HSAs
Understanding the health savings and estate planning benefits
In addition to being a viable option to reduce health care costs, a Health Savings Account (HSA) can positively affect your estate plan because its funds grow on a tax-deferred basis. An HSA is similar to a traditional IRA or 401(k) plan in that it’s a tax-advantaged savings account funded with pretax dollars. Funds can be withdrawn tax-free to pay for a wide range of qualified medical expenses.
ABCs of an HSA
To provide these benefits, an HSA must be coupled with a high-deductible health plan (HDHP). For 2020, an HDHP is a plan with a minimum deductible of $1,400 ($2,800 for family coverage) and maximum out-of-pocket expenses of $6,900 ($13,800 for family coverage).
In addition, you must not be enrolled in Medicare or covered by any non-HDHP insurance (a spouse’s plan, for example). Once you enroll in Medicare, you can no longer contribute to an HSA, but you can continue to withdraw funds to pay for qualified expenses.
Currently, the annual contribution limit for HSAs is $3,550 for individuals with self-only coverage and $7,100 for individuals with family coverage. If you’re 55 or older, you can add another $1,000. Typically, contributions are made by individuals, but some employers contribute to employees’ accounts.
Cost savings benefits
HSAs can lower health care costs in two ways: by reducing your insurance expense (HDHP premiums are substantially lower than those of other plans) and allowing you to pay qualified expenses with pretax dollars.
In addition, any funds remaining in an HSA may be carried over from year to year, continuing to grow on a tax-deferred basis indefinitely. When you turn 65, you can withdraw funds penalty-free for any purpose (although funds that aren’t used for qualified medical expenses are taxable).
To the extent that HSA funds aren’t used to pay for qualified medical expenses, they behave much like an IRA or a 401(k) plan.
Estate planning benefits
Except for funds used to pay qualified medical expenses, an HSA’s account balance continues to grow on a tax-deferred basis indefinitely, providing additional assets for your heirs. The tax implications of inheriting an HSA differ substantially depending on who receives it, so it’s important to consider your beneficiary designation.
If you name your spouse as beneficiary, the inherited HSA will be treated as his or her own HSA. That means your spouse can allow the account to continue growing and withdraw funds tax-free for his or her own qualified medical expenses. If you name your child or someone else other than your spouse as beneficiary, the HSA terminates and your beneficiary is taxed on the account’s fair market value.
It’s possible to designate your estate as beneficiary, but in most cases that’s not the best choice, because a beneficiary other than your estate can avoid taxes on qualified medical expenses paid with HSA funds within one year after death.
The next steps
Opening and contributing to an HSA account offers a tax-advantaged options that can help reduce health care costs and provide estate planning benefits. Contact your estate planning advisor for additional details.