We have talked in the past about health savings accounts and how they can help you save on medical expenses and on taxes. Health savings accounts provide the user with triple tax benefits. When you contribute money to the account:
- You receive a tax deduction.
- The money in the account grows tax-free.
- As long as you use the funds in the account to pay for qualified medical expenses or to reimburse yourself for qualified medical expenses, the distributions are not taxed.
There is another use for health savings accounts — retirement. Remember from our previous blog on health savings accounts they don’t have the “use-it-or-lose-it” rule like flex plans at work. In addition, health savings accounts are portable, meaning the money in them is yours and, even if you leave the job, the health savings account remains yours. Consequently, if you don’t use all the money contributed by you (or your employer) each year, the remaining funds stay in the account and continue to grow tax-free. If this happens year after year, over your working life, you could accumulate quite a bit in your health savings account.
Let’s go through an example to show how it works. Consider a married couple age 35 who have a high-deductible health plan and a health savings account. Each year, they contribute the maximum to their health savings account ($6,650 for 2016 for family). They are relatively healthy so they decide to pay their medical expenses out of their regular budget and let their health savings account continue to accumulate. They keep track of the qualified medical expenses they have paid.
If they earn only 1% on the money and the contribution amount is never increased, in 30 years when they are eligible for Medicare, they will have accumulated $231,320 in their health savings account.
They now have an extra $231,320 for their retirement. As long as they use this money for qualified medical expenses or use it to reimburse themselves for the prior qualified medical expenses they paid out of their pocket, they will not have to pay tax on these funds. Consequently, 100% of the $231,320 can be used for their retirement expenses.
This is a big contrast to distributions from their 401(k) or IRA accounts. Those distributions are subject to regular income tax, both federal and state (if their state has state income tax for retirees). If the couple’s federal tax rate in retirement is 25% and their state income tax rate is 7%, they are saving more than $74,000 in taxes through the use of the health savings account.
Of course, distributions from Roth 401(k) and Roth IRA plans are also not subject to income tax, according to current tax law. However, the contributions going into those plans are after-tax dollars while the health savings account money went in tax-free.
Looking for more information on how health savings accounts can allow you to save more money for retirement? Contact us at [email protected] or 402-502-0250.
Judith Ackland has more than 26 years of experience in accountancy and financial planning, including seventeen years as a CFO of a diverse business. She started Crystal Financial in 2010 to help a wide array of individuals, families, and business owners better understand their finances and how good financial management could help them achieve their goals. Judith has an MA in Professional Accountancy from the University of Nebraska at Lincoln as well as a Certified Public Accountant Certificate and a Certified Financial Planner designation.