Car dealerships, grocery stores, and furniture stores lure customers in with the slogan, “The best deal in town!” I’m skeptical, however, that their offers are truly the best deal in town — better read the fine print. But I’m here to tell you, the Health Savings Account (HSA) is the best tax deal in town.
Many believe that a 401(k) plan, a traditional IRA, or a Roth IRA are the best tax savings accounts, but they aren’t. With an HSA, your money goes into the account tax-free, grows tax-free, and can be withdrawn tax-free — a triple tax savings advantage! With traditional IRAs and 401(k) plans, on the other hand, money goes into your account tax-free and grows tax-free, but when you take the money out, you pay tax on it. That’s okay, but it’s only a double tax advantage. With a “Roth” savings account, you pay taxes on the money upfront, it grows tax-free, and you can withdraw it tax-free. Again, only a double tax advantage.
Now, let’s compare outcomes. If at age 25 you begin saving $3,000 per year and earn a 7 percent return until age 66, here is how much money you’d have with each of these types of accounts:
| Account type | Amount after tax | Comments |
|---|---|---|
| HSA | $547,254 | No taxes when you withdraw |
| Roth IRA | $482,872 | No taxes when you withdraw |
| Traditional IRA | $547,254 | Must pay taxes when you withdraw |
Here are some tips and best practices to take advantage of HSAs:
- You’re eligible for an HSA account if you have a high-deductible health insurance plan (HDHP) – meaning your plan trades lower insurance premiums for higher deductibles. You can learn more about HDHPs and other HSA regulations at the IRS website.
- If your employer offers a 401(k) match (especially 50 percent of your contributions or more), fully take advantage of that before any other plan – including the HSA. In our example above, if you received a 401(k) match of 50 percent of your contributions from your employer, you’d have $1,480,224 at age 66!
- You can only withdraw money from an HSA if you have receipts for/proof of healthcare expenses you incurred outside of the account. Therefore, spend after-tax money on healthcare-related items and save the receipts. You can withdraw the amount anytime in the future for the amount you have in receipts.
- Several investment firms offer HSA accounts — Fidelity, Schwab, and several banks, for example. Make sure you invest your HSA funds – preferably for the long-term, which is 20 years or more — into low-cost index funds, such as the S&P 500.
If you have any specific questions about HSAs or your own personal financial situation, ask Tilly!