High-Deductible Health Plans and Health Savings Accounts recently emerged as an attractive alternative to traditional medical coverage. AIS can now manage Health Savings Accounts within an investor’s comprehensive financial plan. This article explores various advantages, risks, and strategies associated with this coverage option.
Planning for one’s financial future is difficult. Just as money managers cannot predict market returns, investors cannot know their future circumstances. Forecasting future health care costs is especially challenging.
The price of health care is rising considerably faster than the general inflation rate.[1] In fact, studies show that premium hikes and crippling out-of-pocket expenses offset real income gains for middle class families in recent years.[2] Retirement is especially burdensome as over half of individuals will likely require in-home or nursing home care.[3] Health care costs are limiting people’s ability to save for the future, and long-term care expenses are eroding even the most robust retirement portfolios.
Health Savings Accounts (HSAs) reflect recent trends in employer benefits packages. Today’s workers are largely responsible for building their own safety net. Just as employer-directed 401(k) plans eclipsed traditional pension plans, many employer health care plans are now emphasizing self-insurance through high-deductible health care plans (HDHPs) coupled with HSAs.
HSAs are medical savings plans that allow for pre-tax contributions, tax-free growth, and tax-exempt withdrawals for qualified medical expenses. This “triple tax advantage” means that HSA assets may escape taxation entirely – a rarity within the American tax code.
Health Savings Accounts
HSAs first emerged in 2003 as an alternative to traditional health care plans. The concept is fairly simple. The insured must be enrolled in an approved high-deductible health plan (“HDHP”), either individually or through one’s employer. The premiums on these policies are much lower than those paid to traditional health care plans. The insured must pay for all medical care costs up to the annual deductible amount. However, if the insured is healthy and healthcare costs are minimal, this arrangement can generate real savings. Premium savings can then fund a Health Savings Account.
The HSA is simply a savings account that accompanies the High-Deductible Health Plan. The account is owned by the insured and held separately from the HDHP. Pre-tax contributions to the account are discretionary and employers can match employee deferrals. The account, like a 401(k), is completely transportable should the insured switch providers or employers. HSA contributions are subject to statutory limitations as outlined on the IRS website.
HSA funds can be used to cover qualified medical expenses, such as doctor visits, prescriptions, vision care, and dental expenses.[4] Unlike other health savings plans, HSAs are not subject to an annual “use it or lose it” rule, so any unused funds in the accounts can continue to grow tax-free. Participants should be aware that any nonmedical disbursements prior to age 65 are subject to income taxes and a 20 percent penalty. Annual contributions should therefore be planned carefully to ensure they are consistent with one’s overall household budget.
HSAs allow for highly flexible spending arrangements. Most provide a debit card that can be used to meet qualified medical expenses as they occur. Alternatively, the insured can simply cover current medical expenses out-of-pocket with after-tax dollars; the insured may then reimburse herself from the HSA without tax consequence at a later date. There is no expiration date for HSA reimbursements as long as the account remains open.
HSA strategies vary based on one’s financial circumstances. HSA owners typically fit into one of two categories – “spenders” and “savers”. Both groups fund HSAs annually. Spenders draw from these assets as current medical expenses arise and leave excess funds to grow tax-free for future medical expenses. Savers, on the other hand, are higher-income taxpayers who can cover current medical expenses entirely out-of-pocket with after-tax dollars. These individuals can preserve HSA assets to cover future medical expenses, fund potential long-term care needs, or eventually reimburse themselves for prior medical expenses with appreciated capital.
Individuals must meet certain eligibility requirements to enroll in an HDHP. The insured cannot be enrolled in Medicare or any other form of comprehensive medical coverage. Individuals may, however, carry specialized protection such as vision, dental, long-term care, and disability insurance.
Is an HSA Right for You?
HDHPs and HSAs arrangements reflect a shift toward making the consumer, rather than a third party, responsible for important decisions surrounding his or her medical care. Early research suggests that this autonomy translates to annual health care savings of nearly 15 percent per individual.[5] The advantage is two-fold. The insured can reduce annual medical outlays through lower premiums and by shopping wisely for pre-deductible medical care. These savings are left to grow tax-free in your Health Savings Account.
The insurance industry relies upon a straightforward business model. Companies distribute risk across regions, demographics, and health profiles. Insurance plan participants contribute to a reserve fund through periodic premium payments. These premiums are relatively level across those insured, regardless of their health profiles. The insurance company then meets covered medical claims from this fund. Any difference between premiums received and claims paid (and other expenses) is recorded as earnings. This simplified framework helps explain which type of insurance might be right for whom.
Healthy individuals tend to underutilize traditional health care plans (such as HMOs) compared with less healthy people. While the healthier may only visit the doctor a few times each year, they are committed to relatively high premium payments. This presents a distinct opportunity cost for the insured. Dollars spent toward traditional health care premiums may be better allocated to an HSA. These funds can then be left to grow for future medical costs, potential long-term care costs, or eventual reimbursement.
Individuals with existing medical conditions, however, might prefer traditional health insurance plans. Patients who require frequent doctor visits, checkups, or treatment may rule out HDHP coverage. This might include pregnant women and individuals suffering from chronic illnesses. In such cases, the high deductible places much of this cost burden on the individual. It is unlikely that premium savings will offset these expenses.
Like most financial planning topics, health insurance selection involves important trade-offs. There is no one-size-fits-all approach, and risk preferences are important. Even healthy individuals may prefer the security of a traditional health care plan. Conversely, those with existing medical conditions might enroll in an HDHP if their incomes can sustain high medical costs each year. A competent financial planner can assess these factors through a comprehensive health care assessment.
A Future Safety-Net
In retirement planning, we seek to help clients meet basic expenses without running out of money. Everyday expenditures such as food, clothing, and gas can often be covered by Social Security income. Our clients typically understand these items. But many underestimate larger items, particularly long-term care. Individuals predisposed to long-term, degenerative conditions (e.g. Alzheimer’s disease) are at particular risk.
HSAs present an opportunity to plan for rising long-term care costs. Consider our two categories of HSA participants – “spenders” and “savers”. Spenders include middle-income earners who meet current medical costs from their HSAs as needed. For these individuals, HSA withdrawals fluctuate according to medical needs. HSA withdrawals may be high in some years and low in others. Any excess HSA funds are then left to grow for future medical costs.
Savers, on the other hand, can meet all current medical expenses from after-tax income. This presents a unique planning opportunity. These high-income earners can leave HSA assets completely untouched and earmark these funds for potential long-term care expenses. This form of “self-insurance” not only provides peace of mind; it may also expand the scope of one’s financial plan. Loftier retirement goals may become feasible once long-term care risks are accounted for.
Further options are available for the “saver” who does not anticipate or encounter long-term care needs. Since there is no expiration date for HSA medical reimbursements, the insured can reimburse himself via tax-free disbursement from his HSA for any medical expenses previously paid for with after-tax dollars. These disbursements can be used to buy a car or fund anything else the saver chooses.[6] Once those previous expenses have been fully reimbursed, additional disbursements taken for non-medical purposes will escape the 20 percent for individuals aged 65 or older, though such withdrawals would remain subject to income taxes.
A knowledgeable financial planner will evaluate an individual’s circumstances and structure a suitable HSA portfolio. Central to this assessment are one’s health care risks, liquidity needs, and time horizon. Investors who do not expect to draw from HSA assets in the near term (“savers”) can assume more investment risk. However, those that tap their HSA regularly (“spenders”) should consider a more conservative portfolio structure. Similarly, late-stage retirees may reduce portfolio risk as long-term care needs approach.
AIS HSA Program
Well-crafted financial plans rely upon holistic analysis and oversight. Through our Professional Asset Management (PAM) service, we can integrate your Health Savings Account into a comprehensive financial plan. Your HSA assets will benefit from the same level of attention, service, and expertise directed to conventional investment accounts. HSAs are custodied at one of two low-cost HSA administrators – Discovery or Optum. Charles Schwab’s brokerage feature allows AIS to provide discretionary management. This arrangement provides access to a wide range of low-cost, well-managed mutual funds suited to the asset classes we favor.
The AIS Financial Planning team will incorporate potential health care needs, risks, and costs when designing an appropriate portfolio structure. Program participants will enjoy all-inclusive reporting, periodic financial planning reviews, and many other benefits. For more information, please contact Bryce Schuler at 413-591-4448 or BryceS@AmericanInvestment.com.
[1] Center for Medicare and Medicaid Services (2017). National Health Expenditure Projections: 2017-2026.
[2] Auerbach, D. I., & Kellermann, A. L. (2011). “A Decade of Health Care Cost Growth Has Wiped Out Real Income Gains for An Average US Family”. Health Affairs, 30(9), 1630-1636.
[3] U.S. Department of Health and Human Services (2015), “Long-Term Services and Supports for Older Americans: Risks and Financing Research Brief”
[4] United States, Internal Revenue Service. Publication 502: Medical and Dental Expenses, IRS, 2021.
[5] Beeuwkes, M., Haviland, A., McDevitt, R., & Sood, N. (2011). Health Care Spending and Preventive Care in High-Deductible and Consumer-Directed Health Plans. The American Journal of Medical Care.
[6] This requires diligent record keeping of medical receipts and invoices.
