Is a Health Savings Account (HSA) Worth It?
Discover if a Health Savings Account (HSA) is the right financial tool for managing healthcare costs and building long-term wealth.
A Health Savings Account (HSA) serves as a savings vehicle for healthcare expenses. It offers a financial tool for those enrolled in specific health insurance plans. The primary purpose of an HSA is to save and pay for qualified medical costs on a tax-advantaged basis.
HSAs are structured to complement certain health coverage options, allowing account holders to accumulate funds for both immediate and future medical needs.
Understanding the HSA Foundation
An HSA is fundamentally linked to enrollment in a High-Deductible Health Plan (HDHP). To be considered an HDHP for 2025, a health plan must have an annual deductible of at least $1,650 for self-only coverage or $3,300 for family coverage. The plan’s annual out-of-pocket expenses, which include deductibles, co-payments, and other amounts but exclude premiums, cannot exceed $8,300 for self-only coverage or $16,600 for family coverage.
An HSA offers a “triple tax advantage.” Contributions are tax-deductible, investment earnings grow tax-free, and qualified withdrawals for eligible medical expenses are tax-free. This advantage provides a financial incentive for individuals to save for healthcare. Funds within an HSA remain with the account holder, rolling over year after year and retaining their tax-advantaged status, unlike some other health-related accounts that might have “use-it-or-lose-it” provisions.
Eligibility and Contribution Details
Eligibility for an HSA requires specific IRS criteria. An individual must be covered by an HDHP, cannot be enrolled in Medicare, and cannot be claimed as a dependent on someone else’s tax return.
Annual contribution limits are set by the IRS. For 2025, an individual with self-only HDHP coverage can contribute up to $4,300. Those with family HDHP coverage can contribute up to $8,550. These limits encompass contributions from the individual, an employer, or any other person on behalf of the eligible individual.
Individuals aged 55 and older are permitted to make an additional “catch-up” contribution. This allows them to contribute an extra $1,000 annually beyond the standard limits. Contributions can be made through various methods, including payroll deductions or direct contributions. If contributions exceed the annual maximum limit, a 6% excise tax may apply to the excess amount for each year it remains in the account.
Utilizing and Investing HSA Funds
HSA funds can be used for qualified medical expenses, as defined by IRS Publication 502. This includes costs such as deductibles, co-payments, prescriptions, and services like vision and dental care. These expenses must be incurred after the HSA is established. Maintaining accurate records for medical expenses is important for IRS confirmation of qualified distributions.
If funds are withdrawn for non-qualified expenses before the account holder reaches age 65, these withdrawals are subject to ordinary income tax. Additionally, a 20% penalty tax is imposed on the withdrawn amount. For instance, a $500 non-qualified withdrawal would incur a $100 penalty, in addition to being taxed as income.
HSA funds can also be invested once a certain balance is reached, typically around $1,000, depending on the custodian. This allows the money to potentially grow over time through various investment options, such as stocks, bonds, or mutual funds, with earnings also growing tax-free.
HSA Use in Retirement
An HSA offers advantages for retirement planning, particularly concerning future healthcare costs. After age 65, funds can continue to be withdrawn tax-free for qualified medical expenses, including deductibles, co-payments, and prescription drugs.
HSA funds can also pay for certain insurance premiums, including Medicare Part A (hospital), Part B (medical), Part C (Medicare Advantage), and Part D (prescription drug) premiums. However, HSA funds generally cannot be used for Medigap (Medicare Supplement) premiums.
Once an individual reaches age 65, the rules for non-medical withdrawals change. While withdrawals for qualified medical expenses remain tax-free and penalty-free, funds withdrawn for non-medical expenses are no longer subject to the 20% penalty that applies before age 65. These non-medical withdrawals are instead treated like traditional IRA withdrawals, meaning they are subject to ordinary income tax. This flexibility allows the HSA to function as a supplemental retirement savings account if medical needs are adequately covered.