A Health Savings Account or HSA is an account that lets you put money away for qualified medical expenses without paying taxes on the money you save. It is a form of tax-advantaged savings fund exclusively for medical expenses.
An HSA is designed to cover health expenses that your insurance policy does not cover, such as co-pays, amounts below the deductible and out-of-pocket expenses.
What Does an HSA Do?
Health insurance plans usually have a deductible. The insurance pays only for expenses above the deductible amount. You will have to cover expenses up to that amount. Many insurance policies also don’t cover all health expenses. There may be copayments or other out-of-pocket expenses.
These expenses are often large enough to cause significant distress, causing even people with insurance to have major financial problems over medical events. An HSA is designed to help people with high-deductible health plans cover expenses that their health insurance does not, allowing you to manage serious health problems even with a high-deductible health plan.
How an HSA Works
An HSA carries tax advantages, so the IRS sets the rules on who is eligible for an HSA, how the money may be spent and how much an account holder can contribute tax-free.
Anyone who signed up for a high-deductible insurance plan (HDHP) qualifies for an HSA. The IRS changes the definition of an HDHP every year. The basic requirement for 2020 is a deductible of $1400 for an individual or $2800 for a family. Many health insurance plans are specifically marked as HSA-eligible, Ask your employer or health insurance provider.
You will decide how much to contribute to your HSA each year, up to a maximum tax-free amount set by the IRS. For 2020 the maximum contribution is $3,500 for self-only coverage or $7,000 for family coverage.
The money in your HSA may be spent on any qualified medical expense and you will not pay tax on the money when you deposit it or when you spend it. You will receive a debit card or checks that you can use to pay for qualified medical expenses.
If you do not spend the balance in your account during the year it can be rolled over to the next year. If you switch to a health plan that does not qualify for an HSA you can no longer make tax-free contributions to your HSA. You can still use your existing HSA funds for qualified medical expenses.
How Can You Spend the Money in Your HSA?
Money saved in an HSA can be spent tax-free on qualified medical expenses. Qualified expenses include:
- Visits to a Doctor’s Office
- Dental Treatment
- Vaccinations
- Eye Exams and Glasses
- Non-Cosmetic Surgery
- Physical Therapy
- Prescription Drugs
- Paying for Independent Insurance Premiums (If You are Collecting Unemployment Benefits).
If you use an HSA for non-qualified expenses the money will be treated as taxable income and you may face other penalties.
What Are the Tax Advantages of an HSA?
What’s the difference between an HSA and your own emergency fund? An HSA carries significant tax advantages:
- The money you put into your HSA is not taxed if through an employer, or tax deductible if you set one up yourself.
- Interest or investment income on the funds in your HSA is not taxed.
- The money you withdraw for medical expenses is not taxed.
Those advantages make an HSA a better way to save for medical expenses than simply saving money on your own, as long as you are eligible for an HSA. If you plan to invest your HSA funds in stocks or mutual funds, make sure your HSA provider gives this option before you open an account.
Recent Changes in HSA Policies
If you already have an HSA you should be aware of some changes that have been made in policies governing HSAs as part of the COVID-19 stimulus effort:
- Extended contribution deadline. The deadline for making 2019 single-year contributions to your HSA has been extended from April 15 to July 15, 2020.
- Expanded qualified expenses for over-the-counter medications. HSA funds can now be used for many over-the-counter drugs, acetaminophen, ibuprofen, sinus medications, menstrual care products and many others.
- Telemedicine coverage. HSA holders can now use funds from their HSA accounts to pay for video or phone consultations with their doctors. This benefit will expire on December 31, 2020.
These added benefits are intended to ease the impact of the COVID-19 pandemic and may not be permanent. While in force they provide important additional options for HSA holders.
What Type of Insurance is Best For You?
For many Americans, the logical choice for health coverage is whatever their employer offers. If your employer-sponsored plan is HSA-qualified, an HSA may be a logical choice to supplement its coverage. Many employers who offer HSA-qualified insurance also offer HSA packages.
If you are choosing your own insurance plan, you can look at two options:
- A low-deductible plan will cover more expenses, but it will also charge higher premiums. These plans don’t qualify you for an HSA but with the more comprehensive coverage they offer you will probably not need an HSA.
- A high-deductible plan will lower your premiums, but your out-of-pocket expenses may be higher. An HSA can help you with expenses your insurance does not cover.
In general, if you expect significant medical expenses it may be a better bet to get the more expensive but more comprehensive low-deductible plan. If you see your insurance mainly as a backup plan for unexpected events a cheaper policy plus an HSA may be more appropriate.
In Closing
A Health Savings Account can serve as a vital bridge between your total medical costs and what your insurance is willing to pay, protecting you from financial dislocation in the event of unexpected medical events. An HSA can also enable you to safely use a less expensive insurance policy.
That doesn’t make an HSA the right choice for everyone. You’ll have to review your employer-sponsored options and consider your health status and insurance needs before deciding what type of coverage suits you best.
