What You Should Know About Health Savings Accounts

Oct 31, 2019 | 3 min read | Kevin Johnston

Key Takeaways

  • HSAs can help offset eligible health expenses while lowering taxes.
  • You can invest the money that is in your HSA.
  • You can pass your HSA money to your heirs.


A health savings account (HSA) lets you stash away money for health expenses. Often, employees have the option of opening an HSA in conjunction with a high-deductible health plan at work. HSAs can help offset eligible health expenses while lowering taxes.

Here is how these plans work.



Contributions you can make

Employees and employers can contribute to an HSA. For 2020, the combined contribution limit (employee plus employer) is $3,550 for an individual. For family accounts, the limit is $7,100. A person age 55 or over can make an additional catch-up contribution of $1,000 if they will turn 55 by the end of the year.


Tax implications for the present

Any money you put into your HSA reduces your federal taxable income by that amount, and in most cases, your state taxable income, too. Notice, this does not amount to one-for-one tax savings. When you put in $1,000, you do not reduce your taxes by $1,000. You reduce your taxable income by that much. So, if you were in a 25% tax bracket, you would save 25% of $1,000, or $250 off your taxes. People in higher tax brackets save even more.


Tax implications for the future

When you incur medical expenses, you can withdraw money to pay for them from your HSA tax-free. This is much different from an IRA, where you contribute money tax-free but pay taxes when you withdraw it. This is what makes HSAs attractive for retirement planning.

One advantage of the HSA is that there is no time limit for getting reimbursed for eligible expenses. For example, once you have an HSA, you could incur an expense now and get reimbursed for it 10 years from now (as long as you have proof of the eligible expense).

HSAs can help offset eligible health expenses while lowering taxes.

You won't have to use taxable withdrawals from your IRA for health expenses, because you can withdraw money tax-free from your HSA to be reimbursed for eligible medical expenses.  This amounts to free healthcare in your retirement years.

You can generally be reimbursed for medical, dental, vision and prescription drug expenses, like copays, deductibles and coinsurance.


Tax implications for investing

You can invest your HSA funds, just like you can for an IRA. Your HSA investments grow tax-free. This results in triple tax savings. You save on taxes once when you contribute, you save taxes on your investments, and you save taxes when you withdraw the funds to be reimbursed for eligible medical expenses.


Using an HSA with Medicare

When you enroll in Medicare, you must stop making contributions to your HSA. However, you can still withdraw money from your HSA for qualified medical expenses that Medicare doesn't cover. As long as the money is used for qualified expenses, you do not have to pay taxes on it.

If you reach retirement age and are still working, you can delay your Medicare enrollment so you can continue to contribute to your HSA. However, you will have to also delay collecting Social Security benefits, because when you start your benefits, you are automatically enrolled in Medicare. You can't decline your Medicare Part A benefits while you are collecting Social Security benefits.



Penalties and tax liabilities

Stop contributing to your HSA six months before you enroll in Medicaid, because it will cover you retroactively for those six months. You could be subject to taxes.

If you withdraw HSA funds for non-medical expenses before you are 65, you will pay income tax on the withdrawal and an additional 20% penalty.

If you use HSA funds for non-medical expenses after age 65, you will pay income tax on the withdrawal. However, you will not pay an additional penalty.


What happens to HSA funds upon death

You can pass your HSA money to your heirs. How it is taxed will depend on if you use a will or a trust.


Additional health plans you can have

You cannot have any other health care coverage besides your company health plan if you want to qualify to contribute to an HSA, except for the following:

  • You can carry coverage for a specified illness.
  • You can have coverage that pays a set amount per day of hospitalization.
  • You can have coverage for accidents, disability, dental and vision care, and long-term care.
  • You can have coverage for worker's compensation liabilities, or property ownership liabilities.

Keep in mind that if you contribute to a health care Flexible Spending Account (FSA), you might not qualify to also contribute to an HSA. That’s because a health care FSA is considered other health coverage.


Reporting on your tax return

If you contribute to an HSA or you withdraw amounts from an HSA, you may need to report this activity on a special form (Form 8889) with your federal income tax return. You may also need to keep proof of the expenses that you use your HSA  in case you get audited. Please consult your tax advisor concerning your particular circumstances.


What you can do next

Check to see if you are eligible for an HSA at work. Also, ask whether your employer makes contributions to HSAs. This amounts to free money for you.

Check with your tax advisor or read IRS publication 969 (Health Savings Accounts and Other Tax-Favored Health Plans) to get more information.


Kevin Johnston writes about personal finance and investments, as well as financial management and planning. He has written for The New York Daily News, The New York Post, The San Francisco Chronicle and The Houston Chronicle.


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