Nearly 20 million Americans are now enrolled in high-deductible health plans via their employer, more than six times the number who had that type of insurance 10 years ago. And during that time period, the average amount that employees contribute toward their health care costs has more than doubled to nearly $5,000, according to a recent Aon report.
Among large companies, 16 percent offer only a high-deductible plan, and another 41 percent are considering making them the only option in the next few years. Last year alone, an additional 2 million workers joined the ranks of those with high-deductible plans.
While such plans have high costs upfront, they also offer participants access to health savings accounts, which can help defray those added costs and function as a retirement savings tool, as well.
More than 16 million Americans now have health savings accounts, worth a total of over $33 billion last year, according to research firm Devenir. For those who have never had them before, though, HSA accounts can be intimidating. Here’s what you need to know to make the most your new plan:
1. An HSA is like an FSA on steroids. Just like the flexible spending accounts you may have previously used to cover healthcare expenses, you can have your employer put part of your pretax paycheck automatically into an HSA. You can then tap into this tax-free account to cover any health expenses like deductibles, co-pays, or dental or vision treatments. That means an automatic savings on health expenses of up to 40 percent, depending on your tax bracket.
Unlike an FSA, however, which is meant to be spent, HSAs really focus on saving. HSA funds don’t expire at the end of the year. Instead, they continue to roll over and compound over the years, and you own them when you leave your employer. “It’s a much better vehicle for employees to think long-term about saving for medical expenses in the future,” says Karen Marlo, vice president of the National Business Group on Health.
In 2016, individuals can stash up to $3,350 in an HSA, while families can sock away $6,750. Those age 55 or older can put away an additional $1,000. (If you had a high-deductible health plan last year and didn’t fund it, you have until Apr. 15 to contribute for 2015.) To be eligible, your health insurance deductible must be at least $1,300 for an individual and $2,600 for a family, and the plan must meet a few other regulatory requirements.
2. You should put in as much money as you can. If you max out your contributions in the first year, you still won’t have enough money in your HSA to cover the costs of a worst-case healthcare year. The maximum out-of-pocket payments for high-deductible plans this year are $6,550 for an individual and $13,100 for a family. Saving as much cash as possible in an HSA while you’re young and healthy (and your medical costs are low), will allow you to build up a tax-free emergency fund if higher medical bills hit later. “Ideally you’ll contribute every year, and that money will just keep growing tax free,” says Joel White, president of the Council for Affordable Health Coverage.
While most consumers contribute to their HSA accounts via payroll deductions, you can also make lump-sum contributions. This is a good option for people who have large medical costs like expensive prescriptions or a planned surgical procedure that will take place early in the year before you’ve fully funded the account.
For consumers who are already maxing out a 401(k) and an IRA, the HSA offers one more way to save money for retirement. Fidelity estimates that a couple retiring this year would need $245,000, after Medicare, to cover out-of-pocket medical costs in retirement, not including nursing home care. Setting aside money in a fund to cover such costs—especially tax-favored money‑can give savers a huge advantage in retirement.
3. Companies are helping out. As they shift more employers into HSA-eligible high-deductible health plans, a growing number of employers will put money into an HSA on your behalf as an incentive for their workers to open an account or as a reward for participating in company wellness programs. About a third of companies that offer high-deductible plans with HSAs put $500 or more into the accounts on behalf of their workers, according to PwC. That’s valuable free money, but keep in mind that HSA contributions limits (unlike 401(k)s) include both employee and employer dollars.
4. It’s the most tax-advantaged account out there. In addition to compound growth, HSA accounts offer a combination of tax benefits you can’t get anywhere else. Your contributions are pre-tax, they grow without taxes, and as long as you use the money for medical expenses, you won’t have to pay taxes on withdrawals either. “It’s the triple-play of tax-advantaged accounts,” says Boston-based benefits consultant Pat Haraden.
After age 65, you can withdraw the money for non-tax reasons and owe only ordinary interest tax on it.
5. They’re most valuable if you don’t use them (now). If you’ve get enough cash to cover your health costs now, some financial planners advocate using after-tax money to pay for your expenses in the short-term, letting your HSA money grow over time. That strategy would allow you to build a large medical expense emergency account or a nest egg you can tap tax-free for medical expenses in retirement. “If you can build up that cash-deferred value, it can really cushion you in later years,” says Mike Thompson, a human resource service principal with PwC.
6. You’ll need to manage it like your other retirement accounts. The default option for many HSAs is putting it into a money market or a savings account. That’s an O.K. option if you’re going to use the money soon, but if you’re thinking of it as an additional retirement account, you’ll want to move it somewhere that offers investment options. You’ll want to choose diversified funds with low fees or go for a target-date account timed to your retirement.