Myth vs. reality—What’s the real story on HSAs?

You might expect that a tax-advantaged way to save for healthcare costs would be popular—and well understood. But although health savings accounts (HSAs) were established more than 15 years ago to encourage people to save for medical expenses, many of us still aren’t sure exactly what they are or how they work. We’ll try to remove the mystery to help you decide if HSAs make sense for you.

Healthcare savings—now and for the future

Healthcare costs continue to represent a significant portion of our expenses each year—today, they account for roughly 8% of our annual costs.1 One way you can save for those expenses is with HSAs, which allow you to put money aside tax free. You can use the funds in your HSA today or you can save them for future use, even in retirement. 

A recent survey showed that nearly 90% of employees couldn’t identify the basic characteristics of an HSA.² So it’s no surprise that just one in five employees contributes to this type of account.³

Who’s eligible to use an HSA?

Currently, you can only enroll in an HSA if you’re in a high-deductible health plan (HDHP), which, as its name suggests, offers higher deductibles (but lower premiums) compared with other health insurance options. If you have a choice in plans, HDHPs may make sense if you’re not anticipating high medical expenses—because if your medical expenses rise, you could pay up to $7,000 (individual coverage) or $14,000 (family coverage)4 in 2021 for out-of-pocket costs before your insurance kicks in.

How much can you save?

There are limits on how much you can set aside each year in an HSA. In 2021, you’ll be able to save up to $3,600 in total HSA contributions (your and your employer’s contributions combined) if you have individual coverage—or up to $7,200 for family coverage. And if you’re age 55 or older, you can make an additional $1,000 contribution.4 The contribution limit applies for all HSAs combined, if you have more than one.  

An HSA provides important tax advantages

In fact, an HSA offers a "triple tax advantage:" 

  • Your money is exempt from taxes when you save it.
  • The interest you earn on your HSA grows tax free.
  • You pay no taxes when you withdraw from it, as long as the money is used for qualified medical expenses. Just be sure to use your HSA money only for expenses that qualify. If you don’t, you could pay taxes—plus a penalty that’s 20% of the withdrawal amount if you’re under age 65.

HSAs demystified

Now that you know more about the basics of HSAs, let’s take the mystery out of them point by point.

Myth: HSAs are just like FSAs

Not so! Workers often confuse HSAs with flexible spending accounts (FSAs), since they’re both ways to use pretax money for medical costs. With an FSA, however, you can only put aside a maximum of $2,750 (2020),5 and you must use the money for medical expenses in that year—or forfeit it—so it’s important to carefully estimate the amount you’ll need. You can use a debit card to pay for expenses, or you may need to submit a claim with proof that your costs are valid. An FSA can be paired with any insurance plan—and you don’t have to be in an employer health plan to use an FSA that you get through work.

Myth: You need to use your HSA balance each year

Not true! Unlike an FSA, your entire HSA balance carries over from year to year. Any money left in your account at the end of the year will be rolled over to the following year. That way, you can save more than you’ll need each year to be ready for future medical expenses. The balance in your HSA may remain as cash savings or be invested (or both), depending on how your account works. Some HSAs let you invest in mutual funds, exchange-traded funds, or even individual stocks.  

Myth: To get an HSA, you need to have a job with an employer that offers it

Not necessarily! You just need to be actively enrolled in an HDHP to be eligible. If your employer doesn’t offer an HDHP or you’re unemployed, you can get an HSA through one of the many financial services companies that offer them. In that case, you’ll contribute funds to your HSA and deduct them on your taxes later. If you contribute to an HSA through your employer, the savings are automatically deducted from your paycheck for direct desposit into the HSA. 

Myth: It’s complicated to use an HSA

Using an HSA is easy! Many plans come with a debit card that gives you instant access to your money to pay for qualified medical expenses, including copays, prescriptions, and even dental fillings and eyeglasses. It works just like a normal debit card, as long as there are funds in your account. If you have family coverage, you can request additional debit cards for your spouse and eligible dependents to pay their qualified expenses.

What happens to your HSA when you leave your employer?

You can contribute to an HSA until age 65—even when you're not working. If your healthcare coverage switches to a non-HDHP option, however, you’d need to stop making HSA contributions. The good news is that all the money in your HSA is yours to keep for future healthcare expenses—even if it’s through your company and you leave or retire. And if you have more than one HSA, you can combine accounts—but be sure to understand the rules, so your HSA can remain tax free.

HSAs can help you boost your retirement planning

HSAs can be an important part of your retirement savings strategy. Since your unused HSA balances roll over from year to year, and, in some cases, can be invested, it can help you build reserves for your future. As mentioned earlier, medical expenses represent significant costs—and they become more significant in retirement. In fact, the average couple will need an estimated $270,000 in savings for a 90% chance of being able to cover medical costs when they’re retired.6 HSAs can help cover a full range of medical costs in retirement—including Medicare expenses. 

Is an HSA right for your future?

If you’re relatively healthy and anticipate low medical expenses for the coming year—and you want to save for future medical expenses—you may want to consider an HSA. You can enroll in one if you’re in an HDHP through your employer or an outside provider. Be sure to look at your estimated healthcare expenses versus the amount you’ll be saving in premiums. Then determine whether you can handle the out-of-pocket deductibles, in case unexpected healthcare costs come up. To learn more about your options, check with your employer, financial professional, or healthcare provider.

1 “Consumer Expenditure Surveys,” U.S. Bureau of Labor Statistics, May 2020. 2 “2019 Workplace Benefits Report,” Bank of America, 2019. 3 “Who uses HSAs and 401(k)s and how much do they save to each?,” Alight Solutions, 2018. 4 “Tax forms and instructions,”  U.S. Internal Revenue Service, 2020. Figures shown are limits for 2021 and are subject to change annually. 5 “The 2020 FSA contribution limits are here!,” FSAstore.com, 2020. 6 “A Bit of Good News During the Pandemic: Savings Medicare Beneficiaries Need for Health Expenses Decrease in 2020,” Employee Benefit Research Institute, May 2020.

The content of this document is for general information only and is believed to be accurate and reliable as of the posting date, but may be subject to change. It is not intended to provide investment, tax, plan design, or legal advice (unless otherwise indicated). Please consult your own independent advisor as to any investment, tax, or legal statements made herein.

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