Make Sure You Understand the Weaknesses of an HSA

A health savings account is one of my favorite accounts, and while I feel that the positives of an HSA outweigh the negatives, there are a handful of weaknesses to these accounts that you're going to want to know about. I feel that there are six major challenges to the HSA as a financial asset. The first is that only a certain type of person is eligible to have an HSA. You must have a health insurance plan with a specific designation. That designation is a qualified high deductible health plan, often shortened to QHDHP or HDHP. If you aren't sure if you have one of these, talk to your company's benefit manager who would be able to tell you. If your company doesn't offer a qualified plan or the individual marketplace plan that you want isn't a qualified high deductible health plan, you cannot contribute to an HSA. However, if you had an HSA, let's say from a previous employer, but you left the company, that HSA and the dollars in it are still yours. You can still use those dollars for qualified expenses. You can still keep those dollars invested if you have them invested. However, neither you nor your employer may contribute more dollars to it now that you are not on a qualified plan. And these qualified plans, as their name suggests, have higher deductibles to qualify as a high deductible health plan. The plan must have a minimum deductible of $1,600 for an individual and $3,200 for a family here in 2024. Remember the deductible is a dollar amount that you need to pay first before insurance starts to help. So if you have an HSA, you are opening yourself up to some risk with a high deductible health plan. All right, the second challenge is that many HSA custodians charge a fee for the management of the HSA. An HSA custodian is just the company that manages those dollars. Common ones are Health Equity, HSA Bank, Optum, Fidelity, and a lot of other major banks. Usually that fee is covered by your company if you are getting the HSA through your work. If you have an individual account or you're no longer with the company because you left or you retired, then you are usually left to pick up that fee. The fee amounts vary by company. There is typically a management fee just to have the HSA. And then if you invest your HSA dollars, there could be another investment fee. So just keep track of these fees. Most of these HSA custodians also have a minimum balance that you need to keep in your HSA or you would have additional fees. Speaking of fees, that leads us to the third challenge with HSAs. There is one tax disadvantage and then two penalties that are tied to HSAs that you're going to want to understand. The tax disadvantage comes if you are using your HSA dollars for non-qualified expenses before you reach the age of 65. If you do this, you are taxed on the amount that you took out, eliminating the triple tax advantage that HSAs have. On top of that, you are assessed penalty number one, which is an additional 20 percent penalty on those dollars. So let's pretend that you are not 65 yet. You're in the 22 percent marginal tax bracket and you take out $1,000 from your HSA and use it for non-qualified expenses. Your 22 percent tax bracket means that you will have $220 that you will owe in taxes and that 20 percent penalty means that you have an additional $200 to pay as the penalty. That $1,000 just costs you $420 to use. So $1,420 to get $1,000, that's pretty expensive. Remember, after 65, the 20 percent penalty does not apply if you use the HSA dollars in unqualified ways. The tax still applies. The penalty does not. Now, the second penalty comes if you contribute more than you're supposed to, meaning your contributions exceed the maximum contribution limits. There is a 6 percent penalty on any excess dollars for each year. These extra dollars are in your HSA, and that is also applicable to any growth that these dollars experience if you have them invested or if you earned any interest. So let's talk about those contribution limits as challenge number four. You are limited on how much you are allowed to put into your HSA, and these limits are tied to that qualified health plan and how many people in your family are covered by that plan. Let me explain. The individual limit for HSA contributions for 2024 is $4,150. This means if you are the only person in your family covered by the qualified high deductible health plan, you can only contribute the individual limit. The obvious example is if you are single. The less obvious example is if you are on a qualified health plan through work, but your spouse and your kids are on a different plan through your spouse's work that is not an HSA eligible plan. Since you are the only one in the family covered by the qualified plan, you can only contribute the individual limit. The family limit is $8,300 here in 2024. You are allowed to contribute to the family limit if more than one person in your family is covered by the qualified plan. This could be you and your spouse. It could be you and a child. It could be you, your spouse, and 20 kids. As long as two or more are covered under the qualified high deductible health plan, this allows you to contribute the family max. Now, the next part is more of an advantage to these plans, but it fits better in this section on contribution limits. After age 55, the HSA account holder can make an additional $1,000 catch-up contribution each year. I phrase it that way for a reason, and this is all connected to this individual versus the family contribution allowance. An HSA is tied to the individual account holder. This is the employee of the company offering the plan, not the spouse of the employee, meaning even though the spouse and kids may be covered by the same insurance plan, the employee themself owns the account. That employee is the one who can make the $1,000 catch-up contribution, not both the employee and the spouse, because the spouse does not own the HSA and thus cannot make the $1,000 catch-up contribution. Hopefully that makes sense. A couple does not get $2,000 of catch-up contributions per year if only one of the spouses is the employee with the HSA plan through work. Both spouses can make the $1,000 catch-up contribution if each of them work separate jobs and have separate qualified high deductible health plans, as an example. The last point in this contribution limit section is that the maximum amount your employer can contribute is limited as well. This year, in 2024, it is $2,100. These maximums that we are talking about are all-inclusive, meaning your contributions plus your employer's contributions cannot exceed those maximums, otherwise you experience that other disadvantage of the HSA, and that is that 6% penalty on excess contributions. The fifth challenge to an HSA is that they do not play nice with Medicare. This is an important one here. Once you go on any part of Medicare, neither you nor your employer may make HSA contributions without penalties and taxes. This is a huge myth that so many people get wrong. Many people think that it is okay to have Medicare Part A only and they can keep contributing to an HSA as long as they don't take Medicare Part B. This is not correct. If I had a nickel for every time someone told me their HR manager told them that it was okay to keep contributing, I'd have a lot of nickels. Once you take any part of Medicare, even if it is Part A only, you cannot contribute to an HSA anymore, and neither can your company. There are weird timelines around Medicare and HSA contributions that we cover in another video in the description. If you're approaching Medicare, you need to watch that video. You can still use your HSA dollars for qualified expenses once you go on Medicare, and your HSA can still stay invested. You just cannot contribute any more dollars to your HSA. And to add another downer here, Medicare supplement plans do not qualify as eligible medical expenses, so you can't use your HSA dollars for those premiums without getting taxed. For those who know what Medicare supplement plans are, you know that this can be a big issue. Now the last challenge for HSAs that I will cover here in this video would be the beneficiaries who are not the spouse. Kids, other relatives, other people who are not your spouse can inherit the HSA, but they will pay income tax on that. It's not a crazy disadvantage, but it's not as great as a beneficiary arrangement with your spouse, where your spouse gets all the same tax-free opportunities that you have. The point I want you to remember with HSAs is that even with these challenges, the dollars are yours. You keep it year over year, the balance rolls over if you don't use it, and it can continue to grow. The HSA stays with you if you leave your job, it is yours. But there are boundaries set around these accounts that you want to make sure that you work within to make the most of these awesome financial assets. If your HSA dollars are not being rolled over year to year, and you're being told that they are use it or lose it, this means that you do not have an HSA. You likely have one of its cousins, the Flex Spending Account, or FSA, or the Health Reimbursement Arrangement, HRA. I've got a comparison of all three of these and which one is better than the others in this video right here. Let me know if I missed anything with the HSA and I will see you over there.