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Health Savings Accounts as a Retirement Savings Tool?

Kimberly Flett

Employers should know the options available utilizing a plan design with health savings accounts (HSAs) and the provisions accordingly. Structured correctly, these accounts can provide a tax savings tool for the employer and employee as well as reducing medical costs.

HSAs provide a tax-free vehicle for participants to accumulate investments in order to reimburse out-of-pocket medical expenses. The advantage of the accounts is considerable once the qualification requirements are met. In addition to providing nontaxable reimbursements for withdrawals for medical expenses, the accounts may be used for a nontraditional way to save further for retirement once all other tax deferred retirement plans have been maximized.

A qualified trustee such as a bank, insurance or investment company that has been approved by the IRS to establish IRAs generally may establish an HSA. Individual taxpayers own the accounts and they are portable, meaning HSAs do not belong to the employer and become part of the individual taxpayer’s investment portfolio. Investments can be made in cash, bonds and mutual funds, similar to 401(k) plans. Investments other than cash generally are required to have a minimum funding threshold.

In order to qualify for an HSA, an individual must be part of a high-deductible health plan (HDHP). Insurance carriers will state whether medical plans meet the qualifications which include deductibles of $1,300 for single and $2,600 for family plans in 2016, with $6,550 and $13,100 single and family coverage out-of-pocket maximums. Additionally, a taxpayer cannot be claimed as a dependent on someone else’s return, has no other health coverage and is not enrolled in Medicare in order to be eligible. The maximum contribution amount for 2016 is $3,350 for single and $6,750 for family coverage. Individuals over the age of 55 may contribute an additional $1,000 in catch up contributions and for spouses each is eligible to fund a catch up which must be into their own HSA. Note for a family plan spouses may only contribute up to the maximum limit of $6,750 as a combined limit plus catch ups for each if they qualify.

Contributions are tax deductible to the individual up to 100% on Form 1040. An employee may also make HSA contributions as part of an Internal Revenue Code Section 125 plan and the tax savings occurs at the payroll level in these circumstances.

An HSA can be funded by an individual taxpayer, another individual or the employer. The employer contributions cannot be deducted on the employee’s tax return but still are a tax-free benefit. Note employer contributions must be consistent and cannot discriminate among employees but may distinguish between classifications such as full- or part-time employee, single or family coverage.

Withdrawals to pay for qualified medical expenses are tax-free. Before age 65, withdrawals made for other than medical benefits are subject to a 20% penalty, which was increased as part of the Affordable Care Act (ACA). Once the individual turns age 65, the withdrawals for non-medical expenses are subject to ordinary tax rates without the penalty.

Fully funding the HSA provides a substantive benefit that grows tax-free, especially for individuals who can pay the high deductible and related out-of-pocket costs directly without targeting the HSAs for withdrawals until retirement. However, it’s important to consider the maximizing options in an IRA and qualified plan first and not forgoing funding into these types of accounts, if eligible, before maximizing an HSA. As medical costs continue to soar, it’s important to consider that the savings within an HSA will be most needed for that which it was intended in retirement years: to pay medical expenses.

The investments options within an HSA are limited compared to those in qualified plans and IRAs. Additionally, the underlying investment fees are not as readily apparent and do not require the disclosure as within qualified plans. The funds are easier to tap into than qualified plans, meaning a tax penalty is likely before the age of 65 and for other than non-medical expenses.

Once taxpayers enroll in Medicare, they are no longer eligible to fund an HSA. As part of retirement planning, it’s important as people reach retirement age to consider the costs of paying both the high-deductible and out-of-pocket maximums, fully funding the HSA without first maximizing the savings options in a qualified plan and IRAs. Without a substantial medical component to the costs savings needed in retirement years, it may be best to consider leaving the HSA for its main purpose of providing for retirement benefits.

For employers, considering whether an HDHP will reduce overall medical plan costs can be a factor in benefit plan design including a possible reduction in premiums for switching to an HDHP. As long as the plan meets the requirements of the ACA such as qualifying for minimal essential coverage and other ACA mandates (check with your carrier) employers will avoid any possible sanctions or penalties. Most carriers provide a range of high deductible options upon which employers may choose.

As part of plan design, employers need to consider other types of reimbursement plans available. The IRS regulations do not allow for both a HSA account with a flexible spending account (FSA) unless these plans are designed as limited only with reimbursements for items unrelated to medical such as dental/vision or will provide medical plan reimbursements after the deductible requirements are fulfilled. Note stand-alone health reimbursement arrangements (HRA) that are not integrated with a health plan are limited now due to the ACA requirements.

As with any benefit related program, it’s essential to consult with your carrier, CPA or attorney to ensure the designs are structured efficiently to meet the various government mandates for both you and your employees as a part of effective medical plan design and retirement planning for the future.

Kimberly Flett CPA, QPA, QKA, is Senior Director, BDO Compensation and Benefits Services and a member of the NTSA Communications Committee.

Opinions expressed are those of the author, and do not necessarily reflect the views of NTSA, or its members.

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