Why You May Want to Withdraw Money From Your HSA

Health Savings Accounts (HSAs) offer a tax-advantaged way to save for medical expenses, making them an appealing option for many individuals. However, there are situations where withdrawing funds may be necessary. Understanding these scenarios can help you manage your account effectively and avoid financial pitfalls.

Excess Contributions

IRS-set contribution limits for HSAs change annually, and for 2024, the maximum is $4,150 for individuals and $8,300 for families. Exceeding these limits triggers a 6% excise tax on the excess amount each year it remains in the account. To avoid this penalty, withdraw the surplus and any earnings before the tax filing deadline, usually April 15 of the following year. For instance, if you over-contribute by $500 and earn $20 in interest, both must be removed to prevent the excise tax. Excess contributions are reported on IRS Form 5329, so addressing them promptly also simplifies tax reporting.

Coverage Change

Switching from a high-deductible health plan (HDHP) to a non-qualifying plan means you can no longer contribute to your HSA. This shift requires reassessing your healthcare savings strategy. If your new plan has higher out-of-pocket costs, using HSA funds for eligible expenses can help offset the difference. Withdrawals for qualified medical expenses remain tax-free, maintaining the account’s tax advantages. Consider how this change impacts your long-term savings goals and tax situation.

Medical Bill Reimbursement

HSAs allow reimbursement for past medical expenses incurred after the account was established, provided you have proper documentation. This feature can help manage cash flow effectively. For instance, reimbursing yourself for a procedure paid for years ago can free up funds for other needs. Keeping detailed records of all medical expenditures is crucial to substantiate reimbursed amounts in case of an IRS audit.

Custodian Mandates

Your HSA custodian, such as a bank or credit union, sets specific rules and fees, including monthly maintenance charges or transaction costs. These fees can erode your account balance over time. Understanding these charges helps you decide whether to withdraw funds or transfer your HSA to a custodian with better terms. Custodians may also limit investment options, which can impact your ability to grow your HSA through investments. Being aware of these constraints ensures your HSA aligns with your financial goals.

Large Unused Balance

A significant unused HSA balance can accumulate, especially if you contribute the maximum annually but have limited medical expenses. While HSAs allow tax-free withdrawals for qualified medical expenses, leaving a large balance untouched might not align with your financial objectives. After age 65, HSA funds can be withdrawn for non-medical expenses without penalty, though they are subject to ordinary income tax, similar to a traditional IRA. For example, a $50,000 HSA balance at age 65 could cover healthcare costs and supplement retirement income. Alternatively, investing your HSA funds in options like index funds or ETFs can maximize growth potential. However, consider market risks as you near retirement. Align your HSA strategy with your financial goals to ensure the balance serves your long-term interests effectively.