HSAs – Supercharge Your Retirement Savings With This Powerful Account (EP.103)

0:28We all need to make smart decisions with our money. people, HSAs offer a compelling mix of tax breaks and other savings that can keep their health insurance costs down. But under the right circumstances, these accounts offer an even more powerful chance to boost your long-term savings and provide a nest egg to offset the rising cost of healthcare later in life. When it comes to picking a health insurance plan, the options can seem confusing. And for years, I myself avoided my company's high deductible health insurance plan with a health savings account because it felt scarier than simply paying the monthly premiums and the predictable co-pays of a PPO plan.

1:09And I have a hunch that many people are in the same boat. They don't bother with an HSA because of the extra legwork required, and it's easier to stick with what's familiar. But after taking a closer look, I realized how much an HSA had to offer and several years ago ditched the PPO for an HSA-eligible high-deductible plan. But first, let's talk about how an HSA actually works. HSAs are special accounts used to pay for medical expenses and other qualifying health-related costs. In 2023, contribution limits for individuals are$3 ,850 and$7 ,750 for families. Those 55 and older can contribute an additional$1 ,000 as a catch-up contribution.

1:59Your HSA contributions are tax-deductible, and they grow tax-free when you invest them, just like your money in a 401k or IRA. And as long as you use the funds for qualifying medical and healthcare costs, You won't pay taxes on the HS money you withdraw. So you get a tax break on the front end, a tax break on your money's growth and income, and a tax break on the back end at withdrawal when used for qualifying expenses. That's a triple tax break that literally no other retirement savings account can match. Now, before you get too excited, you must be enrolled in a qualified high-deductible health plan, which may not be a good fit for you.

2:43The way to determine if a high-deductible health plan is a fit is to compare your expected medical costs against the plan's details. You can get a pretty decent estimate of your expected medical expenses using one of the calculators on your insurer's website. From there, it's a pretty simple equation for deciding whether or not to use a high-deductible health plan, but it might be easier to digest in written form, so I'll be sure to put this equation in the show notes at thelongterminvestor.com. So you start by adding up the potential savings and premiums for the high deductible plan over the PPO plan, the value of an employer match, and your total PPO deductible.

3:26And then now you compare that amount to your expected medical expenses. If your expenses look to be higher than the value of all those benefits, you're probably better off sticking to a PPO plan and not worrying about the HSA strategy. This may be the case if you have a chronic condition or anticipate some kind of major medical expense in the upcoming year, like having a baby or having a major surgery. But if your medical costs are likely to be lower, then the high deductible health plan with an HSA is usually the better choice. And now we can start talking about supercharging your retirement savings with an HSA.

4:06Now, when I talk about using an HSA as a retirement savings vehicle, this is really a strategy for high-income earners who can afford to leave their HSA contributions invested while paying for medical expenses entirely out of pocket. Here's why. If you can contribute the maximum allowable amount each year to your HSA and then can manage to pay your medical expenses out of regular cash flow, you can leave those HSA contributions invested for years to enjoy compound growth. Of course, paying for your medical expenses without tapping your HSA savings requires you have a healthy emergency fund or sufficient cash flow to cover any large unexpected medical expenses.

4:51You might also want to pay closer attention to the treatment you receive and what you're billed for. Many people prefer the convenience of saying yes to whatever test the doctor wants to run and letting the insurance handle the bills. But when you're paying out of pocket, you have to take ownership of your care and make cost-effective decisions. In return for that extra effort though, you're getting a powerful tool for retirement. By investing your HSA savings as you would your retirement savings, typically in a diversified mix of mutual funds or ETFs that offer the opportunity for long-term growth, you're going to be building a tax-free fund dedicated to healthcare costs in retirement, which are likely to represent a very significant portion of your future budget.

5:38This approach to managing your health insurance won't work for everyone, but it's worth considering for those in the right financial circumstances. And even if you do end up dipping into your HSA savings to cover some medical bills, you'll still receive tax breaks on your contributions and the benefit of lower monthly premiums. Now there's one more wrinkle to the HSA rules that you really ought to understand to fully leverage these accounts. If you keep the receipts for qualifying medical and healthcare expenses you incur while paying out of pocket, you can actually reimburse yourself later with tax-free withdrawals associated with those past expenses.

6:18Let me give you an example. Suppose in 2023, my family contributes$7 ,750 to an HSA. And throughout the year, we incur a variety of medical expenses, including doctor's visits, prescriptions, over-the-counter medications. Maybe we even have an unexpected medical procedure along the way. Since we are investing the$7 ,750 we contributed to our HSA, we pay for all these expenses out of pocket, but we keep the receipts. Fast forward 30-ish years to when we're retired, and because we've diligently invested our annual HSA contributions, we now have more funds available than what's needed to cover the cost of healthcare in retirement.

7:05And because we've digitally stored our receipts, we can make tax-free withdrawals associated with our past healthcare expenses, and then use those funds for expenses of any kind, not just qualified healthcare costs. So it's a pretty nifty opportunity, and I personally use an app called Lively to snap photos of receipts easily and categorize those healthcare receipts to use for future withdrawals. There's another way to use this rule to your advantage during your working years, assuming that you're saving receipts for medical expenses that you pay out of pocket, because the HSA then becomes another source of emergency liquidity should you need it for any number of reasons.

7:48All you have to do is make a withdrawal associated with an expense that you've kept track of. Now lastly, there's always the ability in retirement to treat your HSA much like you would a traditional 401k or IRA. Even if the withdrawal isn't health-related, you would only owe income tax on those funds and no additional penalties. So in this case, you would still have enjoyed the tax break upfront and the tax deferred growth. So there are lots of reasons to love an HSA or a health savings account. If you've never used a high deductible health plan, accessing an HSA probably requires you to step out of your comfort zone a little bit and take more ownership over your health care expenditures.

8:33But the opportunity to add a triple tax advantage retirement savings account is well worth it. As always, you can find links, resources, and a place to sign up for my newsletter at thelongterminvestor.com. And until next time, to long-term investing.

8:57Thanks for listening to the Long-Term Investor Podcast. To access free financial resources and submit questions to be answered on the show, visit thelongterminvestor.com. Peter Lazaroff is an employee of PlanCorp and BrightPlan. All opinions expressed by Peter and any podcast guests are solely their own opinions and do not reflect the opinions of PlanCorp or BrightPlan. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of PlanCorp and BrightPlan may maintain positions in the securities discussed in this podcast.