Do you hate paying taxes and fear high medical insurance co-pays and procedure costs? Then a health savings account should definitely be part of your investing/saving toolbox.
Sadly, a lot of misinformation is circulating about HSA plans, HSA contribution limits for 2023 and other HSA rules.
Employers' and employees' understanding of HSA accounts "needs to improve," said Kevin Crain, head of retirement research and insights at Bank of America. BofA, which is an HSA account provider that recently completed a midyear update of its Workplace Benefits report.
Crain says the three foundations of an HSA account is its "triple tax advantage, portability and an account holder's ability to use an HSA account and funds over many years." But he added: "Less than 20% of employers and employees fully understand those foundational pieces of an HSA account."
To study the latest statistics on HSAs and how they're being used, read our overview story, HSA Contributions Grew This Year, Despite Rising Prices, Tough Investment Markets. And for information on top HSAs, review our list of the 13 Best HSA Accounts For 2023.
2023 HSA Rules And Misconceptions
Below we clear up 10 misconceptions about how HSA plans work and the advantages of funding an HSA account.
1. HSAs aren't available to self-employed people or those working for an employer that doesn't offer an HSA: Absolutely untrue. But sadly many self-employed people have been given wrong information about HSAs. Anyone who's enrolled in a high-deductible HSA-qualified health plan can set up an HSA with an HSA account provider like the ones we've put on our list.
2. If your employer offers an HSA plan, you must use that plan: Nope. Choose your employer-offered plan or opt for another plan you like better. You can also transfer funds from an employer-sponsored HSA into another HSA account you open on your own.
3. Funding and using an HSA is no different than funding and using an FSA: Not true. FSA and HSA accounts have very different rules. Most important, funds in your HSA account never expire. You can keep your HSA funds for years and spend them as needed.
Also, even if you create an HSA under an employer's plan, it's yours and stays with you for life. With a flexible spending account (FSA), you must use most of the funds you put into it by the end of the plan year or the unused money is lost.
Lastly, you may have heard of an MSA. If you're a senior and you pay for a high-deductible health plan (Medicare Part C, also called Medicare Advantage), you're eligible for a Medicare Savings Account. With an MSA, Medicare contributes to the account. However, nonmedical withdrawals from an MSA have higher penalties than HSAs. Be sure to check the rules carefully.
HSA Rules Vs. IRAs
4. HSAs have the same tax advantages as an IRA: Actually HSAs are better than IRAs when it comes to taxes. Accountants refer to HSAs as triple tax advantaged. Why? Because you fund an HSA with pretax dollars. And if you invest your HSA funds, any gains they make are tax-free on a federal level, forever.
Also, when you use your HSA funds for medical costs, thus drawing down the HSA account, you don't pay federal taxes on the money you take out. In contrast, the IRS considers IRA withdrawals income and taxes them.
State taxes for an HSA account are a separate matter. Each state has its own HSA rules for taxation on earnings from HSA savings and investments. State rules also vary on whether or not HSA contributions are taxed or if those contributions are deductible from your state tax return.
Your spouse can inherit your HSA funds. And if your spouse is the designated beneficiary, your HSA will be treated as your spouse's account after your death. If your spouse isn't the designated beneficiary, the account "stops being an HSA," according to the IRS. And the fair market value of the HSA becomes taxable to the beneficiary in the year in which you die.
Also, an estate's executor can use the decedent's HSA funds to pay the decedent's unpaid medical bills at death or within a year after death.
5. You can only use HSA savings for medical costs, not insurance costs: In some cases yes, in some cases no. Most of the time, you can't use HSA funds to pay for medical insurance premiums. However, if you're paying for Cobra health coverage through your former employer or you're paying for health coverage with an individual high-deductible plan while unemployed, you can use HSA funds for those expenses.
And there's another exception. After you turn 65, you can use HSA funds tax-free and penalty-free to pay for some Medicare expenses, including Medicare Part B, Part D and Medicare Advantage plan premiums. You can't use HSA funds to pay Medigap premiums.
6. You can't contribute to an HSA after age 65: These HSA rules are a bit tricky. It depends on whether you're enrolled in Medicare. If you're not, you can keep contributing to an HSA account as long as you're enrolled in a high-deductible heath care plan either through your work or individually. But Medicare isn't a high-deductible plan, thus if you're enrolled you can't contribute to an HSA.
7. Changing jobs will impact my HSA: Yes and no. If your new company has a relationship with another HSA account provider, you will no longer be able to make automatic pretax payroll contributions to the HSA account provider at your old company. And of course you will no longer receive any employer contributions to your old account once you leave a company.
But you can keep the old HSA account. You can continue to use the funds to pay medical costs. And you can continue to contribute to it and invest the money in that account. If you opt to have multiple HSA accounts, you still must stay within the total yearly allowable amount for contributions (see No. 9).
It's like a savings or investment account — it's your money and you get to choose who holds it for you.
HSA Account Debit Cards, Contributions And Withdrawals
8. Using an HSA to pay medical expenses is complicated: Definitely wrong. These days many HSA accounts have debit cards. Hand over the card at a clinic, lab, hospital or doctor's office and they can take funds from your HSA for co-pays and qualified medical costs. Or you can use the debit card number to pay medical costs over the phone.
And HSA funds can be used to cover the cost of some over-the-counter medicines and other medical needs.
9. Only HSA account holders, or their employers, can contribute to an HSA account: Wrong, and this is a topic parents of college-age students will want to understand. Obviously, you and your employer can contribute to your HSA account, but family members and benefactors can contribute funds to a family member's account as well.
Plus, adult students covered under a parent's medical plan can have their own HSAs. A parent or grandparent can contribute to a child's or grandchild's HSA. And the student does not pay federal tax on those contributions. No matter who kicks in the money, the total allowable contribution remains the same. New HSA rules boost HSA contributions limits for 2023 to $3,850 for an individual ($4,850 for those 55 and older) and $7,750 for a family. In 2022, individuals can contribute $3,650 to an HSA ($4,650 for those over 55) or $7,300 for families.
10. You must pay a penalty to withdraw HSA funds for nonmedical purposes: Yes and no. It's age dependent. If you're over 65, you can take money out of your HSA for any reason, penalty free. But you'll pay federal tax on any HSA funds you take out to use for nonmedical expenses. Plus your state may tax nonmedical withdrawals (if your state has income taxes).
If you're under 65 years of age, you'll pay a 20% penalty for any distributions you take out of your HSA for nonmedical costs. You'll also owe income taxes on the funds you withdraw from the HSA.
Follow Kathleen Doler, IBD's special reports editor, on Twitter @kathleendoler.
