Using HSAs To Support Your Early Retirement Goals

Your Health Savings Account (HSA) can be a powerful savings vehicle for retirement. Join us for a discussion on how our HSA fits into our retirement planning as aspiring early retirees.

Today we are delving into HSAs a little deeper to demonstrate how important they are in our retirement planning strategy and perhaps could be for you too! Although we don’t regularly report on our HSA balances as part of our quarterly updates, our HSAs are an important part of our long-term planning. Why? People get sick. People need health care. Old people especially get sick and need care! We certainly are not looking forward to being sick, but we are looking forward to being old and therefore we need to ensure that our retirement strategies include meeting future health care related expenses.

Fidelity often reports on the cost of “surging” health care in retirement.  For their latest summary, go here: https://www.fidelity.com/viewpoints/retirement/retiree-health-costs-rise

According to Fidelity’s most recent estimates:

An average couple is going to need $275,000 for health care costs after age 65

$275,000 is a big number and applies to a couple on Medicare but excludes possible long-term care costs. In addition, that’s only part of the picture for early retirees.  You may also have health care expenses, plenty of them, prior to turning age 65. Under the age of 65, you are not yet eligible for Medicare. If you are not fortunate enough to have retiree medical at a reasonable cost, you’ll also have to find a way to insure yourself in the period leading up to age 65.  All this could add up to a huge chunk of your retirement budget for health care insurance, health care out-of-pocket costs and eventually Medicare premiums. (Medicare is not free, ya’ll!)

Are you specifically saving for healthcare related spending?

Mr. Need2Save shared extensive details about our overall saving and spending strategies in 2017. For the period leading up to age 65, we are assuming that we may average around $12,000 a year in health care related spending.  This is a very unscientific ball-park number that we are using to be sure our budgeting includes something for health care.  After all, we may have a period of around fifteen years between leaving our full-time jobs with employer subsidized coverage and becoming eligible for Medicare and Medicare supplement plans.  So there is a large period of time we will find ourselves as individual consumers.

Here is a short list of questions that will shape our future plans:

• Will the marketplace still be around when we retire? If so, will ACA subsidies or similar programs survive?
• What state will we be living in?
• Will options in that state cover us sufficiently during periods of travel? What about International travel?
• What will the options be for the unemployed?
• Would a health-ministry-style arrangement work for us? If so, are we confident it would pay all our expenses (it’s not insurance after all).
• Can we find a decent high-deductible/catastrophic plan instead to keep our premiums low?
• We are relatively healthy now, will that change in the near future?
• Will the Medicare eligibility age be increased from 65?

Recently, Mr. Need2Save estimated on the ACA website if we lived in another state what kind of premiums we may be eligible for in our early retirement years.  Although we think we’d be able to qualify for the current ACA construct if it survives, there is so much time between now and when we actually retire – it’s too early to tell what our actual options and costs may be. Of course we’ll be watching all these developments carefully.  In the meantime, we have to budget for something right?  So we are using $12,000 as a rough annual average (before inflation).

How our Health Savings Accounts Figure Into our Planning

How will we ensure that we have money specifically for health care in retirement?  And are there ways to save specifically for these costs in a tax-efficient manner? Why yes! Enter the Health Savings Account (HSA).

I’m sure most of you are familiar with HSAs and the various rules to contribute to them.  You can read more about HSAs here if you need to.

I was pleased to see that our combined balance in our HSA accounts at the end of 2017 was around $47,500.  Over the years, we have toggled back and forth between Mr. Need2Save and Mrs. Need2Save’s employer health plans as premiums and HSA employer contributions have evolved over the last ten years. We advocate for comparison shopping annually to be sure you’re getting the best for your premium dollars.  The result is we have multiple HSAs at this time.

In case you are wondering, we cannot combine our HSAs because HSAs are owned by the individual, not a joint asset like a savings or brokerage account.  Think of an HSA more like a 401(k) tied to an individual person and SSN.  A couple cannot combine 401(k)s, nor HSAs.  However, since we are married, we can both use our HSAs to reimburse ourselves for health care costs for the other spouse now and into retirement.

Although I routinely see families exceed $1 million dollars in health care claims through our medical plan, the out of pocket costs are generally limited to a set dollar amount called the Out-of-Pocket-Maximum (OOPM or MOOP). For example, the plan I’m on has an OOPM for family coverage set at $16,000 a year. If one of us fell seriously ill, we’d be equipped to pay for expenses up to that level and then the insurance covers everything 100% after that point. We’d be willing to accept an even higher deductible and OOPM if need be in retirement to keep premiums low.

Our current HSA balance just shy of $50,000 is a great foundation for our retirement health care costs. And we have benefited along the way tremendously in contributing to these accounts.

• We receive a reduction in our income taxes in the years we made these contributions savings thousands of dollars.
• Our employers have helped us fund them, too! Currently, we are getting $1,500 from one employer and $750 from the other.
• The accounts have grown over time. In fact, I calculated that of the $47,500 we have today, almost $10,000 of the balance is purely market increases in our investment portion.
• We have paid lower health care premiums along the way as well, because our employers have offered the requisite high-deductible option with significant lower premiums in exchange for us taking on higher deductible risks. This allowed us to funnel the premium savings directly into the HSAs.

Health Reimbursement Account (HRA) and Health Care Flexible Spending Accounts (HCFSA) – NOT AT ALL THE SAME AS HSA!

If you instead have a Health Reimbursement Account or a Health Care Flexible Spending Account through your work, you may be wondering if you can rely on the same benefits. Sadly, no. Although there are many solid reasons why an HRA and/or an HCFSA may benefit you currently while working for that employer, neither of these alternate pre-tax spending accounts are portable. You can’t take them with you! An HRA is funded entirely by the employer so you can only use the HRA for health care expense up until the time you leave. And the Health Care FSA is generally funded by you (some exceptions are permissible), so you get the income tax reduction benefit yourself but these accounts are subject to the use-it-or-lose-it rules. You also can’t invest these funds for pre-tax growth.

In our minds, the HRA and HCFSA are inferior spending account options.  However, circumstances may be such that these are your only options to pay for out-of-pocket costs at your job in a tax-efficient manner or may be coupled with better plan design and premiums which make them attractive to you. Plans vary greatly between companies, so do your own analysis.

Our Strategy Between Now and Early Retirement

• Continue to max out the accounts and enjoy income tax reductions for the next 5-ish years.
• Continue to maximize employer contributions by comparing premium costs between our 2 employers to ensure we are getting the most ‘free HSA money’ out of both each year.
• Try to avoid dipping into the HSAs for health care expenses as they arise (as long as they involve low-cost Rx and the occasional non-preventive care doctor’s visits, we should be able to pay for these costs with our regular cash accounts). We were fairly successful in doing this in 2017, as we only used about $450 in HSA money for doctor appointments. We paid for our other expenses out of pocket and used a Limited Purpose FSA to fund $1,000 in dental and vision expenses (pre-tax as well!)
• Be sure to keep a large portion of the accounts invested in low-cost index funds for maximum tax-free growth potential. But do pay attention to fees. In my current Optum Bank HSA, Vanguard index funds were introduced last year with low fees which made me very happy. 

Grow, Baby, Grow!

Assuming we can avoid dipping into our balances, what might they look like to fund our future health care needs?

If our accounts earn a conservative average of 4% a year and we continue to reach the maximum family contribution ($6,900 including employer $) annually for the next 5 years, our account would be roughly

• $99,500 at age 51
• $141,500 at age 60
• $172,000 at age 65

We are assuming that no additional contributions would be made after 5 years during our Gap Years of Retirement. However, if we were to purchase a qualifying high-deductible plan, even on the marketplace during our pre-65 retirement and we had earnings, we could divert some of these earnings into an HSA in those years to reduce our taxable income.  We would balance this option against saving in a Roth IRA or Traditional IRA as well (or combine all strategies) depending on the level of those earnings. This may be a reality for us since Mr. Need2Save may choose to venture into part-time teaching as a second career.

If we enjoyed an average of 6% a year instead, our balance would be:

• $246,000 at age 65!

$246,000 is not too far from the estimated $275,000 that Fidelity estimates we would need for care post-65. The best thing about the HSA is you can tap these funds (including the growth) without paying any income taxes for health care needs at any time.  Since we should have sufficient assets available for our non-health care spending in retirement, we can really preserve this resource as long as possible. Well basically until such time that one of us has an ongoing medical issue which requires more frequent and likely expensive outlays.

Harvesting Unreimbursed Health Care Costs

In addition, if we really needed this HSA money for something in retirement that was not for then-current health care costs, and we’ve been keeping good records of all the health care expenses we paid with non-HSA funds along the way, we could reimburse ourselves whenever we wanted to tax-free. We currently have about $2,000 in health care related expenses that we’ve paid for over the last several years with unreimbursed funds. We are holding on to these records (with detailed receipts) in case we want to reimburse ourselves later on. If we keep this up, we could tap the HSA as an additional ’emergency’ source of money in retirement. However, we are not planning to do this as we want to be sure we do have the funds for health care needs when those needs come around. It’s good to have options though as a fall back plan. It’s not much effort to keep track of these expenses and scan the related receipts at the end of each year.

Aside from the withdrawals that we could make based on previously incurred, but unreimbursed health care expenses, we could also tap the HSA account for non-health care expenses and pay regular income taxes without any additional penalties post-65.

How About Long-Term Care (LTC)?

One of the possible tax-free uses for an HSA is to pay for LTC premiums. My CEO recently asked me to research LTC options to see if offering it at my company would be a great new voluntary benefit for our employees. In doing so, and researching policy options available through large employers and the recent resurgence in interest in LTC policies, I’ve concluded that for us, it doesn’t make sense to purchase LTC policies.

This may require a future article with more details, but for the time being, here is a great article by The Retirement Manifesto on this same topic:

Why We Are NOT Buying Long Term Care Insurance

Many early LTC insurers have recently concluded that they failed to accurately predict the true actuarial costs of LTC benefits to be paid out for the insured and therefore the premiums collected have left them with overall losses. Hence, premiums are on the rise and there are few companies that offer LTC policies to start with.

Bottom line for us is it seems to be a good deal for the insurance company and less likely a good deal for us given our family histories and the other assets we’d be able to tap in to should LTC become necessary for one or both of us. The main reasons are the frozen benefit levels (or extra premiums due if you level set the benefit in the future for health care inflation) and the various exclusions/limits the policies come with. Plus, you can’t use your HSA to fund LTC premiums if you buy a hybrid policy with a life insurance component (which is an attractive way to ensure that you get something from all those premiums if you die without tapping the LTC benefit at all). If I were to buy an LTC policy, I would probably want the life insurance option to ensure that my family receives something in return if the LTC benefit goes untapped. But, I’ll just hold on to the money and invest it instead!

Wrap Up:

Hopefully this summary demonstrates how integral our HSA funds are to our overall retirement planning. It’s just as important as saving for future housing, food, entertainment, travel and other costs. By funding our HSAs during our accumulation years, we are ensuring that we have some funds specifically dedicated for future health care needs. Additionally, HSAs have built-in flexibility to tap into for non-health care expenses in case we need to.

Yeah, we still ♥ HSAs.

If you have access to an HSA, how are you using this for your long-term retirement planning?  If you do not have access to an HSA, because you are not on a qualifying health plan or you are already retired – are you saving separately for future health care costs or bundling all your savings into one place? If so, how much are you budgeting for health care premiums and other health care related outlays?