💰 📈 ❤️ All about the Health Savings Account triple tax advantage

☕ Good morning!

The Lord of the Rings trilogy, BLTs, and the tax benefits of Health Savings Accounts remind us that many good things come in threes. 

Now, before your eyes glaze over at the thought of reading about health insurance, I promise this newsletter will make it worth your while. 

Today, we’re talking specifically about how you can tap into the triple tax advantage of HSAs to put more money in your pocket today, tomorrow, and when you retire.

By earmarking money you’ll probably spend on health-related expenses at some point in your life in an HSA, you can get: 

📉Tax-Deductible Contributions: Lower your taxable income and save on taxes immediately.

📈Tax-Free Growth: Enjoy tax-free growth on interest, dividends, and capital gains.

❤️‍🩹Tax-Free Withdrawals for Qualified Medical Expenses: Use HSA funds for medical expenses without paying a dime in taxes.

Let’s get into it!

🎸HSAs rock because they roll (over). 

For starters, HSAs aren't just for short-term medical expenses. Let’s think of them as more of a tax-advantaged savings account rather than some convoluted health insurance benefit. 

Unlike Flexible Spending Accounts (FSAs), unspent HSA funds roll over year after year, building a robust medical emergency fund. That’s right, no “Use-It-or-Lose-It” Rule.

Plus, you own the money, so you can invest it and let it grow. 

You can use the funds for medical expenses anytime, and after age 65, for non-medical expenses without penalties (though subject to income tax).

#1: Tax-Deductible Contributions

HSAs are a smart tool for high earners to reduce immediate tax liability while saving for future medical expenses.

💎The real gem is that HSA contributions can be made with pre-tax dollars, directly reducing your gross income. Spoiler alert for point #3: withdrawals for qualified expenses are also tax-free!

This means you owe less in taxes for the year, which is an enormous benefit for those in higher tax brackets. 

You can contribute through payroll deductions if your employer offers an HSA.

You can also contribute on your own; these contributions are tax-deductible on your federal income tax return. This deduction is available whether you itemize deductions or not.

For 2024, individuals can contribute up to $4,150, and families can contribute up to $8,300. If you are 55 or older, you can make an additional $1,000 catch-up contribution.

#2: Tax-Free Growth

Funds in an HSA grow without being taxed on any interest, dividends, or capital gains. 

This can be a particularly great windfall if you invest your HSA funds in higher-yielding options like the stock market or mutual funds during a market dip– these funds can grow substantially since they are not diminished by annual taxes on gains.

For those who do not face frequent significant medical expenses, the HSA can act similarly to a retirement account. 

The longer you leave the funds to grow tax-free, the more substantial your account balance becomes.

#3: Tax-Free Withdrawals for Qualified Medical Expenses

🎂The cherry on the cake– HSAs provide a strategic advantage with tax-free withdrawals for qualified medical expenses. 

Unlike other savings vehicles like Roth IRAs, 401(k)s, or traditional IRAs, HSA funds are never taxed if used for qualified medical expenses.

This means your pre-tax contributions and their growth can be withdrawn tax-free for a wide range of medical expenses. Qualified medical expenses include most medical, dental, and vision care costs as defined by the IRS. These expenses generally cover:

🏥Medical: Office visits, diagnostic testing, surgical procedures, prescription medications, and over-the-counter medications

🦷Dental: Fillings, cleanings, braces, x-rays, tooth removals

👀Vision: Eye exams, glasses, contact lenses, corrective eye surgery

🎉Other Eligible Expenses: Acupuncture, chiropractic care, hearing aids, mental health counseling, physical therapy

These expenses must primarily be for preventing, diagnosing, or treating a physical or mental illness. Check out IRS Publication 969 for detailed guidelines on what constitutes a qualified medical expense.

😵‍💫However, if you withdraw funds for non-medical purposes before age 65, those withdrawals are subject to income tax and a 20% penalty. 

After age 65, you can withdraw funds for any purpose without the 20% penalty, though non-medical withdrawals will be taxed as income. 

🤔Do I qualify for an HSA?

To qualify for an HSA, you need to be enrolled in a High-Deductible Health Plan (HDHP).

Woah, hold your horses, Dan. I clicked on this email to read about HSAs, and now you want me to learn about more health insurance acronyms?

Bear with me. 

An HDHP is a type of health insurance plan with higher deductibles and lower premiums than traditional plans. 

The deductible is the amount you pay out-of-pocket for medical expenses before your insurance kicks in. 

Why an HDHP? Well, the government’s logic is that the higher deductible encourages you to be more conscious of your healthcare spending. You're more likely to shop around for the best prices and avoid unnecessary services. 

Plus, the lower premiums mean more money in your pocket each month, which you can then contribute to your HSA, growing your tax-advantaged savings.

HDHPs also often cover preventive care services (like annual check-ups and vaccinations) without requiring the deductible to be met first. 

In 2024, an HDHP must have a minimum deductible of $1,600 for individuals or $3,200 for families. HDHPs also have a maximum limit on yearly out-of-pocket expenses, which for 2024 is $8,050 for individual coverage and $16,100 for family coverage.

❤️ Making Cents of Health Savings Accounts

🤝The HSA and HDHP combination offers a fairly comprehensive safety net– amounts below your deductible can be paid for with pre-tax money and amounts greater than your deductible (i.e.,.e. catastrophic events) will be fully paid for (ideally) by your insurance plan. 

Imagine you're enrolled in an HDHP with a $2,000 deductible. You contribute $300 to your HSA each month, reaching the annual limit. Over time, your HSA balance grows through these contributions and any interest earned. 

When you face a medical expense, such as a $1,500 surgery, you use your HSA funds to cover it, paying no taxes on the withdrawal. 

Meanwhile, your HDHP covers any additional costs beyond the deductible, minimizing your financial downside against high medical expenses.

The logic for high-earners is clear: if you’re going to end up spending money on unavoidable health expenses throughout the course of your life, why not reduce your taxable income, grow your money tax-free, and essentially spend money you don’t have to pay a single cent of tax on rather than money that has already been taxed?

Even if you don’t have significant expenses now, you can build a substantial medical nest egg over time that extends to any qualified dependents. If your kids, siblings, or parents qualify as dependents on your tax return, you can use HSA funds to pay for their medical expenses, too. 

🏃Getting started is pretty straightforward: start by evaluating your health insurance to ensure it qualifies as an HDHP, compare HSA providers, plan your contributions based on your healthcare needs and financial goals, and track your medical expenses. 

If you’re ready to explore the potential of an HSA, consider a free financial analysis to explore how HSAs and other tax-advantaged accounts can integrate this powerful tool into your specific overall strategy.

Or, if you have specific questions, check out the detailed FAQs in our deeper-dive article on the HSA triple tax advantage. 

Until next week! 

Dan from Tailored Cents

P.S. Follow me on LinkedIn for more tax gems to save you money.