A Health Savings Account, or HSA, is a tax-advantaged way to save money for health care costs. An HSA account is different from a Flexible Savings Account, or FSA, that many people are more familiar with. For most people with qualifying health insurance plans, an HSA is better than an FSA.
One of the advantages of a Health Savings Account is that the money does not have to be spent in a single year. Instead, those funds can be left in an HSA for years. In fact, that money can be invested, just like with a 401k plan, or a 529 plan, in order to grow for future medical costs. But, does it make sense for YOU to invest money in your Health Savings Account?
Money that is invested in an HSA grows tax-differed, just like in an IRA or 401k. That many can also be withdrawn tax-free, if and only if, it is used to pay for medical expenses.
There are several factors that determine whether it is a good idea to invest your HSA funds, or whether you are better off leaving them in the cash, or money market account.
How You Use Your HSA Determines If Investing in HSA Is Smart
While all HSA accounts have the same basic structure, there are actually several ways to use them.
The first, and most common way, to use an HSA account is to simply route funds into, and out of, it, in order to pay your current medical expenses. Although this isn’t the main intent of the account, there is no minimum amount of time funds must sit in your account in order to be used to pay medical expenses. In fact, so long as the account is already open when expenses are incurred, you can actually deposit money after the fact, and use it to pay medical bills.
For example, let’s say you found out that you needed strabismus surgery. You could talk with the office manager at the eye doctor’s office and find out that your out of pocket expense would be $813. Then, you would deposit $850 into your HSA from your checking account. When it comes time to do your taxes next year, you’ll get an above the line tax deduction for the $850. (Note: The amount you contribute is the amount you deduct. The amount you withdraw is irrelevant for your taxes, so long as it was used to pay qualified medical expenses.)
You go have the surgery, and when you get the bill a month or two later, you pay it, and reimburse yourself $813. (Some HSA’s have a debit card you can use for payment as well. I prefer to use my own Capital One Rewards points credit card to get the points, or miles, and then have the HSA money deposited into my checking account.)
If this is how you use your HSA account, then there is really no point in investing the money. A drop in the market might leave you short for your bill, and a rising market wouldn’t increase your balance enough for it to be worth it.
The second way to use an HSA account is to just regularly put money into it whether you have any medical expenses or not. This is not unlike an IRA, 529, or 401k plan. You will need the money for some future medical expense eventually. In the meantime, every contribution is a deduction off of your taxes. In this case, once you’ve built up a big enough balance (at least few thousand dollars), you could start investing in an index fund of your choosing.
Obviously, this second method works best for those with excess income to be saving and investing. Putting money like this into your HSA account should come AFTER you’ve already funded your 401k, IRA and 529 college savings plans.
How To Start Investing for HSA
The tricky situation is the scenario in between the above. What if you are putting some money into your HSA, and you have some potential medical expenses coming?
In this case, you still want to build up a balance before investing. Then, the best move is to keep a balance that covers your annual out of pocket maximum, or less conservatively, your annual deductible amount. Everything above this could be invested.
For example, if your policy has an out of pocket maximum of $3,500 and a deductible of $2,500, you could choose to keep $3,500 (more conservative) or $2,500 (less conservative) in cash and invest the amount above that. This essentially gives you a year to plan around any unforeseen expenses before having to dip into invested funds.
Don’t get too clever in your HSA with your investments. Unlike retirement accounts that allow you to reap the rewards of huge returns for any purpose, HSA accounts stay as a medical expense reimbursement account only for your whole life.
This article is for informational purposes only, and should not be considered investment advice, or financial planning advice. The author is no longer a financial planner, and does not hold himself out to be one. For specific advice consult your tax and financial planning professionals.