As many of you know, we switched to a high-deductible health insurance plan (HDHP) this year. Along with that change came the opportunity to open a health savings account (HSA) to help offset our increased deductible.
For those that are unaware, an HSA is similar to a flexible spending account (FSA), but better. While both provide a tax break on qualified medical expenses, the HSA has a higher annual contribution limit ($6150 for families, $3050 for individuals) and it’s also not subject to the “use it or lose it” provision.
Another very important difference is the freedom to invest funds in an HSA in much the same way you can invest the money in your IRA. While your employer might have a “preferred” HSA custodian, you can actually use an custodian you want.
A better use for our HSA?
All of this got me to thinking… Assuming that you can afford to pay for their medical expenses out-of-pocket and make HSA contributions, should you make claims against your HSA? Or should you leave the money in place and let it grow, completely tax free?
When you really think about it, the HSA combines the best attributes of the Traditional and Roth IRAs. That is, it combines the deductible contributions of a Traditional IRA with the tax-free distributions of a Roth IRA. Add to that the high contribution limits and you’re talking about a very powerful investment vehicle.
Getting your money out of your HSA
Obviously, we’ll eventually want to get our money back out of our HSA. How can we do that? Simple. According to IRS Publication 969:
When you pay medical expenses during the year that are not reimbursed by your HDHP, you can ask the trustee of your HSA to send you a distribution from your HSA.
The go on to say that:
You can receive tax-free distributions from your HSA to pay or be reimbursed for qualified medical expenses you incur after you establish the HSA… You do not have to make distributions from your HSA each year.
But wait… It gets better:
If you are no longer an eligible individual, you can still receive tax-free distributions to pay or reimburse your qualified medical expenses.
One other little safety net is that, once I turn 65, the 10% penalty for non-qualified distributions goes away.
Here’s a quick translation:
- You can take distributions in return for any qualified medical expense that you incur after open your HSA
- You are free to wait as long as your want to take these distributions
- You can even take distributions after you’re no longer eligible to contribute to an HSA
- You can also claim qualified expenses incurred after you lose eligibility
- Once you turn 65, you can take non-qualified distributions by paying taxes (like a Traditional IRA) without paying the 10% penalty
Of course, you’ll have to save your documentation to make this happen. The good news is that you can simply scan and archive the paperwork (just be sure to keep backups!) as the IRS accepts scanned documents.
So, dear readers, what do you think? If you’re in a position to cover the out-of-pocket expenses associated with your healthcare while contributing to an HSA, should you take distributions from your account? Or should you leave those funds in place to grow tax free such that you take better advantage of them in the future?
As for us, leaving the money in place is a pretty attractive proposition, and we’re currently archiving receipts instead of taking distributions while we consider our options.
N.B. It seems like I’m not the only one that thinks this way.