Using your HSA in retirement
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“Verified by an expert” means that this article has been thoroughly reviewed and evaluated for accuracy.
BLUEPRINT
Published 8:20 a.m. UTC Dec. 27, 2023
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Key points
- A health savings account has a triple tax advantage.
- After reaching age 65, you can make penalty-free HSA withdrawals for any purpose.
- Nonqualified distributions after you reach age 65 will be taxed at ordinary income rates.
You may already know that a health savings account can be an excellent way to pay for out-of-pocket medical expenses. Anyone with a high-deductible health plan can contribute to a tax-advantaged HSA.
But the benefits extend beyond paying for medical care with tax-free dollars. An HSA can also be a powerful retirement savings tool since the funds can be used for any purpose without penalty after age 65.
Deciding to use your HSA to save for retirement takes forethought. You must weigh the benefits of using the money for retirement versus paying for medical expenses now.
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Benefits of an HSA
As mentioned, an HSA is a powerful savings tool, primarily because of its tax benefits.
“Health savings accounts are a triple threat when it comes to taxes,” said James Allen, a certified financial planner, a certified public accountant and the founder of personal finance site Billpin. “The money you put into an HSA isn’t taxed, any growth and earnings are tax-free, and you don’t pay taxes when using the funds for medical expenses.”
HSAs offer a tax deduction of your annual contribution amounts when you file your income taxes, reducing your taxable income that year. If you have an employer-based HSA, your employer may offer pretax contributions in which your contribution amounts reduce your gross income.
The HSA becomes even more beneficial when you consider the tax rules for seniors. Before you reach age 65, you can use the money in your HSA for qualified medical expenses only. Use it for anything else, and you’ll pay income tax and a 20% penalty.
But once you reach age 65, you can use the money in your HSA for any purpose. You will still pay income tax if you use the money for anything other than qualified medical expenses but won’t pay the added penalty.
Why use an HSA for retirement?
You may wonder why you would save for retirement with an HSA, especially when you could use those funds to pay for medical expenses today and contribute to a separate retirement account.
“According to the Employee Benefits Research Institute, a 65-year-old couple on average will need $318,000 saved to have a 90% chance of covering their health care costs in retirement,” said Kendra Smith, senior director of health savings at TIAA. “That’s a significant amount of money to have set aside for health care expenses alone.”
You can use your traditional retirement savings to pay for medical expenses during old age. But an HSA has the added benefit of allowing you to avoid taxes on any money you spend on qualified medical expenses.
“In most cases — unless you made Roth contributions during your career — the distributions from your retirement assets will be taxable at the federal level, including those used for medical expenses,” Smith said.
If you’re weighing whether to spend your HSA on health expenses today or save it for retirement, consider which route helps you maximize the tax advantages. Using the account today for medical expenses allows you to benefit from the upfront tax savings. But you won’t benefit from tax-free investment growth like you would if you saved the money for retirement.
Note that an HSA is available only if you have a high-deductible health plan, which means a deductible of $1,600 or more for an individual and $3,200 or more for a family.
If you have access to both a high-deductible health plan and a low-deductible health plan through your employer, do the math to determine whether a low-deductible health plan or an HDHP with an HSA is more cost-effective.
How to save for retirement with your HSA
If you plan to use your HSA to save for retirement, treat it like you would any other retirement account.
Contributions to an employer-based HSA can be taken out of your paycheck. If you use a third party for your HSA, you can set up an automatic monthly contribution, which you can claim as a tax deduction when you file your income tax return in the spring.
As an added bonus, your employer may also contribute to your HSA.
“Do keep in mind if your employer makes an HSA contribution on your behalf, it counts toward the annual IRS stated limits,” Smith said. “Some employers will make additional contributions to your HSA if you complete health and wellness-related activities, such as getting a biometric screening or participating in smoking cessation or weight loss programs.”
How to invest with your HSA dollars
The next step in using your HSA to save for retirement is investing the money in your account. Your investment options depend on your HSA provider. You may be able to choose from mutual funds, exchange-traded funds and individual stocks.
Be aware that not all HSAs offer investments. Some accounts, such as those held at banks, may pay a small amount of interest but don’t let you invest. To invest, you may need an account through a brokerage firm like Fidelity or a specialized HSA provider like Lively.
As you select specific funds for your HSA money, consider when you expect to tap into the account. Some people like to keep a portion of their money in low-risk investments to ensure cash is available for upcoming medical expenses and invest the rest in growth funds that have more risk but the potential for greater returns. A financial planner can help you determine the right mix of funds for your situation.
Once you invest the money, compounding gains will help your contributions grow. With any luck, the dollars you put into the account will have grown to several times their original value by the time you retire.
How to use your HSA in retirement
During retirement, you can make tax-free withdrawals from your HSA to pay for qualified medical expenses, including medical bills and other health care-related costs. You can even use the money to pay for your Medicare and some other insurance premiums, with the exception of a Medicare supplemental policy.
Using your HSA for qualified medical expenses offers the greatest tax advantage since you’ll pay income taxes on withdrawals used for other purposes. For that reason, save receipts for any medical expenses you pay out of pocket during your working years. As long as those expenses are incurred after your HSA is established, you can reimburse yourself with a tax-free withdrawal in retirement.
But flexibility is the major benefit of using an HSA for retirement. If you need to dip into your funds to pay for nonqualified expenses, you can do so without incurring any more tax liability than you would using a traditional individual retirement account or 401(k).
Maximizing your HSA contributions
Just like your 401(k) or IRA, your HSA limits how much you can contribute each year. In 2024, you can contribute:
- $4,150 for self-only coverage.
- $8,300 for family coverage.
If you’re 55 or older, you can contribute an additional $1,000 per year as a catch-up contribution. And as with other tax-advantaged accounts, HSA contribution limits are periodically increased to keep pace with inflation.
The earlier you start contributing to your HSA, the better, as it will have more years to generate returns. Maxing out your contributions takes discipline but can make a huge difference in the future.
Frequently asked questions (FAQs)
Yes, you can use an HSA for retirement. In fact, the HSA rules relax once you reach age 65.
At that point, you can continue using your HSA for qualified medical expenses tax-free. Additionally, you can use it for any purpose without paying the 20% penalty. Nonqualified expenses will still be subject to income taxes, however.
An HSA can be one part of your overall retirement savings strategy. You can use it alongside a 401(k), an IRA or another account to pay for health care expenses during retirement and increase your tax-advantaged contributions each year.
Your HSA doesn’t disappear when you retire. You can continue to use it to pay for qualified medical expenses tax-free. And once you turn 65, you can use it for nonqualified expenses while paying only income taxes; the 20% penalty no longer applies.
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