The Benefits and Disadvantages of a Health Savings Account

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Health savings accounts have surged in recent years. According to the Consumer Financial Protection Bureau, in 2023, 36 million HSAs were reported in the United States. These accounts hold about $116 billion in assets. More and more Americans are considering health savings plan benefits to cover qualified medical expenses. 

What are the benefits of a health savings account, and how could they benefit you? This guide will offer an overview of HSAs and whether it is the right plan for you and your family.

What Is an HSA? An Overview

An HSA is a tax-advantaged savings account structured to help people with high-deductible health plans save money for qualified medical expenses. 

The balance in your HSA can be used for a wide variety of services, including physician visits, prescriptions, and dental care. After age 65, funds can be withdrawn for nonmedical expenses without penalties. 

There are specific eligibility requirements for an HSA. Those include the following: 

• Must be enrolled in a qualified HDHP
• No other health insurance coverage
• Cannot be claimed as a dependent on another’s tax return
• Medicare enrollees are not eligible 

In addition to eligibility requirements, contribution limits apply when you fund your HSA. For 2024, individuals can contribute up to $4,150 and $8,300 for families. In 2025, those limits change to $4,300 for individuals and $8,600 for families. Those 55 and older can contribute an additional $1,000 by the end of the tax year, provided they have not enrolled in Medicare. 

What Are the Benefits of Starting an HSA?

There are several benefits for HSA funds. Here’s a look at how your HSA balance can help you navigate healthcare expenses: 

Expansive Health Coverage 

Several eligible health expenses qualify, eliminating  the worry of, “How can I afford to pay this medical bill?” If you’re curious about the specifics of what health expenses qualify, you can access the Internal Revenue Service (IRS) Publication 502, Medical and Dental Expenses.

No Minimum Amount Required 

There is no minimum deposit needed to open an HSA account. 

Account Ownership is Always Yours 

Your HSA account is portable. Even if you switch jobs, you can take it with you, and the funds never expire. 

HSA Contributions Can Come from Multiple Sources

The beauty of an HSA account is that you can contribute, but others, like your employer, family members, or anyone else, can also deposit funds. 

Contributions Are Pre-Tax Dollars

If you contribute to your HSA as a payroll deduction, the funds are considered pre-tax. If someone else contributes, like an employer, the funds are also pre-tax.  

Funds Roll Over Year-to-Year 

You don’t lose your HSA funds if you fail to use them in a calendar year. The amount in your HSA rolls over to the following year.

Your Family’s Qualified Medical Expenses are Covered

Your HSA account will cover qualified medical expenses for your spouse and children. 

Investment Opportunity

You are allowed to make investments through your HSA. Those investment options include mutual funds, stocks and bonds. Your earnings are not taxed. 

Withdrawals Are Tax-Free

Any withdrawals from your HSA are free from federal and state taxes if you use the funds for qualified medical expenses. In addition, there are no minimum distribution requirements, and you can withdraw funds when needed for medical expenses. 

Payment Is Easy      

Most HSAs have an accompanying debit card associated with the account, so you can quickly pay for qualified expenses. Even if a bill comes in the mail, you can use your debit card to make payments over the phone. 

What Are the Cons of Starting an HSA?

Although there are several advantages to starting an HSA, you must be aware of the disadvantages. Before deciding if an HSA is right for you, here are some of the cons: 

You’ll Need a High Deductible Health Plan

To qualify for an HSA account, you must have an HDHP. If medical emergencies arise, you’ll likely have to pay out-of-pocket costs before your HDHP insurance applies. For those with medical expenses that happen at the beginning of the year, it could strain your finances. 

Keeping Track of All Records

There are regulatory requirements that must be met for HSAs. Unless your HSA provider plans to do the recordkeeping, you must keep track of contributions, withdrawals and distribution reporting. You must also keep receipts of your qualified medical expenses if the IRS flags your return for an audit.

Age Limit in Contributions

Once you turn 65, you can no longer contribute to your HSA. This rule applies even if you’re still employed. 

Penalty for Nonmedical Expense Withdrawals

Your withdrawal is taxable if you withdraw funds for nonmedical expenses before age 65. The IRS also will expect you to pay a 20% penalty. 

Dependents Cannot Seek Coverage 

If an individual claims you as a dependent on their tax return, you are ineligible to start an HSA.

How Do You Decide if an HSA is Right for You?

To evaluate whether an HSA is right for you, assess your healthcare needs, financial situation, and long-term goals. Before deciding on whether an HSA is right for you, here’s a list of questions you should ask before you choose: 

Do You Have an HDHP?

To open an HSA, you must be enrolled in an HDHP. For 2024, the minimum deductible for an individual is $1,600 or $3,200 for families. If you prefer lower monthly premiums and higher deductibles, an HDHP paired with an HSA will likely work for you. An HDHP is ideal for those who don’t expect frequent medical expenses. 

Are You Able To Afford a Higher Deductible?

Evaluate your financial situation and determine if you can afford the out-of-pocket expenses for medical coverage. For HDHP coverage to begin, you must pay out-of-pocket medical expenses first. 

Are Tax Savings Important to You?

With an HSA, your contributions to an HSA are tax-deductible, and withdrawals for qualified medical expenses are tax-free. Another added benefit is the money in your HSA grows tax-free. 

What Are Your Healthcare Needs?

If you feel you are in relatively good health and don’t expect ongoing medical expenses, an HSA can help you save for future healthcare needs while taking advantage of tax benefits. 

Is an HSA Part of Your Retirement Strategy?

After 65, you can use your HSA for nonmedical expenses without penalties. Keep in mind that withdrawals will still be taxed as ordinary income. For qualified medical expenses, you don’t have to pay taxes. An HSA can serve as an additional savings vehicle alongside your IRA or 401(k) plan. 

Can You Maximize Your Contributions?

If you can contribute the maximum limits to your HSA, you will benefit from more significant tax savings. 

How Do You Start an HSA?

Starting an HSA  is relatively easy. Generally, employees enrolled in HDHP plans through their employers will be offered the chance to open and contribute to an HSA. Once the HSA is opened, your contributions will be made via your paycheck, and these funds will be excluded from your taxable income. 

If your employer doesn’t provide an HSA, you can inquire about setting one up with a wide range of financial institutions. Once you’ve opened the HSA, you can contribute to your account as a lump sum or in regular installments. 

Final Take

An HSA offers a way to manage healthcare costs and the flexibility to use your funds for qualified medical expenses. An HSA is convenient since you’re issued a debit card for your account. Your HSA account balance never expires, and you can reduce your taxes. The benefits of an HSA continue throughout your golden years, and you don’t have to worry about how to pay for unexpected medical expenses. 

Takeaway

Finding and working with a financial advisor is a great idea. A financial advisor will help keep track of your finances and assist you in attaining your financial goals. While finding the right one can be overwhelming, you can decide to work with a financial advisor in your community or a virtual one.

Get to know your financial advisor options today for free!

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