HSAs – how to reduce health insurance costs and save on taxes

Have you heard the term “health savings account” (also known by the acronym HSA) and wondered if it was right for you?   If you are an employee of a company that offers a high-deductible health plan (HDHP) or you are a self-employed business owner, you will want to read on to learn how you can lower health insurance premiums and save for future medical expenses while taking advantage of some generous tax benefits.

HSAs are individual accounts typically offered by employers together with a high-deductible health plan (HDHP) to cover out-of-pocket medical expenses such as your deductible, co-payments for medical care and prescription drugs, or bills not covered by insurance, such as vision and dental care. Salary contributions you make to an HSA are not included in taxable income. Furthermore, any investment growth and withdrawals are tax free when used to pay for qualified medical expenses. Also, unlike Flexible Spending Accounts (FSAs), funds can remain in your HSA account from year to year – there is no use-it-or-lose-it rule.

There is a maximum annual contribution limit for HSAs for 2015 of $3,350 for single coverage and $6,650 for family coverage. If you are over 55, you can contribute an additional $1,000.

You can use your HSA to pay for some or all of your medical expenses each year and let any funds remaining in the account grow tax-free for future use. You will get the biggest tax benefit if you leave the entire balance in the HSA invested for the long-term and pay out-of-pocket medical expenses entirely from current income.

So what about the risk that you will need to pay for a catastrophic medical event if you enroll in a high-deductible health plan?   A high-deductible health plan has out-of-pocket maximums to protect you in this situation. To identify a worst-case scenario, simply add the amount of health insurance premiums you will pay under the high-deductible health plan to the out-of-pocket maximum and compare this amount to the premiums and out-of-pocket costs you expect to incur on plans with lower deductibles. If they are about the same, then go with the high-deductible health plan paired with an HSA because it is unlikely you will reach the out-of-pocket maximum and if you do, you’re maximum outlay will approximate the amount you would have paid for a health plan with a lower deductible. In the best case scenario where you pay the lower insurance premiums and incur minimal out-of-pocket costs, the savings can be significant.

In summary, a health savings account coupled with a high-deductible health plan is a great way to reduce both health insurance costs and income taxes.   By contributing the savings resulting from lower health insurance premiums to a health savings account, you will likely reduce your health insurance cost and achieve tax-free growth on savings when funds are used to pay for future qualified medical expenses.