Should You Use a Tax-Advantaged Account Like an HSA?

Should You Use a Tax-Advantaged Account Like an HSA?

Health Savings Accounts (HSAs) are becoming increasingly popular as a tax-advantaged tool for managing healthcare costs and building long-term savings. But is an HSA right for you? If you’ve ever wondered about the benefits, the rules, or how to maximize your HSA, this guide will give you the clarity you need.

In my experience, clients are often surprised by the flexibility and triple-tax advantage HSAs offer. When used strategically, they can help you save on taxes, cover medical expenses, and even grow a significant nest egg for future healthcare needs.

By the end of this article, you’ll understand:

• How HSAs work and their unique tax advantages.

• What qualifies as an HSA-eligible expense, including nontraditional items like saunas or acupuncture.

• How to set up an HSA if your employer doesn’t offer one.

• Strategies to maximize your HSA, even as a business owner.

Why Listen to Me?

As a CERTIFIED FINANCIAL PLANNER™ professional, I’ve helped clients use HSAs to save on taxes, invest for the future, and manage healthcare expenses. Investors I’ve worked with often tell me they wish they’d started using an HSA sooner, especially after realizing how it complements their broader financial strategy.

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Key Takeaways

• HSAs provide a triple-tax advantage: contributions are tax-deductible, growth is tax-free, and withdrawals for qualified medical expenses are tax-free.

• Qualified expenses include traditional healthcare costs, as well as some wellness-related services like acupuncture and chiropractic care.

• You can open an HSA independently if your employer doesn’t offer one, provided you have a high-deductible health plan (HDHP).

What Is an HSA and How Does It Work?

An HSA is a tax-advantaged savings account designed to help individuals with high-deductible health plans (HDHPs) save for medical expenses. Contributions are made with pre-tax dollars, and the funds can be used to cover qualified healthcare expenses tax-free.

The Triple-Tax Advantage

1. Tax-Deductible Contributions: Contributions reduce your taxable income.

2. Tax-Free Growth: Funds grow tax-free through interest or investment earnings.

3. Tax-Free Withdrawals: Withdrawals for qualified medical expenses are tax-free.

Qualified HSA Expenses

HSAs can be used for a wide range of medical expenses, including some you might not expect. According to IRS guidelines, qualified expenses include:

• Doctor visits and prescriptions

• Dental and vision care

• Mental health services

• Alternative treatments like acupuncture and chiropractic care

Wellness Expenses

In my experience, clients often ask about gray areas like saunas or gym memberships. While these typically don’t qualify, certain wellness expenses prescribed by a doctor—such as massages for medical conditions—may be eligible.

How to Prove It’s a Qualified Expense

• Receipts and Documentation: Keep detailed receipts and, if applicable, a doctor’s note to substantiate the expense.

• HSA Provider Statements: Most HSA providers offer tools to track and categorize expenses.

Why Are HSAs Becoming More Popular?

HSAs were introduced in 2003 as part of the Medicare Prescription Drug, Improvement, and Modernization Act, but their popularity has surged in recent years.

Key Reasons for Growth

1. Rising Healthcare Costs: HSAs help offset high out-of-pocket expenses.

2. Flexibility: Unlike Flexible Spending Accounts (FSAs), unused HSA funds roll over year after year.

3. Long-Term Savings Potential: HSAs can double as investment accounts, offering growth opportunities similar to IRAs.

Can Employers Contribute to Your HSA?

Yes, employers can contribute to your HSA, and these contributions are not considered taxable income. This makes HSAs even more appealing as part of a comprehensive benefits package.

Contribution Limits (2024):

• Individual: $4,150

• Family: $8,300

• Catch-Up Contributions (Age 55+): $1,000

Pro Tip: If your employer offers contributions, treat them as “free money” and ensure you’re maximizing your contributions to reach the annual limit.

What If Your Employer Doesn’t Offer an HSA?

If you have an HDHP but no employer-sponsored HSA, you can open one independently. Providers like Fidelity, Lively, and HSA Bank offer accounts with low fees and investment options.

For Business Owners

If you’re self-employed or a small business owner, you can still take advantage of HSAs by setting one up independently. In my experience, business owners find HSAs particularly valuable for managing healthcare costs while lowering taxable income.

HSA Investment Opportunities

HSAs aren’t just for saving—they’re also for investing. Many HSA providers allow you to invest your funds in mutual funds, ETFs, or other securities once your balance reaches a certain threshold.

How It Grows Tax-Free

1. Contributions reduce your taxable income.

2. Investment earnings grow tax-free.

3. Withdrawals for qualified expenses remain tax-free.

What Happens If You Use HSA Funds for Non-Medical Expenses?

If you withdraw HSA funds for non-medical expenses:

• Before Age 65: You’ll pay income tax plus a 20% penalty.

• After Age 65: You’ll pay income tax but no penalty, making it similar to a traditional IRA.

Future Enhancements for HSAs

While no major changes are currently scheduled beyond 2025, there is ongoing discussion about increasing contribution limits and expanding eligible expenses to include more wellness-related items.

Case Example: Maximizing an HSA

Scenario: Sarah, 45, contributes $4,150 annually to her HSA and invests the funds in a diversified portfolio earning 7% annually. She pays her medical expenses out of pocket to allow her HSA to grow.

Results After 20 Years:

• Contributions: $83,000

• Investment Growth: $122,000

• Total HSA Balance: $205,000

By age 65, Sarah has a tax-free healthcare fund to cover medical expenses in retirement.

FAQs About HSAs

1. Can I Use My HSA for Over-the-Counter Medications?

• Yes, the CARES Act expanded eligible expenses to include over-the-counter medications without a prescription.
  

2. Can I Open an HSA Without an HDHP?

• No, you must have an HDHP to qualify for an HSA.
  

3. What Happens to My HSA When I Retire?

• HSAs remain active and can be used for qualified expenses tax-free. After age 65, non-medical withdrawals are taxed as ordinary income but without a penalty.
  

Conclusion

HSAs are a versatile and tax-advantaged way to save for healthcare expenses while reducing your taxable income. Whether you’re using the funds for current medical needs or investing for the future, an HSA can be a valuable addition to your financial plan.

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Disclaimer: Case studies are hypothetical and do not relate to an actual client of Lock Wealth Management. Clients or potential clients should not interpret any part of the content as a guarantee of achieving similar results or satisfaction if they engage Lock Wealth Management for investment advisory services.