These Seven Medicare Features Boost the Value of HSA Balances

Health Savings Account contributions reduce your taxable income during your working years. They continue to offer financial benefits after you turn age 65.

Health Savings Accounts present a great opportunity for hard-working Americans to reduce their taxable incomes and pay 25% to 38% less for every qualified health-related service that they purchase. But the savings don't end there. Health Savings Account balances help seniors, whether working or retired, manage their budgets.

Most readers understand that Health Savings Accounts represent an additional means of saving for retirement. An account owner can build balances - by a combination of contributing to the statutory annual limit, remaining healthy to reduce claims, and deferring reimbursement by paying for qualified expenses with personal funds - to spend in retirement.

These balances are particularly important in retirement. Unlike distributions from a tax-deferred Individual Retirement Arrangement (IRA) or 401(k) (or similar workplace retirement) plan, Health Savings Account withdrawals for qualified expenses are tax-free. That's an important factor in retirement tax planning.

Let's look at seven distinct ways that Health Savings Accounts help seniors (or near seniors) manage their cost of coverage and care.

Medicare Eligibility Doesn't Begin until Age 65

More than half of all Americans begin to draw Social Security benefits between age 62 (when they're eligible) and age 65 (often considered the retirement age, though it no longer has a direct special meaning for Social Security recipients). But Medicare doesn't offer an early-retirement option. Early retirees must bridge the gap between the end of their employer-sponsored coverage and their enrollment in Medicare, which can begin as early as the first day of the month that they turn age 65 (or the first day of the prior month, if their birthday is on the first).

Many are eligible to retain coverage on their employer's plan for 18 months by exercising their COBRA continue rights. They pay a premium equal to 102% of the premium that the insurer charges their former company.

Example 1: Rhonda retires three months before her 64th birthday to join her husband on a yearlong RVacation around the United States. She exercises her COBRA rights. Her company's premium is $600 monthly for self-only coverage. Rhonda pays $612 (102% of that figure) monthly to retain her coverage. She pays this premium for 15 months until she enrolls in Medicare effective on the first day of the month of her 65th birthday.

Very small employers aren't covered by COBRA continuation rules. Employees whose employment is terminated and who are eligible for unemployment benefits can purchase nongroup coverage and pay 100% of the premium.

COBRA premiums and premiums for coverage when collecting unemployment benefits are qualified for tax-free withdrawals from a Health Savings Account. Paying a $600 monthly premium from a Health Savings Account generates $180 per month ($2,160 annually) tax savings at a 30% combined (federal payroll, federal income, and state income) tax rate.

Medicare Charges Premiums

Many Americans believe that they prepay their Medicare premiums through the federal payroll taxes deducted from their paychecks during their working years. Wrong. Those payroll taxes (2.90% of income, split equally between worker and company) do, under current law, cover premiums for Part A coverage. (Note: When you read that Medicare is going broke, it means that sometime in the next six or so years, the system will have spent all surpluses generated since 1965 and current income from payroll taxes won't cover Part A claims.)

The other half of traditional Medicare, Part B, does charge a monthly premium to all enrollees. The Part B premium is at least $174.70 monthly (about $2,100 annually) in 2024. For a couple enrolled on Medicare, that's nearly $4,200 annually deducted from Social Security checks to cover Part B premiums.

Medicare Part B premiums are qualified for tax-free distribution from a Health Savings Account. A couple paying standard premiums (about $4,200 annually between them) saves about $1,250 annually in taxes.

Medicare Charges Deductibles, Coinsurance, and Copays

When you access care under Medicare, you're subject to financial responsibility. You pay a Part A deductible of $1,632 every time you're admitted to the hospital for a new episode of care (as opposed to a readmission for further treatment of an existing illness or condition) in 2024. And you face annual limits on the number of days covered by deductibles alone. If you exceed those day limits, you must pay daily copays as well (either $408 or $816 daily in 2024) until you exhaust your annual and lifetime inpatient benefits.

Part B charges a $240 annual deductible (which means that you're responsible for the first $240 of eligible expenses) in 2024, then a 20% copay on all other services. Thus, if you've met your deductible and have an office visit with an allowable charge of $80, you pay $16 and Medicare pays $64. There is no annual cap on coinsurance, so your financial responsibility for a $100,240 course of outpatient cancer treatment is the $240 deductible plus 20% of the remaining $100,000, or $20,240 total. Most enrollees in traditional Medicare also purchase a Medicare supplement plan, which caps their annual Part B out-of-pocket financial responsibility.

Part B premiums and out-of-pocket responsibility are qualified for tax-free reimbursement from a Health Savings Account. Premiums for a Medicare supplement plan are not a qualified expense.

Outpatient Prescription-Drug Coverage Costs Extra

Outpatient prescription drugs (the type you pick up at the pharmacy) aren't covered by traditional Medicare. You can enroll in a separate Medicare plan (Part D) that covers prescription drugs, but this coverage carries an additional premium. And it includes deductibles, coinsurance, and copays. You may pay $1,000 or more annually on premiums and out-of-pocket financial responsibility.

Part D premiums and your out-of-pocket costs are qualified for tax-free reimbursement from a Health Savings Account.

Medicare Doesn't Cover Most Dental, Vision, or Hearing Services

Medicare doesn't cover most dental, vision, or hearing services. This gap is important to understand in a stage of life when aging teeth and eyes, and the ability to hear, require more upkeep, assistance devices, and, in the case of teeth, replacement or removal. Most of these services, including dental implants and crowns, root canals, eyeglasses, vision-correction surgery, and hearing aids, are not covered by Medicare. You must pay 100% of the provider charges (no discounts, as with commercial insurance or Medicare) to receive this care. (Note: Some Medicare Advantage plans, which are a private alternative to traditional Medicare, provide some coverage and discounts for these services.)

All necessary services are qualified for tax-free reimbursement from a Health Savings Account.

Medicare Premiums Rise with Income

Most Americans don't understand that Medicare coverage isn't free. Thus, even fewer realize that their Medicare Part B and Part D premiums may increase with income. Although the thresholds are below the incomes of most retirees, this provision can affect working seniors with high incomes enrolled in Medicare and retirees with a one-time income boost from the sale of a large asset like a business or home, or required minimum distributions from an inherited IRA.

This surcharge program is known as the Income-Related Monthly Adjustment Amount, or IRMAA.

How much do premiums rise?

The standard monthly Part B premium in 2024 is $174.70. That figure doubles to $349.40 monthly for singles with incomes between $161,000 and $193,000, thus increasing annual premiums by almost $2,100. For married couples, the income range to double monthly premiums is between $258,000 and $322,000, and the additional premium between the two is $349.90, or just under $4,200 annually.

The premium surcharges are far less on Part D than on the more expensive Part B. At the same income range, the monthly premium for prescription-drug coverage increases by $33.30. Because Part D plans are sold by private companies and premiums vary, only the surcharge - not the total premium - can be calculated without knowing the particular Part D plan. Monthly premiums are typically in the $30 to $75 range, so a $33.30 monthly surcharge represents a large percentage of the total premium.

Health Savings Account withdrawals for qualified expenses are considered reimbursements, not income. Therefore, withdrawals, unlike distributions from tax-deferred 401(k) plans and IRAs, aren't included in taxable income. This tax status can make a difference for a Medicare enrollee approaching the income threshold that triggers a higher premium surcharge.

Example: Between his pension, Social Security payments, required minimum distributions from his IRA, and interest on tax-free municipal bonds, Jung realized income of $102,000 through mid-December 2022. This income put him just below the $103,000 threshold that triggers the first premium surcharge of $69.90 monthly (about $840 annually) on his 2024 Part B coverage. (Note: These surcharges are always assessed two years later.) He had a remaining $2,400 bill for an MRI that he had to pay in 2022. If he withdrew that amount from his IRA, he would cross the threshold and pay an additional $69.90 monthly (about $840 annually) for his Part B coverage in 2024. If he'd had the foresight to withdraw funds from his Health Savings Account to pay that bill, his income would remain at $102,000 - below the threshold that triggers the IRMAA surcharge.

Thus, funding a Health Savings Account during your working years and knowing when to withdraw funds from that account can save you not only taxes (the withdrawal isn't included in taxable income), but also help you avoid IRMAA premium surcharges.

Medicare Doesn't Cover Over-the-Counter Items

Traditional Medicare doesn't cover over-the-counter remedies like aspirin, cold and flu medicine, arthritis medication, and myriad other drugs and medicine. And it doesn't cover self-prescribed equipment and supplies. These items are all qualified for tax-free distributions from a Health Savings Account.

Note: Many Medicare Advantage plans include an allowance to purchase these items. A Medicare Advantage plan may be a great coverage option for you, independent of this allowance. But be sure to understand how traditional Medicare and Medicare Advantage plans work and reassess your situation every yar during open enrollment.

The Bottom Line

Many Americans go into retirement without a solid plan to cover their medical and other health-related expenses during a period when those expenses are typically higher and their income lower than during their working years. Health Savings Accounts offer another opportunity to save for these expenses. And the tax benefits that Health Savings Accounts generate more spending power than the same sacrifice during your working years directed into a traditional workplace-based or personal retirement account.

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The content of this column is informational only. It is not intended, nor should the reader construe the content, as legal advice. Please consult your personal legal, tax, or financial counsel for information about how this information applies to you or your entity.