Small Businesses are Discovering the Power of Health Savings Accounts

It’s been 20 years since the Health Savings Account (HSA) was introduced, and it’s still the best-kept secret in healthcare and retirement planning. As the cost of healthcare and healthcare insurance continues to increase, HSAs remain an appealing alternative for covering the cost of medical care.

An HSA can be especially attractive for people in good health who want more control over their healthcare expenses and the funds they set aside for healthcare. And that’s to say nothing about the substantial tax advantages HSAs offer, which could benefit anyone.

HSAs are increasingly favored by employers as a healthcare insurance offering due to their lower costs while expanding their employees’ choices in the healthcare marketplace. Employees or anyone using an HSA can save money by shopping and comparing providers and services, which helps their HSA funds go further.

What is an HSA and How Does it Work?

Like a traditional IRA, an HSA is an account that allows you to make pre-tax contributions and earnings inside the account to grow tax deferred. Withdrawals used to pay for eligible medical expenses are not taxed. Between pre-tax contributions, tax-deferred earnings, and tax-free withdrawals, that is a tax advantage trifecta.

Contributions

Employees can elect to have a portion of their earnings directly deposited into their HSA. Individuals with their own HSA can make cash contributions to their account and claim them as an above-the-line deduction on their Form 1040. That’s significant because the contributions are not included in the 7.5% medical expense threshold to qualify for a deduction on Schedule A.

For 2024, HSA accountholders can contribute up to $4,150 for individuals and $8,300 for families. Those contribution limits include any matching contributions by employers. For those aged 55 or older, a catch-up contribution of $1,000 is allowed. Contributions are permitted through the April 15, 2025, tax filing deadline.

You can establish an HSA as late as the first day or the last month of the tax year (December 1) to be eligible for an entire year’s contribution.

HSA Eligibility

There are two prerequisites for being eligible for an HSA. First, you cannot be covered by any other type of healthcare plan, including Medicare (not including disability, dental, vision, and long-term care plans). Nor can you be claimed as a dependent on another person’s tax return.

The second requirement is that you must be covered by a high-deductible health plan (HDHP). HDHPs are health insurance plans with high deductibles and low premiums that only cover major medical costs. The idea is that the funds you accumulate in your HSA can be used to cover all other costs, such as doctor visits and preventative care.

Contribution Limits

For 2024, the minimum deductible limit for HDHP plans is $1,600 for individuals and $3,200 for families. The maximum out-of-pocket expenses you could pay in 2023 is $8,050 ($16,100 for families). That includes any deductibles, copayments, and coinsurance).

If, at any time, you drop your HDHP coverage, you can still withdraw funds tax-free from your HSA to cover medical expenses, but you would not be able to make additional contributions.

Lifetime Planning

Unlike Flexible Spending Accounts (FSAs), there is no "use it or lose it" caveat with HSAs. Any funds left over at the end of the year are automatically rolled over to the following year. They can be rolled over each year through retirement when, starting at age 65, you can use the funds for any purpose, except that you will be required to pay taxes on the withdrawals.

Additionally, HSAs are portable, meaning you can take them with you to another employer or maintain your account individually if you continue to meet eligibility requirements.

Summary of HSA Tax Benefits

Tax-deductible contributions: Your annual contributions qualify as an above-the-line deduction, reducing your taxable income.

Pre-tax employer contributions: Any contributions made by your employer are not taxable to you.

Tax-deferred earnings: All earnings inside the account grow tax-deferred.

Tax-free withdrawals: Withdrawals used to pay for eligible medical expenses are not taxed.

HSA Planning Opportunities

The only thing better than the tax advantages is the flexibility of HSAs and the planning opportunities they create. With the ability to roll unused funds at year end, an HSA can significantly add to your retirement capital, which can be particularly beneficial when healthcare spending may be increasing.

Of course, planning ahead with an HSA is difficult because you can’t know how much of the funds will be used for medical expenses. However, knowing you can use any remaining funds at retirement should be an incentive to shop your medical care to keep your costs as low as possible.

In addition, it would be essential to work with your financial advisor to ensure you completely understand the HSAs eligibility, deductibility, and applicability in your situation and whether it would be the best fit for you and your healthcare needs.