Let Your Money Work for You with a Health Savings Account (HSA)

Jun 6, 2007 by Adam C. Powell, Ph.D.

What’s a Health Savings Account (HSA)?

A Health Savings Account (HSA) is a tax-advantaged bank account that can be used for qualified medical expenses. Contributions are made to it from pre-tax income, and money is not taxed upon being withdrawn, so long as it is spent on medical expenses. Thus, in some ways, it is better than both a Traditional IRA and a Roth IRA, as no taxation occurs when the money enters or when it leaves. While money is in an HSA, it can be invested, enabling you grow your money. The uninvested money earns interest. If and when you leave your employer, the funds in your HSA travel with you. Thus, the benefit of an HSA is that the money in it is truly yours, and can be invested accordingly.

What do you need to qualify to open an HSA?

In order to open an HSA, you must have a High Deductible Health Plan (HDHP). In return for the higher deductible, HDHPs have a lower monthly premium. The combination of a HSA and a HDHP is often referred to as “Consumer Directed Healthcare”. The way this combination works is that the person withdraws money from their Health Savings Account to pay for their medical expenses until they have reached their insurance deductible. Once the deductible has been reached, the High Deductible Health Plan pays for the person’s remaining expenses. Money in the HSA that is not spent is rolled-over into the next year, and may be invested if there is a sufficient amount of money in the account. 

Consumer Directed Healthcare plans exist for both families and for individuals. As the government does not want to give people two tax breaks for the same purpose, it is not possible to open an HSA if you have a Flexible Spending Account (FSA) that is used for healthcare. (You may still have a FSA used for dependent care, childcare and eldercare, if you have an HSA.) A healthcare FSA is less advantageous than an HSA, as the money that is not spent at the end of the year in an FSA evaporates. FSAs do not roll-over each year like HSAs.

When is a Health Plan a High Deductible Health Plan?

For a plan to qualify as an HDHP in 2007, it must meet the following requirements:

For individuals, the deductible may be no less than $1,100, and the Maximum Out of Pocket (MOOP) may be no more than $5,500.

For individuals, the deductible may be no less than $2,200, and the Maximum Out of Pocket (MOOP) may be no more than $11,000.

These numbers are adjusted each year.

How much money can be placed in an HSA each year?

In 2007, an individual may place up to $2,850 in his HSA, and a family may place up to $5,650 in their HSA. These limits hold regardless of whether the employee or the employer makes the actual HSA contribution.

When can money be withdrawn from an HSA?

Money can be withdrawn from an HSA at any time to cover qualified medical expenses with no income tax consequences. However, if the funds are withdrawn for non-medical purposes before the HSA holder turns age 65, the HSA holder will have to pay both a 10% penalty and income tax on the funds withdrawn. If the funds are withdrawn after age 65 for non-medical expenses, the HSA holder will have to pay income tax on the money withdrawn (in a similar manner to what would happen with a Traditional IRA).