Use your HSA like an economist

Estimating healthcare expenses in retirement is fiendishly complicated. There’s no telling what you’ll need, when you’ll need it, or for how long. Will Medicare cover that? Hard to know.

Suffice it to say you’ll need an ample cushion. A healthy 65-year-old man retiring in 2023 would need $185,000 in savings to cover healthcare expenses during retirement, while a healthy 65-year-old woman would need $203,000 in savings, according to projections from actuarial firm Milliman.¹ Of course, that’s on top of savings to help cover all other expenses.

Making efficient use of an HSA (health savings account) can assuage some anxiety about how to pay for potentially open-ended healthcare costs in retirement. Originally intended to encourage saving for future health expenses, HSAs’ greatest benefits accrue to those who delay using the money until retirement. That’s because HSAs have a triple tax advantage that goes beyond what’s offered in individual retirement accounts (IRAs) or workplace retirement plans—they are truly a super-saver’s Swiss Army knife. The trouble is that most people don’t maximize the tax benefits, too often drawing HSAs down in the here and now rather than letting the money grow, according to an economist who has researched consumer behavior.

We’ll break down what HSAs are (and are not), who’s eligible, and best practices for ensuring that HSA benefits—namely tax savings—are used to maximum effect.

What HSAs are—and what they are not

When it comes to taxes, HSAs combine the best benefits of a traditional IRA with the best tax benefits of a Roth IRA. As with a traditional IRA (and as with 403(b) or 401(k)accounts), HSA contributions are made pretax and grow tax-free. But just like a Roth IRA, withdrawals from an HSA are also tax-free—as long as they are used to cover qualified medical expenses. And unlike with IRAs, there are no earned income restrictions on HSAs, so high earners get the full tax benefits.

This triple tax advantage is a major perk for long-term savers. Consider that a $100-per-month contribution growing at 5% annually would compound to around $40,000 after 20 years.² Maxing out contributions (the 2023 limit is $7,750 for families) for 20 years at the same rate of growth would add up to around $258,000 that could be withdrawn tax-free to pay healthcare expenses.

Not everyone is eligible. HSA access is limited to enrollees in high-deductible health insurance plans (HDHPs), which carry relatively high out-of-pocket costs and relatively low monthly premiums. The pairing of HSAs with HDHPs became law in 2004 as part of a movement to encourage consumers to be more selective when choosing their care, which advocates believed might help reduce system-wide costs.3

Importantly, HSA money carries over year after year, even if you change jobs and/or switch insurance plans. Contrast this portability with Flexible Spending Accounts (FSAs), which must be spent by the end of each year or the balance is forfeited.

Putting your HSA to work like an economist

Momentum for HSAs has accelerated, with an estimated 32.5 million HSA accounts covering 67 million Americans in 2021—up from 6.3 million accounts a decade ago.⁴ Nearly 1in 5 privately insured Americans were enrolled in an HSA-eligible health plan in 2022, according to the Employee Benefit Research Institute and Greenwald Research.⁵

Even so, a large portion of HSAs remain either unfunded (open, but with no money in them) or uninvested (contributions remain in cash rather than in mutual funds), calling into question whether workers are making the most of their incentives to save.⁶

Adam Leive, a health economist and assistant professor of public policy at the University of California, Berkeley, has found in his research that many people leave money on the table by using their HSA to cover current medical bills, rather than growing their balance for use later in life.

“A lot of people take the money out in the same year they put it in,” said Leive, winner of the 2023 TIAA Institute Paul A. Samuelson award, presented annually for outstanding research on Americans’ lifelong financial well-being. “To reap the full tax benefit, you need to keep the money in the HSA, invested for the long-term, so that it can grow.”

He said the most efficient way to use an HSA, if you have the financial means, is to pay out-of-pocket medical expenses with after-tax dollars during your working years so the HSA balance can grow with the stock market. In retirement, start using it for qualified medical expenses, which include Medicare premiums and assisted living, among many other things.

Contribute enough to your workplace retirement plan to get the full employer match, then consider maxing out your annual HSA contribution before fully topping up your 403(b) or 401(k). After achieving the full match, “the invested HSA dollar is better on every level,” vis-à-vis these workplace retirement savings plans, Leive said.

If you’re eligible and interested, your TIAA wealth advisor can walk you through some available HSA options, including the potential to consolidate an HSA at TIAA.