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Lane Keeter, CPA

Partner: Tax Consulting, Estate Planning, and Heber Springs Managing Partner

Health Savings Accounts Are Great, but Can You Save Too Much in One?

Last week, I wrote about the uses and even advantages of using a health savings account, or HSA, as an investment vehicle to help save and prepare for retirement. If you didn't see that piece, entitled "A Viable Investment Vehicle – the Health Savings Account", I encourage to you go back and read that first as background for what we're about to discuss today. 

As stated in the previously referenced article, an HSA has inherent advantages and flexibility that makes it an excellent vehicle for investing long-term, not simply funneling money through a bank account to fund current medical expenses on a tax-free basis. 

However, since to withdraw funds from an HSA tax-free requires the payment or reimbursement of medical expenses of an equal amount, I am often asked if it could be possible to save too much in one and if so, what are the possible consequences. 

It's a valid question, although given the large amount of medical expenses a typical retiree will incur (again, see my earlier article), it seems unlikely you could save more than you ultimately will need. Still, just in case, there are some things to know that could put your mind at ease.

Mind Easer #1 – you can reimburse yourself for medical expenses of years past. Yes, that's correct. As long as you have receipts documenting the expenses, at any time in the future you can make a tax-free HSA withdrawal for medical expenses you paid in the past out of pocket and not previously covered by HSA assets. This ability comes with no time limit or statute of limitation. 

So, if you have saved and invested aggressively in your HSA, built up a sizeable balance, and find yourself later in life needing the funds to cover expenses, or just feel you need to use up the account, you can reimburse yourself for past medical expenses, as long as you can document them. No one likes to hold onto receipts for a long period of time, but this could be one reason to securely store medical related expense receipts just in case you need or want to use them for an HSA distribution.

Mind Easer #2 – you can make post-age 65 withdrawals. Once your past this age, you can take distributions from your HSA for any reason, including nonhealthcare related reasons. The catch? These types of withdrawals will be subject to income tax, just like a traditional IRA is, but with no penalty. Essentially, you are no worse off than had you put the money in an IRA or 401(k) plan to begin with because you got an upfront deduction, tax-deferred earnings on the investments and unfettered use of the funds. 

Granted, it makes financial good sense to take this route only after availing yourself of the opportunity discussed in Mind Easer #1 above, but it's not a bad backstop to have, just in case. 

Mind Easer #3 – well, actually I'm not sure that this is so much a mind easer as it is an assurance that if you die while still having a balance in your HSA, it doesn't just go away. Someone that you designate will benefit from the account, but importantly, you do need to make sure you have designated a beneficiary just as you need to do with other retirement accounts.

The good news is that if the beneficiary is your spouse, they can keep the account as an HSA and continue to benefit from the flexibility and tax advantages just discussed. If, on the other hand, you have a nonspouse beneficiary, the rule isn't as generous. For an HSA left to a nonspouse, at death the tax advantages immediately disappear, and the beneficiary will be fully taxable on the inherited account. 

All in all, properly managed and maintained, an HSA can have an important role to play in your long-term financial security with few if any negatives to take into consideration. Hopefully, if an HSA is available to you, these "mind easers" mitigate any concerns you have about the use of this valuable tool. 

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