical expenses any time after incurring a cost — even years later! So hold onto those itemized receipts.

Here’s how you can use this to your advantage: You might decide that you can afford to cover the cost your medical expenses for the next few years, so you use a rewards credit card to pay for your out-of-pocket medical costs and earn at least 1% cash back or accumulate travel rewards, while holding off on using your HSA debit card.

Meanwhile, the money in your HSA grows tax-free. Ten years from now, your house needs a new roof, and you need to free up a few thousand dollars to pay for it. Still have those receipts handy? Good! You can send them into the HSA provider and reimburse yourself for a few years’ worth of medical expenses with those tax-free HSA contributions. That frees up cash to pay for your roof. It’s almost like having access to an additional emergency fund!

Hack #2: Invest Your Money to Offset Your Medical Costs

Nearly half of HSA account-holders don’t know that money in your HSA doesn’t have to be kept in cash. Much like you can do with a retirement account, you can invest your money for a potentially greater return over time. And since you don’t pay taxes on your contributions or your investment earnings, your money can compound at an even greater rate.

Often times, there is a minimum of $1,000 or $2,000 that you’re required to keep in the cash portion of your HSA and this is linked to your HSA debit card. Above a certain threshold, you can transfer that money into an investment account for your HSA. There’s usually a fund menu of investment options, similar to a 401(k) plan.

One thing I often recommend is keeping enough of your HSA in cash to cover your yearly deductible, and then investing the rest. Opt for low-cost index funds or ETFs to save on fees and diversify your investments. You are taking on investment risk by doing this, but a diversified portfolio invested for a long time can help mitigate the risk.

In some cases, I’ve seen the growth of the investments offset the out-of-pocket medical costs that a client has paid each year!

Hack #3: Use Your HSA Like an IRA

If you’re 65 or older, you can withdraw funds from your HSA for any reason without paying a penalty. You’ll just have to pay taxes on that money. (You can also withdraw money for qualified medical expenses tax- and penalty-free.)

Sound familiar? A traditional IRA works much the same way! Because of this, you can use your HSA as a source of additional retirement savings. Some financial planners actually believe that HSAs are the best type of retirement account (even though they aren’t technically) because you can access the funds tax-free for medical costs at any time!

A friend of mine who is a CFA (Chartered Financial Analyst) is holding off on using any of her HSA until retirement because this is when she anticipates that her medical expenses will be the highest. She wants to be able to invest the funds for the future and is hoping the account will be worth over $100,000 someday to fund her medical expenses in retirement.

Keep in mind that passing an HSA down to an heir can be tricky. If your spouse is your beneficiary, they can use the funds much as you would have done. But if anyone else inherits it, the HSA ends and your heir receives, and is taxed on, the fair market value of the account. Discussing your retirement savings options with a financial planner can help you map out a plan for spending down, or passing down, your money as you get older.