Medical expenses continue to be one of the biggest expenses during the golden years of retirement. In fact, the average couple aged 65 in 2019 will spend $285,000 on medical expenses during retirement, according to a Fidelity Investments study. Even if you’re well above average when it comes to personal finances, this number can be shocking and intimidating. You’ve likely heard all the generic financial planning advice: max out your 401k, open a Roth IRA, contribute to personal savings regularly, etc. The purpose of this article is to introduce another layer you can add to your personal finance portfolio to obtain your long-term retirement goals. More specifically, planning to save the necessary funds to cover your medical expenses. The method we will introduce here is investing your HSA funds.
In fact, the average couple aged 65 in 2019 will spend $285,000 on medical expenses during retirement…
What is an HSA?
Let’s start with the basics, an HSA is a Health Savings Account. It is an account that allows you to save for both short and long-term medical expenses, as well as reduce your current years’ taxable income (more on that later). The first step is determining if you’re eligible for an HSA. To be eligible you must:
- Be at least 18 years of age
- Be enrolled in a qualified HDHP (high-deductible health plan)
- Not be enrolled in Medicare
- Not be claimed as a dependent on another’s tax return
Now that you can verify if you’re qualified, let’s move on to step 2, opening your own HSA. Most health insurance providers offer an HSA plan through their services. If yours doesn’t, however, you can open one with any healthcare provider that does. Check with your employer or current health insurance provider to open your account today. Once enrolled, the third step is funding your HSA. Just like your 401k, the IRS has contribution limits for HSA plans. Each year you can contribute a maximum of $3,500 for an individual plan, or $7,000 for a family plan. If you’re 55 or older, you can contribute an additional $1,000 in “catch up” funds annually. Make sure you set your contributions at each health insurance open enrollment period.
We’ll cover the fourth, and least known, step in detail in the next section.
Investing Your HSA Funds
The average life expectancy continues to rise as us humans continue to make medical advancements, and make our lives safer in general. A boy born today has a life expectancy of 88.8 years. Compare this to a 65 year old man born on the same date and entering retirement with a life expectancy of 85.5 years (using the Social Security Administration Life Expectancy calculator). That may not sound like much, but that’s an additional 3+ years of expenses that need to be planned for! So how do you bridge this ever-increasing gap? Investing your available HSA funds is a lesser-known trick that can certainly get you over the hump.
HSA plan providers will allow you to invest most of your funds into a variety of options. The options available to you will be determined by the provider you use. If you are searching for your own HSA plan, and available investment options are important to you, make sure you do some upfront research before selecting a plan. Some of these plans can be very limited in the number of available investments. The trick here is to keep your investment selection simple. The goal with HSA investing is simply to grow your account more than it would sitting there earning nothing. We recommend you choose something with a modest average annual return with low risk. Even if it ends up averaging a measly 3% annually over your lifetime, that still adds up to a nice buffer come retirement.
Here’s what that “measly” 3% would look like, if you contribute and invest $2,500 annually ($2,500 was chosen to assume a single person plan, maxing out your contribution, and using $1,000 annually for medical expenses):
Like we said, this strategy can more than bridge the medical expense gap we mentioned earlier!
Triple Tax Advantage
As eluded to earlier, HSA accounts have some of the best tax benefits you can find. Not only will your annual contributions reduce your taxable income each year, but they also won’t be taxed on the way into your account. Additionally, you will experience tax-free growth on the money you make through your HSA account. Cue the infomercial because WAIT, THERE’S MORE! Your funds are not taxed on the way out when you use them for approved medical expenses either! The only catch here (because there’s always a catch) is that funds MUST be used for approved medical expenses. Check out this list of all HSA approved medical expenses, some may surprise you!
Still not convinced you should open an HSA and invest your funds? Well, here’s your cherry on top: once you turn 65, this HSA essentially operates as an IRA. You can used the funds you have stashed away for anything you’d like, however, you WILL be taxed for using any funds on non-medical expenses. If you’ve been paying attention and following along, you’ll see that we’ve essentially uncovered a loophole into the maximum annual contributions of an IRA for you. We’ve found a way to boost our contribution limits by an additional $3,500 or $7,000 annually ($4,500 or $8,000 for those 55 and over)!