A practical approach to reaping the full benefits of a Health Savings Account
If you’ve been educating yourself on personal finance, or at least have chatted with us at Mindful Cents, you know that a Health Savings Account, or HSA, is one of the most valuable accounts around. If you and your family have a High Deductible Plan and are eligible for an HSA, we love HSAs for their “triple tax advantaged” quality:
- Pay no tax on what goes in (including no FICA tax, which is roughly an extra 7.65%)
- Dollars in this account are able to be invested, and you will pay no tax on the growth or dividends while in the account
- Pay no tax upon withdrawal as long as it is spent on qualified medical expenses
As a backup, an account CAN also be used as a pseudo retirement fund. After age 65, funds can be withdrawn without penalty to use on any expense, but funds will be subject to tax as income if not used for medical expenses.
It’s easy to see how useful this account can be at decreasing taxable income during one’s working years and serving as a safety net later in life. We’d like to share a few ideas we’ve implemented to truly get the most out of our HSA accounts.
Many of our clients are so excited to share that they’ve already got an HSA set up and are swiping the provided HSA debit card left and right on eligible healthcare expenses. How fun that the money never feels like it’s actually coming out of our pocket, right?
While we LOVE the enthusiasm, and there is nothing wrong with this approach, consider taking one extra step to amplify the benefits. REQUEST REIMBURSEMENT.
Personally, we are huge proponents of credit card hacking and have not paid for a flight or hotel in over 2 years due to our efforts at optimizing our credit card sign on bonuses and maximizing our rewards. One huge way we’ve been able to easily score hundreds of thousands of points in sign on bonuses is through strategizing large healthcare purchases. We often will open a new card we’ve been eying (our favorites to start with are the Chase Sapphire Preferred or Southwest Priority Card) a few weeks before any kind of large scheduled healthcare expense. We will put the expense on the card and utilize our HSA’s website or app to upload the receipt and submit a reimbursement request for the expense. Typically within 1-2 business days, the reimbursement is transferred into our checking account – well before the credit card is due.
Even if a big expense isn’t on the horizon to warrant opening a new card for the bonus, we strongly recommend this approach with existing cards to earn free points on expenses that will be reimbursed. It’s a win/win!
Cashflow the Purchase Now, Tax Free Withdrawal Later
As mentioned above, the HSA can function as a “pseudo retirement account”, but will still be subject to income tax for non-healthcare withdrawals after age 65. But what if there was a way around this?
The IRS does not currently limit the time horizon in which an eligible healthcare expense needs to be reimbursed. For example, if I am eligible for an HSA in 2022, make an eligible healthcare expense in 2022, keep all documentation clear and organized, but opt to cash flow my expense in 2022 and reimburse myself after my HSA has had time to be invested and grow, I can technically submit for reimbursement later on in life. For many looking for the most optimized way to withdraw funds in retirement in a tax efficient way, this can be an extremely appealing strategy. Of note, while this strategy is appealing, it does come with risk – most notably that your investments may not grow as you intended based on your investment strategy OR that the IRS rules change in the future to eliminate this approach.
Our two [mindful] cents: Mr & Mrs Mindful Cents have a High Deductible Insurance Plan with a $3,000 deductible and a $10,000 max out of pocket, which makes it eligible for contributions to an HSA. Mrs. Mindful Cents’ employer provides a generous “premium pass through” to a specific HSA account of roughly $1,800 per year as an added benefit of her insurance plan. This is only provided if it goes into an account the company designates, which does not have investment options that we prefer (low cost index funds without a fee to invest). To work around this, we set up the account required to receive the premium pass through, but also have a separate Fidelity HSA account which gets the remaining $5,500 contributed from her paycheck.
HELPFUL TIP: It is preferable to have this taken directly from the paycheck for both the up-front income tax savings AND to obtain the FICA tax savings. If we were to contribute the $5,500 from our checking account instead of from the paycheck, we would miss the FICA tax benefit.
We take a hybrid approach to our HSA dollars. We will request immediate reimbursement for any annual expenses up to the $1,800 per year that is from the premium pass through account, since those dollars are not invested and therefore not growing or working for us.
The remaining $5,500 that we contribute to the Fidelity HSA account is invested and while we have it as a nice security blanket if we had a medical emergency and needed to hit our max out of pocket, we do not routinely touch it/reimburse expenses from it. We cash flow any expenses exceeding the amount in our premium pass through account and save the receipts for the potential for future reimbursement during retirement or down the line from the invested HSA growth.
While there are many perks to living with our in-house CPA, Mr. Mindful Cents, one of the most notable things is the focus on keeping our finances organized. Many HSA apps and websites have areas to easily upload a photo of receipts when requesting reimbursement and allow you to fill out the date and amount to keep the reimbursements organized. Since we utilize multiple HSA accounts, we prefer to keep a google drive folder of all receipts and file accordingly:
As you can see in image 1, not all receipts are submitted for reimbursement. We use this sheet to quickly and easily sort how much we have in receipts that could be eligible for reimbursement if we wanted to withdraw from HSA for a past expense. Currently, we have $122.92 that is eligible for reimbursement tax free, which we could choose to pull out of our invested HSA assets at any time. We have over $10,000 invested in our HSA at the time of writing, and plan to continue to invest and let grow year after year until needed.
Big Vision or Dental Expense This Year? Consider the LEX HCFSA
This one is specific for Mrs. Mindful Cents’ peers – the government workers!
Typically, if you are eligible for an HSA, you are NOT eligible for a Flexible Savings Account (FSA). There is one notable exception to this rule – consider the Limited Expense Flexible Savings Account, LEX HCFSA for short.
Considering LASIK surgery? No dental coverage and planning on having some work done? Kids needing braces or new glasses?
The LEX HCFSA can be an additional way to decrease your taxable income and cover upcoming planned dental and vision expenses in the most tax efficient way possible. This is a great way to cover expenses without needing to dip into your HSA dollars.
Each year during open season (or if a qualifying life event occurs), a maximum of $2,850 can be contributed to a LEX HCFSA resulting in an estimated tax savings of $855 considering my salary and tax bracket. While the full amount is available for spend on January 1st, the withdrawal amount of roughly a little over $100 is withdrawn from each paycheck over the entire year. Not only is this a tax savings, but it also functions as a built in payment plan for large dental and vision expenses! On top of these great perks, the LEX HCFSA is also eligible for reimbursement, so as mentioned above, pay the charge up front with a credit card to earn your points or quickly achieve a credit card sign on bonus, and get reimbursed for the charge from your LEX HCFSA!
- Unlike the HSA, these funds are NOT investable and only $570 is rolled over from year to year
- Try to plan ahead for expected dental or vision expenses that might be incurred in the upcoming year and set your LEX HCFSA allocation accordingly
We hope this deep dive into using your HSA in the most optimal way has been helpful. Please note all above information is accurate based on 2022 IRS Rules and is subject to change – we will try to provide updates accordingly. As always, reach out to us for any specific tax optimization recommendations and education focused advice-only financial advice specific to your life, goals, and situation.