What is a health savings account?
Health savings accounts (HSAs) are tax-advantaged savings and investment accounts available to those with high-deductible health plans.1 Contributions to HSAs are tax-deductible.2 Capital gains, dividends and interest accumulate tax-free.3 And you pay no tax on withdrawals for qualified medical expenses, such as doctor visits, prescription medications, eye exams and dental care (see for a complete list of qualified expenses).
If you use HSA funds on nonmedical expenses before age 65, you pay not only ordinary income tax but also a 20% penalty; however, if you use HSA funds for nonmedical expenses after age 65, you pay only ordinary income tax. In other words, you’d take no worse a tax hit than you would with an individual retirement account.
Why do they exist?
HSAs were created in 2003 to provide a tax break to those with high-deductible health plans as employers shifted more health care costs to employees. Today, the Employee Benefit Research Institute estimates enrollment in HSA-eligible health plans to be between 21.4 and 33.7 million policyholders and their dependents.4
Who can open an HSA?
You are eligible to enroll in an HSA if:
- You are enrolled in a high-deductible health plan.
- You aren’t covered by a non-high-deductible health plan (through a spouse, for example).
- You aren’t enrolled in Medicare.
- You can’t be claimed as a dependent on someone else’s tax return.
How do I contribute?
If your employer offers a high-deductible health plan, they may also offer an HSA through a third-party provider (some employers even make annual contributions to their employees’ HSA accounts). You can also open an account on your own through a qualified HSA provider, such as a bank or an insurance company.
In 2019, contribution limits—for both the employee plus employer portions—are $3,500 for individuals and $7,000 for families (plus an additional $1,000 in so-called catch-up contributions for those age 55 and older).
Contributions can be made any time between January 1 of a given year and the tax-filing deadline for that same year. In 2019, for instance, you can contribute until April 15, 2020.
Can I invest HSA balances?
Funds in an HSA account can be invested, although the investment choices will vary depending on the HSA administrator. Note that many plans require a minimum balance—say, $1,000 or $2,000—before you can begin investing the funds.
As a practical matter, it’s a good idea to keep one to three years’ worth of potential out-of-pocket health care expenses in cash or a cash investment (such as a savings account or money market fund) to avoid selling riskier investments in a down market.
What if I change jobs?
Your HSA is portable—if you change jobs, you can take it with you. Also, if you die with money still in your account, you can leave it to your spouse (free of estate taxes) or other heirs (subject to estate taxes).
1For 2019, the IRS defines a high-deductible health plan as requiring annual out-of-pocket payments of $1,350 for an individual plan, and $2,700 for a family plan (see for a complete list of requirements).
2While HSA contributions are exempt from federal income tax, they are not exempt from state taxes in Alabama, California and New Jersey.
3State taxes may vary.
4Paul Fronstin, “Trends in Health Savings Account Balances, Contributions, Distributions, and Investments, 2011-2017: Estimates from the EBRI HSA Database,” Employee Benefit Research Institute, 10/29/2018.
What you can do next
Don’t lose sight of your financial goals during a job transition. From retirement planning to health insurance issues, make sure your benefits align with your financial goals.
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