Should you think of a health savings account (HSA) as a retirement account — just like you think of a 401(k) plan or an IRA? According to a new study (PDF) by the consulting company Willis Towers Watson, the answer is an emphatic “yes!” In fact, after contributing enough to a 401(k) plan to receive your employer’s full match, the company believes funding an HSA should be your next retirement savings priority.

At first, I was skeptical. We’ve long counseled people to invest enough in your 401(k) to take full advantage of any match, then, assuming your workplace plan offers a somewhat limited menu of investment options, invest through an IRA. After that, if you still need or want to invest more, go back to your workplace plan.

We’ve written positive articles about HSAs in the past, and have explained how some account holders can really maximize their value (see the Where HSAs Really Shine section of the just-mentioned article), but we’ve never quite equated them with 401(k) plans or IRAs. However, after reading the Willis Towers Watson report and giving it more thought, I think it’s an idea well worth considering.

A little background

In order to qualify for a health savings account, you have to have a high-deductible health insurance policy. Assuming your plan qualifies, the 2021 annual HSA contribution limits are $3,600 for singles or $7,200 for families. Those age 55 or older are allowed to contribute an additional $1,000.

Contributions are tax deductible, earnings are tax-free, and as long as the money is used for qualifying medical expenses, withdrawals are tax-free as well. That’s a very powerful triple tax benefit. No other investment account allows for a tax deduction on contributions, tax-free earnings growth, and tax-free withdrawals. Eligible expenses include Medicare premiums (parts B, D, and Medicare Advantage plans, but not Medicare supplement policy premiums) and long-term care insurance premiums.

Unused HSA balances may be carried over from year to year, and, at some HSA custodians, you can invest the balance. This unique combination of benefits is why some people describe the health savings account as a super IRA.

It’s also why some HSA proponents (including SMI) have long encouraged account holders to try to pay current medical expenses with other funds and build up their HSA balances for their later years. The rules allow people to save receipts for current healthcare costs and reimburse themselves later.

To be honest, I always thought of that idea — funding an HSA but using other money to cover current medical expenses — as a nice option, but one that only applies to people who are especially wealthy. After all, for most people, after paying their health insurance premiums and making HSA contributions, there isn’t another bucket of money readily available for such expenses. But the Willis Towers Watson study is making me reconsider the idea.

A new perspective

The Willis Towers Watson study begins by pointing out how expensive healthcare is likely to be for most people in retirement. Depending on which type of Medicare plan is utilized, the company estimates that a married couple retiring today at age 65 will spend $300,000 to $350,000 over the course of their retirement on healthcare expenses, and that doesn’t include the cost of long-term care.

The company says that entire cost could be covered tax-free with a health savings account, if people began funding an HSA early enough (starting at age 40 would allow for all retirement healthcare costs to be covered as well as a portion of current expenses), and if they covered many “routine, predictable, and moderate” healthcare expenses with non-HSA money.

Of course, those are some significant “if’s”! Still, the Willis Towers Watson study is helpful in prompting some new thinking about HSAs.

Not an either/or decision

In the past, I saw 401(k) plans and IRAs as true retirement accounts and had some general thought that carrying some HSA money into retirement would be helpful in covering some medical expenses. However, as the Willis Towers Watson study encourages, the more specific you can make an estimated retirement budget (including healthcare costs), the more you can see the value of an HSA.

Many people have learned to estimate their overall retirement expenses, figure out how much they need to invest each month right now in order to get there, and make those monthly contributions. By the same token, Willis Towers Watson encourages people to be more intentional about estimating future healthcare costs, figure out how much they need to invest each month right now in order to get there, contribute that much to a health savings account, and invest the money.

Even if you’re over 40, and even if you need to use most of your HSA funds for current healthcare costs, investing a portion for future costs will be beneficial.

Recommended action steps

  • Read the Willis Towers Watson report.
     
  • If you’re not using a high-deductible health insurance plan paired with an HSA, consider doing so. (Here are Morningstar’s recommendations for the best HSA providers for savers and investors. It’s noteworthy that Fidelity is Morningstar’s top choice since it is also SMI’s top recommended broker. Opening a Fidelity HSA would enable you to use any SMI strategy to manage that account. The SMI Funds and SMI Private Client also allow for the use of HSAs, with Private Client able to manage balances using a custom blend of SMI strategies).
     
  • If you are using an HSA and are not contributing the maximum amount you’re eligible for, consider increasing that amount. (According to the Employee Benefit Research Institute, just 13% of HSA users contribute the max.) 
     
  • If your healthcare expenses are such that you can build and maintain a balance in an HSA, look for a custodian that allows you to invest the money.
     
  • Keep in mind that you lose eligibility to contribute to an HSA once you enroll in Medicare, but you can continue using an existing HSA balance to pay for qualified medical expenses.

Do you have a health savings account? If so, are you investing the balance?