Saving for retirement and health care? An HSA allows you to do both at the same time
Planning for retirement overlaps with planning for health care more than you might think. Fortunately, you may be able to prepare for both at the same time.
Of course, retirees will incur many expenses that have nothing to do with health care, such as accommodation, food, travel and recreation. And many of the health-related expenses that retirees face will be covered by Medicare.
But there are still a lot of health care costs in retirement that will not be paid for by government programs. Fidelity Investments estimates that two spouses reaching the age of 65 should budget around $ 300,000 in combined reimbursable health care expenses over their remaining lifespan. The Employee Benefit Research Institute estimates the combined costs could be closer to $ 325,000 on average.
“This is a huge change” in terms of the health costs borne by retirees, said Jake Spiegel, associate researcher at EBRI. “Medicare does not cover all expenses. “
So what can you do to meet such a daunting obligation? Save, invest and use the best choice of accounts.
Traditional retirement accounts, including 401 (k) plans and Roth individual retirement accounts, are a big part of the equation. But you might also want to consider health savings accounts, although these tax-efficient vehicles aren’t for everyone.
Benefits of the health account
HSAs are flexible investment vehicles and they are portable, which means that an account stays with you even if you change jobs or leave the workplace. They usually offer a range of investment options, and best of all, they get a triple tax advantage.
Accounts are an “absolutely fabulous” way to invest and minimize taxes, said Sharon Carson, executive director of JP Morgan, at a recent event hosted by the Employee Benefit Research Institute.
What tax advantages? First, contributions are deductible. Second, account balances grow tax free. Third, withdrawals are tax exempt if they are used to cover a range of health-related expenses. Expenses eligible for tax-free treatment include surgeries, doctor’s visits, eye care, health insurance premiums, dental exams / fillings, nursing home assistance, and prescription drugs.
You could even say that HSAs have a fourth tax advantage because there is no minimum withdrawal required. For this reason, and because withdrawals are generally tax-exempt anyway, you don’t have to worry that the disbursements could push you into a higher tax bracket or make your Social Security benefits partially taxable. . This is not the case with traditional IRA withdrawals, which can push your Social Security benefits into the taxable category.
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Adequacy, eligibility issues
It is difficult to find many downsides to health savings accounts based on their tax features. But plans don’t work for everyone, and the tax benefits shouldn’t overshadow your medical insurance needs.
One problem is that not all employers offer health savings accounts as a benefit option. And even when available, HSAs are reserved for workers who purchase high-deductible medical insurance plans. These plans offer lower premiums, which saves you money, but high deductibles can be unaffordable for people on a tight budget or expecting high medical bills.
(You may also be able to open an HSA outside of the workplace, but you will still need to pair it with a high deductible insurance plan.)
Another drawback is that HSA contributions are capped for 2021 at $ 3,600 for singles and $ 7,200 for families, plus an additional $ 1,000 for people aged 55 and over. This means that it would take you years, if not decades, to accumulate enough money to seriously reduce the health costs expected in retirement.
It’s also worth noting that HSA withdrawals not used for qualifying healthcare expenses are subject to taxes (plus a 20% penalty if made before age 65). You cannot contribute to a plan once you are enrolled in Medicare, although you can continue to use the account proceeds to pay for medical expenses. You can also use HSA withdrawals to cover the medical costs of your spouse and dependents.
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Save or invest?
To accumulate a significant amount of money, you would want to contribute regularly over many years, avoid short-term withdrawals, and if possible, invest your balance in growth assets rather than just saving it. With HSAs, there is no “use it or lose it” rule, Spiegel said, which means unused account balances are carried over to future years. (This is not the case with flexible savings accounts, a separate type of medical vehicle with which HSAs are often confused.)
People who start early with an HSA might have two, three, or four decades to work with – plenty of time to use riskier growth investments like equity funds.
Yet this is not how the majority of HSA owners and accounts use, according to a recent Fidelity study which found that people primarily rely on money market funds or other short-term instruments. . Less than 10% of HSA dollars are invested in equity funds and other riskier assets, which means that many people are missing out on a significant opportunity to earn higher returns.
Since HSA dollars can be used at any time to pay for medical bills – now, next year, or decades later – there is some uncertainty as to when you will need the money. This explains why a lot of people don’t invest as aggressively as they maybe should.
One way to deal with this uncertainty over time is to hold a balanced investment mix. Fidelity, for example, offers two funds for use in the HSA programs it manages. One option, the Fidelity Health Savings Fund, holds around one-third of its assets in stocks and the remaining two-thirds in bonds and cash. The other fund, Fidelity Health Savings Index, owns about 45% equities and the remainder in fixed income.
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Prioritize your contributions
If you’re a heavy saver, there’s a good chance you’ll be putting money aside in a variety of accounts. But are you doing it efficiently based on cash flow, tax savings, and other factors? Carson made a few suggestions.
His first recommendation would be to build up an emergency reserve of cash or money market funds that could keep you going for three or six months, if necessary. Once that was achieved, she suggested turning to HSAs for investing and minimizing taxes (assuming you have access and are comfortable with high deductible plans).
After that, Carson suggested contributing to 401 (k) pension plans where appropriate, at least to the extent that you maximize the employer’s matching funds. Fourth, she recommended paying off high interest debts like credit card balances or student loans.
Assuming you have additional funds to deploy, then you could pay off low-interest loans, contribute to Roth or traditional IRAs, or invest in various taxable accounts, she said. Retirement accounts are important, of course, but “HSAs are more tax efficient,” she said.
Her recommended savings priorities aren’t for everyone. But for people who can save regularly, pay for pre-retirement health care costs with other funds, and thus allow their HSA balances to grow, this is a strategy that can pay off in retirement.
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