Health Savings Accounts (HSAs) as a retirement strategy

You may have been given the opportunity to establish and contribute to an HSA each year when you enroll for your medical, dental, and other employer benefit programs. HSA plans are only available to individuals covered by high-deductible health insurance plans. Although HSA plans are required to have a $1,200 individual deductible ($2,400 for families) and can increase from these required minimums, many HSA plans offer 100% coverage and often don't require co-insurance payments. So, if you fall within this category and have out-of-pocket medical expenses greater than your deductible, your costs will actually be less than if you had a more conventional 80/20 co-share plan.

Unlike Flexible Spending Accounts, HSAs are not a "use-it-or-lose-it" plan. You don't have to use the money by a certain deadline. In addition, the funds accumulated in your HSA can be used for more than medical expenses.

Like an IRA, contributions can be made up until April 15 following the year for which they are made. For 2012, annual contribution limits to an HSA are as follows:

$3.100 - Individual
$6.250 - Family
$1,000 - Annual Catch-Up Contribution for those Age 55 and Older

Your annual contributions may be invested and there are a variety of options available in which to invest them. As with any investment, you will want to inquire as to the annual fees associated with your investment selections and determine how these fees will affect your overall investment return.

If you incur unreimbursed medical expenses during the year, you may deduct these medical expenses on your tax return. However, in order to do so, your unreimbursed medical expenses must exceed 7.5% of your adjusted gross income. For many of us, these unreimbursed medical expenses must be quite sizable before we will be able to see any income-tax benefit. Your HSA contributions are deductible irrespective of the amount of your unreimbursed medical bills. Additionally, the amount of your annual salary is not a factor - there is no income limit phase-out for the deduction. It's important to note, however, that reimbursed expenses from an HSA cannot be deducted on Schedule A of your Form 1040.

If you choose to open an HSA, it is important for you to maintain accurate records and receipts for out-of-pocket medical expenses. This is especially important in retirement. As I mentioned earlier, with HSAs there is no requirement that reimbursements be made in a "timely" manner, so it is possible to accumulate years of out-of-pocket medical expenses and request reimbursement of these expenses after you retire. If you have not been using your HSA account to reimburse yourself for out-of-pocket medical expenses throughout the years, your HSA investment account may have increased significantly and you may consider using the HSA as a dedicated set-aside for health care expenses. You could, for example, use the money to pay for long-term care insurance premiums.

Once you reach age 65 and are enrolled in Medicare, however, you may no longer make contributions to your HSA and withdrawals may be made for any purpose. Withdrawals made to cover medical costs not covered by Medicare will be tax-free. However, withdrawals made for purposes other than medical expenses will be taxed as ordinary income in the year of withdrawal.

Upon your death, your HSA investment account is passed via beneficiary designation. If the beneficiary of your HSA is your spouse, the account is treated as if it is your spouse's HSA. If the beneficiary of your HSA is someone other than your spouse, the HSA is not treated as an HSA account and the fair market value becomes taxable to the beneficiary in the year of your death.

If you are considering opening and contributing to an HSA, seek the advice of a financial advisor to determine how best to use the funds in the account over the years, and to discuss and select your investment options and the amount of your deductible.