How to use HSA to fund your retirement

In this post, we will talk about what HSA is, the benefits of using HSA and how you can use it to fund your retirement.

Summary

• What is HSA?

• The benefits of using HSA

• How to use HSA to fund your retirement

• Other options

What is HSA?

HSA is a health saving account. You can use it for medical expenses with some high deductible health plans in the US. You can also use HSA for non-medical expenses before age 65, however, you will need to pay a 20% penalty plu tax if you do so. However, after age 65, you will be able to use money in your HSA account for non-medical expenses without any penalty.

The benefits of using HSA

The main benefits of HSA is due to its tax treatment. HSA is:

• Pre-tax when you are contribution to it, meaning that you are not paying tax for the money you contributed to it;

• Growth is tax free, meaning that you don’t need to pay tax for the growth of the funds;

• Tax-free when you withdraw it.

How to use HSA to fund your retirement

HSA is a great way for you to lower income tax and pay medical expenses with pre-tax money. It is also a great method to fund your retirement! 

The HSA contribution limits have been increasing year over year:

In 2022, the contribution limit for individuals is $3,650. Let’s just assume that despite the HSA limit likely to increase in the future, you have decided to invest $3,650 in HSA every year. Without the optional contribution from your employer, that’s about $3,650/12 = $304.16 every month, or $3,650/365 days = $10/day. That’s putting down $10 every day towards your retirement.

If you have started to invest $3,650 in HSA from when you are 22 years old, to the age of 65, you would have almost one million dollars in your HSA account, and they are all TAX-FREE (assuming a 7% yearly return). Among the 938k dollars, less than $157k is from your own contributions. 

BTW, the 7% return rate is based on the historical average return of the S&P 500 after adjusting for inflation.

The above calculation is based on the individual contribution limit. If you have a family plan with HSA, the 2022 contribution limit is $7,300. You would end up with even more money if you contribute that amount every year to your HSA account.

Other options

Of course there are many other ways to fund your investment. For example, you can contribute to a Roth-IRA account (if you are eligible). However, roth-ira contributions are post tax money, as opposed to the pre-tax contribution for HSA. 

Another popular way to fund retirement is using a 401(k) plan. Just like pre-tax 401(k) contributions, HSA contributions will reduce your taxable income for the year. The difference is that when you withdraw money from a pre-tax 401(k), you will need to pay taxes for it; whereas for HSA withdrawals after age 65, you don’t need to pay tax for it. 

If possible, it is a good idea to use multiple investment options to fund your retirement. It is always nice to have multiple streams of income in your retirement, instead of having a single point of failure. If you are eligible for both HSA and Roth-IRA, and your company provides a 401(k) plan, go ahead and start funding all of them.

Saving up enough money for retirement is possible. You don’t need to work until you die. All you need is a plan and stick to it. When you start early, time is on your side.