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What is a Health Savings Account?
A Health Savings Account (HSA) is an account into which you can deposit up to $3,600 per year for individuals and $7,200 for families (in 2021). You can use this money for eligible health expenses any time — 20 days or 20 years after you put it in the account. If you never need it for health expenses, or have a balance when you retire, you can withdraw it as income in retirement.
You can deduct the contributions from your income in the year that you put them in the account. This allows you to avoid federal income tax on the money (and state income tax, except in Alabama, California and New Jersey, because these states tax the contributions).
If your HSA is set up in conjunction with an employer-sponsored health insurance plan, the contributions may even come out of your paycheck pre-tax and get deposited automatically into your account.
Eligible individuals can open an HSA at any bank, credit union or investment institution that offers them. Typically, you open the account, deposit the money, and get a debit card which you can use to pay qualified health expenses. You might also be able to use a checkbook connected to the account, or to pay your expenses using other means and get reimbursed with funds from your HSA.
Who is eligible for an HSA?
To establish and/or fund an HSA, you must be enrolled in a specific type of high-deductible health plan (HDHP). Its terms must fall within the following limits for 2021:
HDHP Minimum Deductible Amount
HDHP Maximum Out-of-Pocket Amount
An eligible HDHP plan must also meet another IRS requirement: "Except for preventive care, [an HDHP plan] may not provide benefits for any year until the deductible for that year is met."
That means that a slightly more generous high-deductible plan, which pays for any portion of things like prescription drugs or specialist visits or an X-ray before the deductible is met is not HSA-eligible.
For example, if your plan covers specialist visits with a $50 copay, before the deductible is met, it’s not HSA-eligible, even if it meets all the other requirements. If it covers a portion of a prescription before you meet your deductible, it’s not eligible.
To be eligible for an HSA, you must also have no other health insurance plan, with certain exceptions such as coverage for dental care, vision care, accidents, disability or long-term care. You cannot be enrolled in Medicare. And you cannot be claimed as a dependent on someone else's tax return.
What can you use an HSA for?
You can use the money in an HSA to pay for many medical, dental, vision or hearing-related expenses. These include anything that qualifies as a tax-deductible medical or dental expense (with the exception of over-the-counter medications and health insurance premiums, unless you're between jobs).
Eligible expenses include typical out-of-pocket expenses such as your health insurance deductible, co-pays for prescriptions and doctor visits, and co-insurance for medical care. However, they also include many surprising expenses that your health insurance plan might never cover in the first place, like the following (please consult irs.gov for an exhaustive list, and exclusions):
- Alcoholism treatment (including transportation to AA meetings)
- Artificial teeth (and limbs)
- Braille books and magazines
- Capital expenses for home alterations to address medical conditions (like installing ramps)
- Contact lenses, and solutions and cleaners for them
- Dental treatment (but not teeth whitening)
- Eye exam
- Eye surgery, including laser eye surgery for defective vision
- Fertility treatments
- Guide dogs, and other service animals
- Hearing aids
- Lead-based paint removal
- Pregnancy tests
- Transportation and lodging essential for medical care
- Weight-loss programs (see details)
- Wig (if hair is lost due to disease)
Since some of these expenses can be planned in advance — like laser eye surgery, fertility treatments, and lead-paint removal — using an HSA could help you save a considerable amount of money on them.
It's important to note that you can only use HSA money for expenses incurred after the account was established.
How an HSA can save you money
Whenever you pay for anything — a meal, a sweater, a doctor visit — with after-tax money, you generally need to earn much more than the sticker price to pay income taxes and then use the remaining money for the expense.
But if you use money in an HSA, you don't have to pay taxes before you spend the money.
For example, suppose you have a total tax rate of 30%. If you have a medical expense that costs $3,000, you would have to earn $4,286 to cover the expense because you'd lose $1,286 to taxes. But with an HSA, you would only have to earn $3,000 total, and the $1,286 would stay in your pocket.
While almost all HSA-eligible expenses are deductible even without an HSA if you itemize your taxes — the deduction is less generous and more complicated. You would only be able to deduct the amount that exceeds 7.5% of your income (AGI), for example. Your deductions also need to be more than your standard deduction to be worth taking. With the HSA, you don't need to meet these criteria; you'll just have to check the other requirements above.
For example, if you have an annual income (AGI) of $50,000, you would only be able to deduct the health expenses that exceed $3,700 (assuming you have deductions, like mortgage interest) to push your total Schedule A deductions above the standard deduction). With the HSA-approach, the first $3,700 you pay would also have been deducted (assuming you have that much in your HSA).
Any money that remains in your HSA can be invested, and withdrawn after age 65 as retirement income, completely tax-free. This is a huge benefit for those lucky enough to stay healthy into their golden years.