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Most people treat a health savings account (HSA) like any other savings account that holds money until they need it. But HSAs can be a valuable option for investing beyond your health needs. You can take advantage of your HSA by investing in your choice of stocks, bonds, ETFs and mutual funds to better fund your retirement or later medical care.
What Is an HSA?
An HSA is a savings account for future medical expenses that comes with tax advantages. You can contribute to it with pretax dollars, as you would to a 401(k), up to an annual maximum—$3,650 for individuals in 2022. Contributions roll over year to year, grow tax-free and won't be taxed upon withdrawal as long as they're used for qualified medical expenses.
To qualify for an HSA you must be in an eligible high deductible health plan (HDHP), an insurance plan that has relatively low premiums and a high deductible. With an HSA, you can pay with money in the account when you need to cover medical expenses or haven't yet met your deductible. This could be for a variety of costs, including copayments, medications, equipment, dental visits and more.
But more than saving up for immediate medical expenses, you can invest your HSA funds and allow them to grow until you want to withdraw them for a qualified medical or nonqualified reason later on.
How to Invest HSA Funds
Most people do not invest the funds in their HSAs, choosing instead to use them more like money in a savings account. The Employee Benefit Research Institute found that only 4% of HSAs opened in the past year had investments, with only 9% of all HSAs being invested at all.
But when you invest HSA funds, your money can grow so you'll have more you can use when needed or tap into in retirement.
You may get an HSA associated with a health plan from your job or purchase one yourself. If you're interested in investing in options not available via your work-sponsored plans, you can transfer funds to a personal HSA to give you more latitude in investing.
Account owners can invest as little or as much of their HSA balance as they want, and in a variety of securities. You can choose a diversified mix of investments including:
1. Stocks
When you invest in stocks, you get an ownership stake in a company. If the company performs well, the value of your stock increases; conversely, the value can fall if the company falters. Stocks are generally viewed as good investments for the long term, though they do involve risk.
Investing in stocks as part of a fund that includes many companies, such as a mutual fund or exchange-traded fund (see below), is generally safer than investing in individual stocks.
2. Bonds
When you invest in bonds, you purchase a bond for a set fee from a company or government. Once the bond matures after a certain amount of time, you are repaid your original amount plus interest. Bonds are typically more stable than stocks but tend to have lower returns.
3. Exchange-Traded Funds
Exchange-traded funds (ETFs) are groups of securities bound together and traded as one. They are often composed to resemble market indexes and can be traded like stocks, which makes them attractive for owners who want to be actively involved in regular trading.
4. Mutual Funds
Like ETFs, mutual funds also consist of multiple assets. Some mutual funds track a stock index such as the S&P 500, while others are actively managed by investment professionals. These managers purchase securities with the fund's pooled money. Mutual funds typically show positive growth over decades and are considered a good long-term investment option.
Pros and Cons of Investing Your HSA Funds
Most people use their HSAs to cover medical expenses. They may use everything they contribute in a year and are happy to get the tax advantage that comes from contributing pretax dollars.
Others are able to tie up their HSA funds in long-term investments. They cover their current medical expenses with other available funds in the short term knowing they will be able to reimburse themselves eventually from the HSA. Plus they gain the benefits of long-term earnings.
Depending on which way you need to use the money in your HSA, there can be pros and cons to investing it.
Pros:
- Triple tax advantage: An HSA provides a triple tax advantage given that the money you contribute is pretax, you don't pay taxes on any earnings and you can take money out tax-free for qualified medical expenses. (You do owe regular income tax rates for nonqualified withdrawals after the age of 65 ).
- Employer contribution: Some employers will contribute to your HSA as they do with your retirement accounts, so your investment can start with some free money.
- Long-term growth: If you are already making the most of your retirement accounts, investing your HSA funds gives you another space for long-term financial growth.
- Extra funds for retirement: Investing your HSA helps you to grow funds for medical needs in retirement. This is no small consideration: The average American couple may need about $300,000 for those costs, according to investment firm Fidelity. You can also use your HSA as a secondary retirement account that can be withdrawn penalty-free after you turn 65; you will pay taxes on any nonqualified withdrawals, however.
Cons:
- Market volatility: Like any investment, HSA funds invested into the market may experience volatility. If you want to dip into your HSA in the next few years, investing your funds may be risky.
- Fees: Some HSAs come with high fees, while others come with hardly any fees. It's important to clarify fees before enrolling in an HSA or using yours for investing purposes.
- Only eligible with HDHPs: Only eligible high-deductible health plans qualify for an HSA. These plans can create high out-of-pocket health costs.
- Unexpected medical expenses: You'll want to have extra cash available to cover medical expenses up to your deductible if you plan on leaving money to grow in your HSA. Eventually you can reimburse yourself with the earnings that accrue in the HSA account.
What Happens to Invested HSA Funds in Retirement?
When you reach age 65, you can withdraw the remaining funds in your HSA for nonqualifying expenses without penalties. You would simply pay tax on the earnings like other retirement accounts that use pretax dollars.
If you need medical care in retirement, you can withdraw the funds and still take the triple tax advantage. Using your HSA as an investment vehicle for medical savings is one way to help make sure you have enough cash earmarked for medical care later in life.
If you have an HSA, consider its potential beyond short-term savings. As an investment option, your HSA can help you grow funds for both medical needs and retirement with some great tax advantages.