As healthcare costs rise and more and more Americans approach retirement, many are starting to wonder how they will pay for healthcare when they no longer have an income. Because those costs can add up — according to some estimates, today’s retirees will need at least $200,000 to pay for healthcare in retirement, and that figure is only expected to continue climbing. Health Savings Accounts (HSAs) are one of the many options that people use to build stability and peace of mind when considering these long-term healthcare costs. 

But many people don’t fully understand the usefulness of HSAs or aren’t fully taking advantage of their intricacies. An alarmingly low percentage of those who qualify to open a HSA take advantage of the opportunity. According to a 2019 study, only 11-22% of eligible individuals had opened an HSA, and those who had opened HSAs had an average balance of just $3,221. As the maximum annual contribution to HSAs in 2021 is $3600, that’s a surprisingly low number.

Another important factor to consider is the rising cost of healthcare. Healthcare costs in the U.S. are growing at an average of 1.1% faster than the national Gross Domestic Product (GDP). As healthcare costs outpace inflation and GDP growth, care will become less and less affordable. It’s also essential to realize that as you age past retirement, your healthcare costs will also rise. A recent study showed that an average, healthy 65 year old couple retiring in 2019 can reasonably expect their annual healthcare costs to almost triple in the next 20 years, reaching a total of around $35,000 in 2039. There’s reason to believe that this trend will worsen in coming decades, as costs continue to exceed economic growth for most families. 

For these reasons and more, it’s important to get the maximum potential out of your HSA if you are eligible and choose to open one. But first, a little background about what HSAs are, and what makes them special. 

What is an HSA?

HSAs are one of the best types of tax advantaged-savings plan because they are “triple tax advantaged.” This means that they allow you to contribute to them tax-free, the money in them can be invested tax-free, and as long as you use it for qualified medical expenses, you can withdraw from the account tax-free. This means that even though the maximum tax-free annual contribution is relatively small, if you regularly contribute to them over the course of your working life, you can end up with extremely large dividends to help you with medical costs in retirement. Additionally, any contributions that your employer makes to your HSA is also tax-free, allowing employers to incentivize contributions by offering fund matching programs. 

Another important perk of a HSA is that once you reach the age of 65, the IRS will waive the requirement that you only take out the money for healthcare expenses, allowing you to use your HSA to supplement your other retirement savings. 

One of the only drawbacks with HSAs is the high deductible plan requirement for qualifying to have one. In order to be eligible, you must have a high-deductible healthcare plan, and no other health insurance. A high-deductible plan as defined by the program is a plan with a deductible of “at least $1,400 for self-only coverage and $2,800 for family coverage.” This means that HSAs are generally a better option for individuals or families with higher incomes who are able to cover higher upfront costs of healthcare during their working lives. 

Healthier individuals with fewer chronic health issues are more strongly incentivized to choose these high-deductible plans because the plans can more accurately match their health needs. This results in younger, healthier individuals having increased rates of qualification for HSAs. 

Maximizing HSA Lifetime Value

But how should you be thinking about your HSA in order to ensure your balance is there when you need it? By taking a more holistic view of your account as it relates to your overall financial health.

Add As Much As You Can As Early As Possible: The simplest way to maximize the potential of a HSA is to begin adding the maximum annual allowable amount to it as early as possible. Choosing a HSA plan that will invest your money will help offset rising healthcare costs and allow you to reap the benefits when you retire. The earlier you begin to add the maximum allowable amount, the more money will be invested in the account for longer, achieving exponentially greater returns. 

Try Not To Use Any Of The Invested Funds: While it may seem counterintuitive, it’s useful to think about an HSA as almost a pure investment account. While you can definitely use HSA money in a medical emergency when you have no other options, it should probably be one of your last health safety nets when it comes to paying for health expenses before your 65th birthday. Tax-exempt investments in your HSA are more valuable to you accruing interest in your HSA than they are paying for medical bills, especially because if you do take out money before you turn 65, you will have to pay a 20% penalty and incur income taxes on the funds you remove. 

Make Tactical Decisions About Where You Invest Your HSA Money: It’s important to be sure that the administrator that you open your HSA through will allow you to make investment decisions that complement your overall investment portfolio. While some HSA programs will be restrictive with how you are allowed to invest your money, others are much more lenient, allowing you to develop an investment strategy that will work best for your individual needs. If doing this without the help of a financial professional, make sure you consider classic investment concepts such as risk tolerance, financial personality, and diversification before deciding where to invest your HSA money.

HSAs are powerful tools when used correctly, and can be extremely stabilizing when planning for your retirement medical expenses. In order to take full advantage of their potential, it’s recommended to first develop a comprehensive investment strategy, and contribute early and often.  

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