A health savings account (HSA) can help you save for medical expenses while you enjoy some tax benefits, too. While an HSA isn't specifically designed to be a retirement savings vehicle, it can do double-duty as one if you need an additional course of income.
If you're interested in using an HSA to fund retirement expenses, there are a few tax rules to know.
Key Takeaways
- Health savings accounts (HSAs) are associated with high-deductible health insurance plans (HDHPs).
- While these accounts are intended to be used to cover health care expenses, it's possible to use them to fund other retirement expenses.
- Contributions to an HSA are tax-deductible, while withdrawals for qualified medical expenses are tax-free.
- HSA contributions carry over from year to year, so they're not use-it-or-lose-it, unlike contributions to a Flexible Spending Account (FSA).
Using an HSA to Fund Retirement
As the name implies, a health savings account's primary purpose is to fund health care costs. However, it's possible to use the money you save for other expenses in retirement should you remain healthy or you're able to cover health care expenses with Medicare or private insurance.
Some of the expenses you might pay in retirement using HSA funds can include:
- Housing costs, including mortgage or rent payments and utilities
- Day-to-day living expenses, such as food and transportation costs
- Debt repayment for credit cards, student loans or other debts
- Higher education expenses for a grandchild
- Travel expenses if travel is part of your retirement plans
You may also use HSA funds to cover less common scenarios in retirement. For example, say that your adult child passes away and the care of their 10-year-old child is entrusted to you. You may tap into your HSA to help pay for their medical care if you're able to claim them as a dependent on your tax return.
Note
While you can use an HSA to supplement retirement savings, it's not a substitute for a 401(k) plan or Individual Retirement Account (IRA).
Tax Implications of Using an HSA for Retirement
Technically, there is no rule barring you from withdrawing money from a health savings account for non-medical expenses. There are, however, some tax rules to know about doing so.
If you're unsure of how HSA tax rules work, here's a refresher.
- Contributions to an HSA are tax-deductible, even if you don't itemize your taxes.
- Your account balance grows on a tax-deferred basis.
- Qualified withdrawals, meaning withdrawals for eligible medical expenses, are tax-free.
Contributionsto an HSA can be made via payroll deductions, or from your own funds if you're self-employed. Employers can also make matching contributions to an HSA. Total contributions from employers and employees cannot exceed the annual contribution limit set by the IRS.
Tip
HSA balances can be carried over from year to year. You are not legally obligated to "use it or lose it," as with aflexible spending account (FSA).
Now, what about using HSA money to pay for expenses other than health care? In that instance, there are two guidelines to be aware of:
- Withdrawals made prior to age 65 for anything other than eligible medical expenses are subject to a 20% tax penalty, and regular income tax.
- Once you turn 65, you can take money from an HSA without the 20% penalty for any reason, but you'll still pay ordinary income tax on those distributions.
For those reasons, it's important to consider whether taking money from an HSA to fund retirement expenses other than medical care makes sense. Assuming that you can wait until you're at least 65 to make nonqualified withdrawals, you can avoid the 20% tax penalty. However, you'd still owe income tax on any funds you withdraw, which negates some of the benefits of saving in an HSA to begin with.
Tips for Using an HSA for Retirement
If you have the option to save money in an HSA, it's helpful to know how to incorporate it into your retirement plans. These tips can help you make the most of your health savings account during your working years and beyond.
Max Out Contributions by Age 65
HSA contributions are tax-deductibleuntil you enroll in Medicare. Enrollment for Medicare begins at age 65, which may allow you plenty of time to max out annual HSA contributions, depending on your current age.
How much can you save in an HSA? The contribution limits are adjusted annually for inflation. In 2024, the limits are $4,150 for individuals and $8,300 for families. The 2023 contribution limits were $3,850 for individuals and $7,750 for family coverage. These include employer contributions.
Note
If you have an HSA and you're 55 or older, you can make an extra "catch-up" contribution of $1,000 per year and a spouse who is 55 or older can do the same if each of you has your own HSA account.
"Maxing out contributions before age 65 allows you to save for general retirement expenses beyond medical expenses,"said Mark Hebner, founder and president of Index Fund Advisors Inc. in Irvine, California, and author of "Index Funds: The 12-Step Recovery Program for Active Investors." Although you will not receive the tax exemption," Hebneradded."It gives retirees more access to more resources to fund general living expenses."
Don't Spend Your Contributions
The triple tax advantages afforded by an HSA mean that the best way to use it is to treat it as an investment tool for retirement. Holding off on spending down your HSA contributions during your working years can give you a bigger sum to work with when it's time to retire.
If you absolutely must spend some of your contributions before retirement, be sure to spend them on qualified medical expenses to avoid tax consequences. Again, if you spend the money on anything else before you’re 65, you will pay a 20% penaltyas well as the income tax on the withdrawals.
Invest Your Contributions Wisely
Your investment strategy for an HSA should be similar to the one you’re using for your other retirement assets, such as a401(k) plan or an IRA. When deciding how to invest your HSA assets, make sure to consider your portfolio as a whole so your overall diversification strategy and risk profile are where you want them to be.
Your employer might make it easy for you to open an HSA with a particular administrator, but the choice of where to put your money is yours. An HSA is not as restrictive as a 401(k); it’s more like an IRA.
Since some administrators only let you put your money in a savings account, where you’ll barely earn any interest, make sure to shop around for a plan with high-quality, low-cost investment options, such as Vanguard or Fidelity funds.
Pay Health Care Expenses First
The best use for HSA funds in retirement is health care expenses since qualified withdrawals are tax-free. Qualified payments for which tax-free HSA withdrawals can be made include:
- Office-visit copayments
- Health insurance deductibles
- Dental expenses
- Vision care (eye exams and eyeglasses)
- Prescription drugs and insulin
- Medicarepremiums
- A portion of the premiums for a tax-qualified long-term care insurance policy
- Hearing aids
- Hospital and physical therapy bills
- Wheelchairs and walkers
- X-rays
You can also use your HSA balance to pay for in-home nursing care,retirement communityfees for lifetime care, long-term care services, nursing homefees, and meals and lodging that are necessary while obtaining medical care away from home. You can even use your HSA for modifications, such as ramps, grab bars, and handrails, that make your home easier to use as you age.
One strategy might be to bunch qualified medical costs into a single year and tap the HSA for tax-free funds to pay them, compared withwithdrawing from other retirement accounts that would trigger taxable income.
“Using HSA money to pay for medical expenses and long-term care insurance in retirement is a great benefit for investors given the tax exemption on any withdrawals made to fund either," Hebner said."In other words, it’s the most cost-effective way to fund those expenses because they provide investors the highest after-tax value."
Also, note that there are limitations on how much you can pay tax-free for long-term care insurance based on your age.
Reimburse Yourself for Medical Expenses
With an HSA you are not required to take a distribution to reimburse yourself in the same year you incur a particular medical expense. The key limitation is that you can’t use an HSA balance to reimburse yourself for medical expenses you incurred before you established the account.
So keep your receipts for all healthcare expenses you pay out of pocket after you establish your HSA. If in your later years, you find yourself with more money in your HSA than you know what to do with, you can use your HSA balance to reimburse yourself for those earlier expenses.
Choose a Beneficiary
When you open your HSA, you will be asked to designate a beneficiary to whom any funds still in the account should go upon your death. If you're married, the best person to choose is your spouse because they can inherit the balance tax-free. (As with any investment with a beneficiary, however, you should revisit your designations from time to time because death, divorce, or other life changes may alter your choices.)
Anyone else you leave your HSA to will be subject to tax on the plan’sfair market valuewhen they inherit it. Your plan administrator will have a designation-of-beneficiary form you can fill out to formalize your choice.
How Can I Qualify to Open a Health Savings Account (HSA)?
The HSA is available only to people who choose a high-deductible health insurance plan, which may not be for everyone. High-deductible plans best suit people who are currently healthy, have no ongoing medical issues, and dislike paying more monthly than they have to in premiums. It helps if they also have enough savings to bear the costs of an unexpected medical crisis. In any case, that's what the HSA is intended to do: It helps cover costs that aren't covered by the insurance.
What Can I Use My HSA for After Retiring?
Once you're 65, you can use the money for any purpose. If the purpose is a qualified medical expense, the withdrawal is tax-free. If it's for any other purpose, the withdrawal is taxable as income. You won't, however, be subject to the 20% penalty for non-medical use of the funds. That is imposed only on people under age 65.
Can I Use My HSA Account to Pay My Insurance Premium?
No. The monthly insurance premium does not qualify as an eligible medical expense. You can, however, use it to reimburse yourself for deductibles and copays.
The Bottom Line
A health savings account, available to consumers who choose a high-deductible health plan, has been largely overlooked as an investment tool, but with its triple tax advantage, it provides an excellent way to save, invest, and take distributions without paying taxes. The next time you’re choosing a health insurance plan, take a closer look at whether a high-deductible health plan might work for you. If so, open an HSA and start contributing as soon as you’re eligible.
