Analysis: The tax benefits of a Health Savings Account

I am jealous.

Any time you can protect your money from the tax man, I want in.

George Papadopoulos is 50 years old and has a tax-free stash to cover health care expenses that is close to $100,000 and growing. It will continue to grow for the rest of his life just like an Individual Retirement Account.

“It's a nice bucket of totally tax-free money,” the wealth manager from Novi, Michigan, said.

The account is known as a Health Savings Account, a financial device that is growing in popularity as the Baby Boomer generation chews through its golden years and their attendant health issues.

Health Savings Accounts are a tool that can help health plan participants be smart shoppers. Think of an HSA as a 401(k) for your health care. People who qualify can save up to $6,900 (for families) this year, all of which you can claim as a tax deduction. If you are 55 or over, you can add another $1,000 to the pot — again tax deductible.

When I heard about the nifty tax-shielded deal, which continues to grow ever after, I asked my wife, Polly, “Why do we not have one of these?”

I called The Washington Post benefits manager and was told the company doesn't offer an HSA. We do have a flexible spending account, which allows me to save up to $2,650 in tax-deductible money this year for qualified health care expenses like doctor bills, medicine and even a $2,900 lens that will be inserted into my eye to replace one clouded by a cataract.

I swear by my FSA.

There is one big difference between the HSA and FSA: You can roll over the HSA like a Roth IRA and take the money out — tax-free — to cover qualified health care costs anytime during the rest of your life.

You can even use it for long-term care.

An FSA is “use or lose.” You must use the money the year you save it or you forfeit it all at the end of the year. (Some FSAs have a ‘grace period” allowing you to use your funds until March 15 of the next year.)

I called Jim Winkler, senior vice president and chief innovations officer at Aon, the global professional services firm that consults on risk, retirement and health, to ask him what he thought.

You can't do both an HSA and FSA, Winkler said.

“In order to avail yourself of a health savings account, a person must be enrolled in what the federal government has called a ‘qualified, high-deductible health plan,'” Winkler said.

What is a qualified, high-deductible health plan?

Just like it sounds. It has a higher deductible than a traditional insurance plan.

The IRS defines a high-deductible health plan as any plan with a deductible of at least $1,350 for an individual or $2,700 for a family.

The monthly premium is usually lower for a high-deductible plan, but the participant pays more of health care costs before the insurance company begins to pay its share (your deductible), according to HealthCare.gov. Participants in a health savings account can use that savings, which is free of federal taxes, to pay for certain medical expenses.

So why am I telling you all this? Anytime you can shelter your money from taxes — especially year over year — you should consider it. Some employers even match your savings. Papadopoulos said his wife gets at $1,000 HSA match from her employer, Ford Motor Company.

“For some people, the idea of HSA to accrue tax free and build value is super-attractive,” Winkler said. “The flip-side is that the HSA is connected to a qualified, high-deductible health plan. If you are a moderately healthy person and you get prescriptions for a head cold, then those things that used to cost $20 or $25 with a co-pay are now all things you pay until you meet the deductible.”

Winkler said that in a typical population, 25 to 50 percent of money that is saved in a health account is pulled out to fund out-of-pocket expenses.

My wife and I use most of my FSA each year, but we are in our 60s and have a few more health bills than people much younger than us.

“In an FSA, if I'm really healthy at the end of the year, I have nothing to show for it,” Winkler said.

But in an HSA, where you can save in perpetuity, the less money you pull out to cover out-of-pocket expenses in a given year, the more you can save for the future. There are a few caveats. Before age 65, withdrawals for non-qualified expenses are subject to a 20 percent penalty along with income tax.

After age 65, withdrawals for non-qualified medical expenses are taxed as income.

Health Savings Accounts have been around since 2003. An Aon 2017 analysis of 130 large-market companies of 5,000 or more employees found that 69 percent offered HSAs. The same analysis found that 85 percent of companies with fewer than 5,000 employees offer HSAs.

More than 20 million people have one, according to one report.

Papadopolous said he and his wife have been maxing out in their HSA for the past five years.

“It's been great for us,” he said. “We have not spent a single dime out of it. We are letting it grow and grow and grow.”

Papadopoulos looks at the HSA as a triple-threat tax break: “You get the deduction when you put it in. Then it stays inside its tax-deferred account. And when it comes out for health expenses, it is tax-free.”

But he cautioned to research your HSA closely before you join. Each is different, based on the providers.

Some allow participants to invest in low-cost index mutual funds. Some have more expensive actively-managed mutual funds.

“One of my clients finally got an HSA for the first time,” Papadopoulos said. “He has about eight or nine Vanguard index funds” he can choose from.

Some HSA funds are administered by banks that keep the money in their low-interest money market accounts, which results in returns of 2 percent annually. That would barely keep up with inflation much less the soaring costs of health care.

So people are urged to shop carefully for the right administrator.

“It makes sense for us, but it's not for everybody,” Papadopoulos said. “We have 401(k)s, Roth IRAs and taxable accounts. We wanted another bucket of totally tax-free money.”

OK, now I am really jealous.