Investing Step #8: Health Savings Accounts

Photo by: KB35

This post is step 8 in our Investing Template.

The Health Savings Account is becoming a more popular option recently.  It is a great opportunity to save money on your medical insurance.  Despite that, it is still an under-used option. 

Health Savings Accounts allow you to contribute money to an account whose funds are designated specifically for health uses.  While many people might not immediately see the value in this, it represents an option in which you can almost immediately recoup a large percentage in savings.  If you are in a 33% tax bracket, then every expense you make using this account is essentially at a 50% discount. 

Imagine for example that you have to pay $100 for a prescription.  If you were to pay for this yourself you would have to make $150, on which you would pay $50 in taxes, leaving you the $100.  If you are able to make this purchase without paying taxes, you only have to earn $100.  Thus you have to pay 50% more for the purchase, meaning that you essentially “made” $50 by investing $100. 

Considerations

There are of course some caveats to these plans.  All of this is based on my understanding of the system which you should verify with your tax professional.  First of all, if you are self employed you can have an HSA, but your contributions are  an above the line deduction, as opposed to a pre-tax expense.  This means you will have to pay payroll taxes on them, but not Federal taxes. 

Another key consideration is that you probably don’t want to over-contribute.  More than likely other investments will do better than any savings interest you get on these accounts.  If you are building up a significant balance in your health savings account without a purpose in mind, you are probably contributing too much.  This is even more true with so-called “cafeteria” plans, which are very common.  In these plans, any money left in the account at the end of the year is forfeited. 

Maximize Your Use

While over-contribution is a danger, most of us have many more medical expenses than we think in a typical year.  If you use birth control pills, contact lenses, or some other predictable expense and don’t have an HSA, you’re essentially paying voluntary taxes on those purchases.  Also you can use the fund to save for a long term purchase like LASIK or other medical procedures. 

In summary, you should seriously consider what your likely medical expenses are in the coming year and give serious thought to contributing that much to an HSA.  Assuming you are in the right ballpark about how much to contribute, you will net huge savings with no real risk.

One Response to “Investing Step #8: Health Savings Accounts”

1. Equity Sweat says:

   March 3, 2009 at 5:37 pm

   I believe companies will be offer fewer cafeteria plans and more straight up HSAs, they’re just so much better for the employee.