Why Health Savings Should be Part of Your Retirement Plan

Reading time: 3 minutes

Early to bed and early to rise, the saying goes, makes you healthy, wealthy, and wise.

Unfortunately, staying healthy requires more wealth than many people realize as they plan for retirement.

The cost of healthcare is sky rocketing; from the cost of medications, to insurance premiums that increase annually. And because people are living longer, retirees may have 30 or 40 years of paying these costs.

Fidelity Investments recently released data estimating that the average 65-year-old couple will need a whopping $280,000 just to cover Medicare Part B and Part D premiums, Medicare Part C (Medigap or Medicare Advantage) premiums, and additional out-of-pocket costs.

Although the amount is not necessarily needed in a lump sum, the mutual fund Vanguard and the Mercer Health and Benefits Center estimate that the average woman will need around $5,200 annually for all healthcare costs (excluding long-term care expenses). 

And that is why healthcare costs need to be one of the considerations in your retirement saving planning.

One option that can help with healthcare costs today and in the future is a Health Savings Account. Created in 2003, HSAs are available to individuals who are covered by an eligible High Deductible Health Plan (HDHP).

Three things characterize HDHPs:

1. As the name says, the individual must pay a high deductible before benefits take effect.
2. On the other hand, the premiums are typically lower.
3. Individuals who are covered by an eligible HDHPs can contribute to an HSA, where they can bank money that can be spent on deductibles and out-of-pocket medical expenses. Contributions to the HSA are deductible on the owner’s tax return or through an employer’s cafeteria plan or both. Many employers even contribute an amount on behalf of the employee due to the savings in premium cost.

The maximum contributions to an HSA depend on what type of eligible HDHP under which an individual is covered. In 2019, for a single coverage HDHP, the maximum contribution is $3,500; while a family HDHP has a maximum contribution of $7,000. If an individual attains age 55 during the calendar year, an additional $1000 contribution is allowed under either type of coverage.  

When determining whether to contribute to a retirement plan or HSA, many are choosing to fully fund their HSAs first. One reason is that HSA contributions are deductible as mentioned earlier. Earnings on contributions also grow on a tax-deferred basis just like retirement plans.

The bigger benefit, however, is that distributions are tax-free if used for qualifying medical expenses incurred any time after the HSA has been established. Some examples of medical expenses include doctor visits, hospitalization, prescriptions, and long-term care (Read the complete list in IRS Publication 502). If distributions are not used for medical expenses, the distribution is taxable and subject to penalties.

Penalties are eliminated for non-medical expense distributions taken after the account holder reaches age 55. At that point, the distribution is still taxable, but no penalty is assessed.

Unlike saving reimbursement plans such as flexible spending accounts, an HSA account holder never forfeits amounts not used.  Instead, the funds remain in the HSA growing year after year until needed. With the tax deduction benefit and tax-deferred growth on earnings, it is easy to see the similarities between HSAs and retirement plans.  

With many Americans currently saving between 3 to 4% of their annual income, HSAs are a viable option. As an example, if an individual earns $80,000 annually, saving at the rate of 3.5%, this would equal about $2,800. Often, Americans do not have the luxury of contributing more than $2,800 to any other account.

Increasingly, many are choosing to fully contribute to their HSAs before contributing to a tax-advantaged retirement savings account because of the double benefits.

The double benefit of an HSA provides a versatile savings vehicle for wealth building and coverage for future health expenses.

At Entrust, we administer HSAs as well as Traditional, Roth, SEP and SIMPLE IRAs, and ESAs to allow our investors to maximize their retirement savings by utilizing all the tools available to them. For more details regarding HSAs or the other account types, visit our Learning Center.

Questions regarding HSAs or other accounts? Contact us directly at 800-392-9653, option 2, or request a free consultation.