Reduce Health Care Costs with HSAs
Dual benefits in one saving strategy
As health care costs continue to increase, many people are looking into the benefits of Health Savings Accounts (HSAs). What they are finding is that, in addition to being a viable option to reduce health care costs, HSAs can positively affect their estate plans. Why? Because HSAs grow on a tax-deferred basis.
An HSA is a tax-exempt account funded with pretax dollars. Like an IRA or 401(k) plan, contributions may be made by employers, employees or both.
An HSA must be coupled with a high-deductible health plan (HDHP), however. For 2012, to qualify as an HDHP, a plan must have a minimum deductible of $1,200 ($2,400 for family coverage) and a $6,050 cap on out-of-pocket expenses ($12,100 for family coverage).
Even if you have HDHP coverage, you generally will not be eligible to contribute to an HSA if you are also covered by any non-HDHP health insurance (such as a spouse's plan) or if you are enrolled in Medicare.
For 2012, the maximum HSA contribution is $3,100 ($6,250 for family coverage). If you are age 55 or older, you can make additional "catch-up" contributions of up to $1,000.
HSAs provide several important benefits. First, they reduce unreimbursed health care costs by allowing you to withdraw funds tax free to pay for qualified medical expenses. Withdrawals for other purposes are subject to income tax and, if made before age 65, a 20% penalty.
Second, unused funds may be carried over from year to year, continuing to grow tax deferred. Essentially, to the extent you do not need the funds for medical expenses or for other expenses before age 65, an HSA serves as a supplemental IRA.
HSAs and estate plans
Like an IRA or a 401(k) account, unused HSA balances can supplement your retirement income or continue growing on a tax-deferred basis for your family. Unlike most other retirement savings vehicles, however, there are no required minimum distributions for HSAs.
It is important to carefully consider an HSA's beneficiary designation. When you die, any remaining HSA balance becomes the beneficiary's property. If the beneficiary is your spouse, your HSA becomes his or her HSA and is taxable only to the extent he or she makes nonqualified withdrawals.
If the beneficiary is someone other than your spouse, however, the account no longer will qualify as an HSA, and the beneficiary must include the account's fair market value in his or her gross income. (The beneficiary can, however, deduct any of your qualified medical expenses paid with the funds from your HSA within one year after your death.)
This differs from an IRA, where a nonspouse beneficiary can spread RMDs over his or her lifetime. So, if you are age 65 or older and need to take distributions to pay nonmedical expenses (or for other purposes), you may want to consider whether it makes more sense to withdraw from:
Your IRA — preserving your HSA so tax-free funds will be available for your own (or your spouse's or dependents') future medical expenses, or
Your HSA — preserving your IRA's ability to generate tax-deferred growth for your heirs.
The answer will depend on a variety of factors, such as your age and health, the size of each account, and the beneficiary's age, health and relationship to you.
Bang for your buck
In today's uncertain economy, everyone, regardless of wealth, enjoys getting a bang for their buck. Opening and contributing to an HSA account offers just that: a tax-advantaged option that can help reduce health care costs and provide estate planning benefits.