Low premiums, more options and greater control. At first glance, health savings accounts (HSAs) seem like a great new weapon in the war against rising healthcare costs, and for many people they might be.
For others, the benefits are far less clear, and for some, the option doesn’t exist at all.
To understand if an HSA is right for you, you’ll need to understand how an HSA works. Legislated into existence in 2003, HSAs are specifically designed to allow individuals with designated high-deductible insurance plans to receive tax benefits for healthcare-intended savings.
“HSAs and high-deductible health plans were created as a way to help control health care costs,” write the insurance advisors at the Mayo Clinic. “The idea is that people will spend their health care dollars more wisely if they're using their own money. In addition, doctors and other health care providers will have an incentive to lower their rates because they're competing for business.”
Simply put, with a high-deductible plan, you will be paying for more of your healthcare costs out of pocket. This means you will have more freedom and flexibility in selecting doctors and in choosing what procedures and treatments you would like to proceed with. An HSA is an added incentive, providing a tax savings for individuals who choose these plans.
There can also be advantages to employers who move to these plans. The reduced healthcare premiums of high-deductible plans enable small businesses to offer better plans to more employees, and employer contributions to HSAs can be offered as a tax-deferred part of a compensation package.
“An HSA is a form of tax-deferred retirement accounts that can be more easily drawn upon for emergencies than their IRA counterparts,” writes small business insurance expert JoAnn Laing. “An HSA is particularly well situated to help small firms without medical plans to offer them to their employees.”
Withdrawals from HSAs for non-medical reasons are treated very similarly to pre-retirement withdrawals from IRAs, with tax penalties that make it only worthwhile in emergency situations. Given the reasonable expectation of increased healthcare costs later in life and the tax-free growth of funds in an HSA, however, contributions now can be as effective later as IRA contributions, and with greater flexibility in case of an intervening medical emergency.
“HSAs can be used to pay for current medical expenses,” explains tax expert William Perez. “For people with few medical expenses, HSAs have the effect of getting a deduction up-front, on page 1 of Form 1040, rather than as an itemized deduction which may have limited or no tax impact.”
So what’s the upshot? A high-deductible plan with an associated health savings account can reduce your current healthcare premium costs, while also reducing your taxable income through contributions to your HSA. This money will grow tax free until you withdraw it — tax free if used for medical purposes, but with penalties if used for other reasons.
If your current healthcare needs are low, or if you are an employer struggling under heavy healthcare premiums, a high-deductible HSA plan might be right for you or your business. If you are approaching retirement or are suffering from health issues, the limited potential for tax-free savings and growth and the higher deductibles would make these plans less advantageous.