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There’s one strategy that is not only a great wealth-building solution but is also triple tax-advantaged: using a health savings account (HSA). Despite the many benefits HSAs offer, it’s still a highly underutilized strategy. Even when a client does have an HSA or a financial advisor recommends one, it can still be underutilized if clients and advisors don’t know how to make the most of it.
For those unfamiliar, an HSA is a tax-advantaged medical savings account that your clients can contribute to and withdraw from tax-free for qualified medical expenses. Funds in an HSA are split into a liquid cash account and an investment account.
Now that we’ve gotten what an HSA is out of the way, let’s talk about why they’re so beneficial to clients’ financial plans and how to make the most of them.
1. HSA contributions are pre-tax (or tax-deductible)
Interest and investment earnings on HSA contributions grow tax-free. This, of course, is a great reason to let an HSA account balance grow for as long as possible. This tactic can be especially helpful for your younger clients who are healthy and don’t often utilize healthcare services. Rather than using their HSA to pay for the few medical events and expenses they have, they can pay out-of-pocket and allow their HSA to grow. Older clients can also benefit from having their taxable income lowered, and a great way to do that is through HSAs. Each client’s situation is unique, so use your expertise and knowledge of your client’s financial situation and goals to determine whether letting an HSA grow is the right move for them.
2. HSA contributions can be invested and grow tax free
If your client has an HSA, they can grow their funds through interest. In some cases, they can also invest their contributions. What’s even better is that neither interest nor investment gains are subject to taxes. Just like many other investments, it’s wise to leave it untouched to grow as much as possible. Unlike some investments though, (such as a 401k or an IRA) there aren’t any requirements for minimum distributions. An HSA also stays with your client for as long as they are alive. It doesn’t go away if they leave their employer or even if they change their health plan. If you do choose to invest the HSA funds for the long haul, select a provider that has low costs and diversified investment options.
3. Clients can withdraw money from their HSA at any time after age 65
Yes, you read that right. After clients turn 65, they can withdraw funds for any reason. The only caveat is that they’ll have to pay income taxes on funds withdrawn for non-medical expenses. As a comprehensive financial advisor, this gives you a lot of strategies to discuss with your clients on how and when to use their HSA in retirement. It can still be used for medical expenses, especially since healthcare costs are the second most expensive item in retirement (after groceries). Another benefit to being able to withdraw funds from an HSA after 65 is that clients can reimburse themselves for past medical expenses as long as the expense was incurred after they opened their HSA account.
For example, let’s say your client opened their HSA account when they were 30. At age 52, they had hip replacement surgery and did not use their HSA funds to pay for the out-of-pocket costs. As long as they kept the medical bill and receipt, after they turn 65, they can reimburse themselves for that surgery by taking a distribution from their HSA. Best of all, doing so won’t affect their taxable income since this expense is a qualified medical expense and was not previously reimbursed or deducted.
4. A large HSA balance can make it easier to retire early
A large account balance in an HSA can be part of a client’s “nest egg” for retirement. As mentioned earlier, healthcare is one of the most expensive items in retirement. Because of increased healthcare costs, it can be difficult for clients to retire when they want without running out of money or having to severely alter their lifestyle. However, if they have an HSA that’s been building for years or even decades, they’re better set up for healthcare costs in retirement. This can allow clients to retire when they originally planned, and in some cases they might be able to retire sooner than they thought.
If you and your client decide that an HSA is good for them, the next decision is:
To build or not to build?
For many clients, choosing a high-deductible health plan and contributing to an HSA is a great way to build wealth. They can build it for decades to then use in retirement for healthcare costs or other expenses (but non-medical expenses will be taxed.) HSA funds can even be used for long-term care insurance premiums, other costs associated with long-term care, prescription medications, and many other common healthcare costs incurred in retirement.
Your client could also use their HSA before they turn 65 and leave it mostly untouched so that they have a fund for large medical expenses like surgery or childbirth.
Look at each of your client’s unique situation to determine if a high-deductible health plan is a smart choice, and then determine whether it’s better for them to build their HSA or use it on everyday medical expenses. My opinion (based on helping hundreds of clients reduce their healthcare costs) is that if someone has a high-deductible health plan and is generally healthy, letting their HSA account accumulate is a smart choice for their financial future.
Christine Simone is a co-founder of Caribou, a healthcare planning and navigation solution for financial advisors. She often writes on the topics of healthcare and women in tech. Caribou is a proud sponsor of the upcoming ACP Conference in October 2021.
Read more articles by Christine Simone
Advisor Perspectives welcomes guest contributions. The views presented here do not necessarily represent those of Advisor Perspectives.
