1Q2018 | All Ages
Health Savings Accounts, the Latest Tool In Retirement Preparation
For years, retirement plans have been the primary tool employers and employees have used to save and prepare for retirement. Back in 1995, retirement plans surpassed pension plans as the predominant vehicle for retirement savings and have never looked back. However, one of the biggest weaknesses of the retirement plan is its lack of special treatment for dollars used to pay for health care expenses. When you consider that health care costs increase as we age, this might be the Achilles heel of retirement plans. With the arrival of the Health Savings Account (HSA), employees now can plan for these future expenses in a special, tax-advantaged way.
There’s no denying the effects of age. As our cars age, we need to bring them in for maintenance more frequently. As our appliances age, we need to replace them. So as our bodies age, we need more health care services to deal with the problems that occur, which means higher expenses. However, the real surprise is the increase in costs of health care in retirement. For example, for a 65-year-old, the median cost of health care in 2017 was $5,140. By the time this person reaches age 85 in 2037, the single year cost for health care services is projected to rise to $18,110. When you consider that most retirement plan dollars are pretax dollars, the average American would need to withdraw closer to $22,000 from their retirement plan to pay for these expenses and the associated taxes1.
HSAs are an incredibly valuable companion savings tool to your retirement plan for a host of reasons. First, all contributions to an HSA are tax-exempt as long as they are used to pay healthcare expenses. This means that, unlike retirement plans, contributions to an HSA are exempt from Social Security and Medicare withholding (i.e., FICA). For example, when you contribute $1,000 to a 401(k) plan, you still pay $76.50 in federal social security and unemployment taxes. But HSA contributions are exempt from these taxes. Second, unlike contributions to Flexible Spending Accounts which need to be used in the same year they are contributed or they are lost, HSAs contributions are not forfeited and instead are allowed to accumulate. Because HSA contributions are allowed to accumulate, participants also are able to invest their contributions, similar to retirement plans and IRAs. In addition, all withdrawals from an HSA to pay for medical expenses are tax free at any age. Finally, when you reach age 65, you can take withdrawals from the HSA for any reason and the amounts originally contributed are tax free, however, the earnings are still subject to ordinary income tax when withdrawn for non-health care related purposes.
HSAs are a powerful retirement savings and investment vehicle that can provide you with a great way to save for your healthcare costs in retirement. Make sure to consider using this tool as a part of your larger retirement savings strategy.
Robert Massa, ChFC®, CEBS®, CPFA®, AIF®, CBC
- Source: Employee Benefit Research Institute (EBRI) data as of December 31, 2016; SelectQuote data as of January 16, 2017; Centers for Medicare and Medicaid Services website, January 25, 2017; 2016 Medicare Trustees Report, June 22, 2016; J.P. Morgan analysis.
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