Americans spend an average of $12,530 on medical expenses every year. Medical costs are almost inevitable at any stage of life. So, what if there was a way to integrate them into our wealth-building process? Luckily, there is an option (or two) to consider.

Let's max out your financial knowledge!

What is the Health Savings Account (HSA)?

Despite the "savings" in its name, an HSA is a great investment vehicle. It’s a tax-advantaged account where you use the funds for qualified medical expenses. But the reason why we love it? It is the only investment vehicle with a triple tax benefit, which looks like this:

1. Contributions are tax-deductible (Like a Traditional IRA)
2. Funds grow tax-deferred (Like any IRA)
3. Funds are distributed tax-free (Like a Roth IRA) for qualified medical expenses

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It almost acts like a Traditional IRA by default but can turn into a Roth IRA for qualified medical purposes. But of course, it’s not flawless:

1. Must have a high-deductible health insurance plan.
2. Low contribution limit (including employer match) for 2024:
   • $4,150 for individuals
   • $8,300 for families
3. Taxed and hit with a 20% penalty if not used for qualified medical purposes before 65 years old

Now, this may seem restrictive at first. However, one notable perk of this account is that there is no deadline to reimburse the funds to pay off an expense. For example, you could:

• Incur a medical expense
• Not distribute the funds immediately
• Wait several years before making a distribution
• Still use that expense to make the distribution tax-free

Now, why would someone want to do that? It's because years of compounding interest could have been invested. Let's break that down in a hypothetical example:

• $10,000 invested in an HSA
• A $10,000 medical bill is received
• The $10,000 medical bill is paid out of pocket
• The funds in the HSA grow to $20,000 in 10 years
• $10,000 is pulled tax-free while the remaining $10,000 stays in the account, continuing to grow

Taking the amount immediately means missing out on years of growth. The point is that the HSA can be an opportunity to invest these funds AND use medical expenses to help distribute tax-free funds down the line!

Remember, this account can only be funded if it is used with a high-deductible account, which many are not comfortable doing depending on their health needs. If that's the case, is there another option? I'm glad you asked.

What is the Flexible Spending Account (FSA)?

This account is relatively straightforward. They are savings you set aside with the anticipation of using them during the year. Why use this instead of a normal savings account? Tax savings.

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The contributions to this account are pre-tax so that you can reduce your taxable income for the year. If you have expenses throughout the year, this can help lower the overall cost by negating some of the costs with the tax savings you’ve created. Plus, it can be used regardless of the plan type just as long as an employer offers it. However, it’s not always the best option for a couple of reasons:

1. Low Contribution Amount: The contribution amount for 2024 is only $3,200.
2. Use-It-Or-Lose-It Rule: If you do not use all of the funds by the end of the year, they are ALL forfeited. Ouch!
3. Limited Portability: If you change jobs or leave the company, you will also lose access to the account and any remaining funds (This is not the case with an HSA!)
4. No Investing: The funds sit in the account until they are distributed.

This can make the FSA a relatively challenging account to monitor, which isn’t great considering the low contribution amount. It makes sense if you know you will use the funds this year for the exact amount or more.

Comparing the Two

The HSA offers better flexibility, such as larger contributions, portability, and uses for building wealth. However, because of the restrictions, an HSA should be supplemental to your wealth strategy. Not to mention, if funds are not used for medical purposes by 65, they’re taxed but not penalized.

Not everyone needs an HSA as it typically makes sense if you are young, healthy, and don’t go to the doctor often. But if it makes sense for you, it can be a great addition to your financial plan. The HSA sure does Help Save A Lot!

- Max

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