Why All the Love (and Hate) for the HSA?
The rich love it. The poor miss out. Why you should sign up.
Last updated: May 9, 2022
If you hang around certain online circles today, you will find an absolute love fest for the HSA.
Just take a look at some of these recent articles:
The choir of voices praising the HSA is even louder on the Reddit personal finance forums.
Given all that, I already know what your next burning question is going to be.
“What the hell is an HSA?”
HSA Overview
The Health Savings Account (HSA) is one of three types of accounts that use pre-tax dollars to pay for medical expenses. The other two are:
- Flexible Spending Account (FSA): the main alternative to the HSA.
- Health Reimbursement Account (HRA): rare and of no concern here.
Completely original names, right? No wonder most discussions about health insurance get such a chilly reception.
You might also be thinking, “Wonderful…another boring tax thing that I don’t have the time, or interest, to keep reading about.”
And I don’t blame you for that.
But I’ll also let you in on a little secret.
A big key to financial success is paying attention to the mundane.
You see, good financial health comes mostly from due diligence of everyday items. Items like…I don’t know…health insurance.
Yet huge raises or extreme savings get all the press.
It’s eerily similar to good physical health, which comes mostly from due diligence of nutrition (simply eating your fruits and veggies) and moving your body every day.
Yet extravagant diets and absurd workouts rule the headlines.
Have I got your attention yet?
Great.
So what’s all the fuss about?
Well, there are a few distinct advantages to the HSA that people get just absolutely tickled about, including me.
- High contribution limit
- Annual rollover
- Triple tax advantage
Higher Contribution Limit
The HSA is used in conjunction with a high-deductible health plan (HDHP) that offers super-low premiums and high deductibles. (Duh, it’s in the name!)
To offset the larger deductible of HSA plans, the HSA limit was designed to be significantly larger than the standard FSA. The numbers below are for 2020.
- FSA limit: $2,750 (single or family)
- HSA limit: $3,550 (single)
- HSA limit: $7,100 (family)
The additional money for a family HSA is especially important, as many family plans double the deductible and out-of-pocket maximum.
Overall, the higher limits help you save on taxes when paying for medical expenses, but they are doubly beneficial when you consider the next advantage on our list.
Rollover
The HSA has one huge advantage over the FSA that comes with the traditional PPO plan: funds can be rolled over from year to year.
The standard FSA is a use-it-or-lose-it account, only allowing $500 of the current year’s money to be used for expenses in the following year (i.e. rolled over). Anything above that level is forfeited to the bank holding the account.
By contrast, the HSA acts as a checking account (or investment vehicle, more on that later) that is always available and not subject to any rollover limits whatsoever.
I cannot stress how important this is.
Let’s look at an example.
Say you budget $5,000 for the HSA in Year 1, but you only spend $2,000. This leaves $3,000 left to rollover to Year 2.
When budgeting for Year 2, you only need to allot $2,000 to your HSA.
This leaves you an “extra” $3,000 to budget elsewhere in Year 2.
OR
You can simply budget the full $5,000 in Year 2 and pad your HSA.
You can easily apply this pattern for 5, 10, 20 years down the line and see just how much money the HSA frees up in your budget. That is if you don’t spend it all.
Triple Tax Advantage
The biggest draw to the HSA that internet denizens are drooling over is the triple tax advantage.
(Doesn’t that sound like a March Madness headline?)
In short, three are three instances where you avoid paying taxes in the HSA pipeline, one each at the beginning, middle and end.
Contributions are tax-free
If you contribute via your employer, the funds are deposited into your HSA prior to being taxed in your paycheck.
If you contribute with already-taxed funds after payday, you can claim your HSA contributions on your 1040, which will offset your annual tax responsibility.
Assets grow tax-free
HSA funds are normally put into the equivalent of a checking account, allowing easy access to your money. However, it has been more popular of late to invest one’s HSA funds into the stock market, allowing your money to grow.
Like a Roth IRA, everything you earn inside your HSA account grows tax-free, including any interest, dividends, or capital gains.
Unlike a Roth IRA, all of those gains are initially funded with tax-free money.
Withdrawals are tax-free
Unlike every other investment vehicle using pre-tax money, your HSA withdrawals are not taxed, just so long as they are used for medically qualified expenses.
Bonus: Employer Contribution
Oftentimes, employers will kick in $500 or $1,000 toward your HSA account.
While you might be tempted to think, “Man, this company really wants to take care of me”, there is actually a financial reason.
HSA plans not only have lower premiums for employees, but also for employers, to the tune of several thousand dollars per year.
As it turns out, their $500 “gift” is really a bribe, and they get to pocket the much larger savings when you choose the HSA plan.
Regardless, even if your company’s intentions aren’t exactly benign, go ahead and take the money.
Who Loves the HSA, and Why
Now that you know the benefits, you might be curious as to who is on the HSA bandwagon?
The Old and Rich
Desperate Baby Boomers are using HSA funds to save up for the god-awful medical expenses they’ll encounter when their bodies begin to break down with age.
Healthcare costs are almost 300% higher at age 65+ than age 18–44.
Add to the mix that, “from 2013 to 2016…66.5 percent [of bankruptcies] were tied to medical issues”, and you’ve got an entire generation scrambling for every dollar they can find to pay their future medical bills.
The Young and Healthy
Savvy, healthy, high(er)-earning young people are using HSAs to fund their retirement. It’s a darling of the FIRE movement.
And in case you haven’t heard, you don’t get (as) sick in your 20’s.
If you are in this group, then more power to you! Now’s the time to take advantage of this wonderful investment vehicle (and your health).
(A word of caution: If you are indeed investing aggressively with your HSA in your youth, remember to follow the strategy of target-date funds and rebalance your asset allocation as you age to reduce risk.)
The Middle-Aged and Analytical
This is where we fit in.
My wife and I are in the second half of our 30’s, with one current child and another on the way. We like to plan for the worst and hope for the best, and so far, it’s worked out pretty well.
Plus, I’m an Excel junkie.
Every year, we compare which health insurance plan is the most economical, assuming we will hit our out-of-pocket maximum. This makes for an easy apples-to-apples comparison across all insurance plans, and the HSA has won (i.e. been the cheapest) every time it has been offered.
Comparing health insurance options is an essential part of personal finance, even when you earn six figures.
Who Hates the HSA, and Why
The main disadvantage of the HSA is that it is only funded when you get paid, unlike the FSA which is fully loaded on January 1.
This subtle but distinct difference can make for a world of hurt to those with no financial backstop.
The Broke
David, David, David. You are not poor.
Poor is a mentality.
A mentality that very few people ever recover from. Don’t you forget it, son.
You…are broke.
The demographic I’m talking about here are those who are struggling to make ends meet, oftentimes faced with paying for gasoline or electricity.
When given the option to have less taken out of their paycheck for health insurance via the lower premiums of an HSA plan, they’re going to take it.
It doesn’t matter that the “extra” money should theoretically be used in a tax-advantaged account. They’re too worried about putting food on the table.
The problem is that they are now betting on not getting sick. However, when you have the option of a lower health insurance premium that lets you catch up on past due bills, you’ll take that chance.
It’s a high stakes gamble, and unfortunately, many broke people lose this bet and end up worse off than with a higher cost PPO.
All in all, broke people don’t necessarily “hate” their HSA plans. They just hate losing the health gamble.
The Misinformed
This is the “poor” group Dave Chappelle’s dad was talking about.
And this is exactly where we used to be.
Early on, my wife and I were part of the working poor, slogging away just to pay the bills and buy a little more distraction.
And we paid the price. Literally.
By missing out on the HSA option for just two years, I estimate we overpaid for health insurance by about $8,000.
But don’t make the mistake that this is just a financial issue.
Or even an educational issue.
It’s a psychological issue.
You see, with a PPO, people don’t see the money taken out, so they don’t have a choice on how much to pay. With an HSA plan, you have to opt-in to have your money taken out, and people just don’t do it.
By making HSA contributions optional rather than mandatory, employers vastly reduce participation rates, which currently hover around 50%.
Compounding the effect is that the HSA plan itself is not the psychological default option for most people. The high-premium PPO plan takes that honor. Even then, FSA participation is low as well, with only 20% participation.
What Does This Mean For Me?
I’ve given you lots of information and many opinions about the HSA. But there’s one thing still missing.
The one thing you probably came here for answers.
- Is the HSA good or bad?
- Should I use the HSA?
Let’s answer them in reverse order.
Who Should Use the HSA Plan?
The short answer is everyone.
The caveat is: as long as the HSA plan is cheaper than every other plan.
Premiums. Deductibles. Copays. These things don’t matter.
The only thing that matters is the total cost of the insurance plan.
It’s just a matter of how you want to pay.
- With your tax-advantaged HSA card?
- With your higher cost PPO premiums?
And please, for the love of God, don’t get an HSA with the plan of never going to doctor. At best, you’ll be disappointed when you do go to the doctor. At worst, you’ll skimp on healthcare and hurt yourself in the long run.
Always plan on paying your full out-of-pocket maximum every year.
Think of it like this.
Having an HSA plan is kind of like going to a casino.
Stick with me here.
When gambling, I have a set amount of money that I go into the building with for a set amount of time. It doesn’t matter if I win or lose, playing the games is the entertainment. And the price of that entertainment is my money.
- If I meet my time limit with any money at all, then it’s a win.
- If I lose all my money early on, so what? It’s a win. I had a good time, just bad luck.
The same goes for the HSA account.
You should head into your year assuming that every single penny in your HSA account will be spent.
- If you have money left over, great! Put that in the win column.
- If you have no money left over, great! You just avoided paying taxes on thousands of dollars of income.
Is the HSA Good or Bad?
Overall, the theory of the HSA is a good one. It lowers overall healthcare costs and allows many financial benefits.
However, I have two main concerns.
There will be a push to delay or defer healthcare.
Anthem and other insurance providers are already pushing people away from emergency rooms and toward urgent health care centers.
They also financially disincentivize ER usage by retroactively refusing to cover ER visits if Anthem deems the visit “frivolous or medically uneccessary”.
Harsh.
Widespread adoption of the HSA could tempt the providers to go one step further and suggest a delay in seeking healthcare, all in the name of “saving the insured’s money.”
HSA banks will push account holders into risky investments.
While the funds in an HSA account can be invested tax-free, they are definitely not invested risk-free. If the market drops, so does your healthcare funding.
Just like with financial advisors of old (and today, but to a lesser extent), the opportunity exists that Wall Street could incentivize HSA banks to push account holders to invest in the stock market.
This could create a cascade of tragedies, as people could be left high and dry, unable to afford healthcare.
And it is also why I strongly suggest not to invest in anything with your HSA for the first few years.
The Takeaway
Optimizing health insurance means playing the long game.
It takes annual planning at the very least.
As mentioned earlier, my wife and I always assume that we will pay the out-of-pocket maximum every year, and we use that as our financial compass to choose health insurance.
I urge you to do the same.
It will cut through the “what-if” scenarios and put your face to face with reality. And that reality is that health insurance, regardless of the plan, is damn expensive.
However, most HSA plans will make is just a little less damn expensive.
Sure, some HSA plans will ultimately be more expensive than some PPO plans, but they are few and far between. But you need to do the work and find that out for yourself rather than relying on others to tell you what to do.
Best of luck (and health) to everyone who read this far. I would love to hear your experiences about health insurance, which health plans you prefer, and why you made that choice.