Which is better: Employer-sponsored HSA or opening an HSA individually?

Question

So I know that:

• Employer-sponsored HSA's allow you to deduct contributions directly from your paycheck, pre-tax
• With individual HSAs, you must contribute using post-tax dollars, then deduct those contributions from your taxable income when you do your taxes

Given those facts, I guess it's marginally better to use an employer-sponsored HSA because it means the government doesn't temporarily hold on to your taxed income, only to return it later after you do your taxes; you could theoretically put that money to work in an investment vehicle instead of having the government hold it hostage for a while.

But are there any other benefits (either way) that I'm not aware of? The HSA Wikipedia page kind of threw me with the following statement:

The main advantage of making pre-tax contributions is the Federal Insurance Contributions Act tax (FICA) and Medicare Tax deduction, which amounts to a savings of 7.65% each to the employer and employee (subject to limits of the Social Security Wage Base).

But I'm not really sure what that's telling me.

My employer is offering an HSA, but is not offering to contribute to the HSA or match my contributions. So if it's all pretty much the same, I'd rather use the bank of my choosing and manage it privately.

Thanks.

Answer 1

The big difference for me is that my contribution thorough a cafeteria plan also skips Social Security and Medicare taxes. That is a 6.2% (SS) + 1.45% (Medicare) tax on those contributions if done outside a cafeteria plan.

Some companies make a contribution to a the HSA. If you handle your contributions outside of their channels they may see you as a non-participant, and not make any matching contributions. You might have to put a minimum amount into the company setup HSA.

The non-company HSA may also charge fees that the company one doesn't.

Regarding the taxes: If you contribute $3,000 to the HSA via post tax, your paychecks would have had an extra $229.50 paid into social security/Medicare. There is no mechanism to get this refunded.

Update: In 2018, You can contribute upto $3,450 in HSA so post tax you would be paying an extra $263.925 of taxes.

Answer 2

As far as taxes go:

If you contribute to the HSA account through your employer pre-tax, that amount is not subject to the Social Security (6.2%) and the Medicare (1.45%) tax.

If you contribute that amount post-tax, you can deduct it from your income tax at the end of the year, but the Social Security and Medicare taxes have already been paid and there's no mechanism to claim deductions on those.

Answer 3

As others have mentioned, you avoid "payroll taxes" (Medicaid, Social Security, etc) by using pre-tax money rather than post-tax money.

However, there is one benefit to getting your own privately held one: you can choose the service provider. A previous employer's HSA charged $4/month, and did not allow me to invest in any funds unless I had over $4k in my account. However, a single year's maximum contribution is less than $4k, so it was stuck in a money market account perpetually.

The tax saving probably is larger than both your monthly fees and your investment gains, but the HSA provider's rules are another (fairly-opaque) consideration.

Answer 4

I have a couple other important considerations regarding external HSA accounts vs employer sponsored HSA accounts.

Depending on your personal financial situation and goals; some people like to use HSA accounts as an extra retirement account (since the money can be withdrawn penalty free in retirement for non-medical expenses, and completely tax & penalty free at any time for medical expenses). If your intended use for the HSA account is an investment vehicle for retirement, then you may find more use/benefit out of an external provider that may provide more or better investment options than your employers HSA investment options. There can be a lot of additional value in those extra investment options over greater periods of time.

Another VERY important consideration for FICA taxes (FICA includes Social Security & Medicare) that I don't believe was mentioned before - for those earners who are under the maximum social security wage limit, you are paying 6.2% of each paycheck into social security taxes. As others have mentioned you can "save" this tax through your employer’s plan if you set up the account to be funded pre-tax from your paychecks. However, in doing so, you are lowering your overall contributions into social security, which may lower your social security benefits in your retirement years!

If this is ultimately going to lower your SSA benefits in retirement then that is a big future cost that may steer you against the pre-tax employer contributions. Think of social security as part of your retirement plan, not as a tax but instead as an additional check you put away for yourself for retirement every month. Of course, this is only an important consideration if SSA is still going to be around when you retire, but let's assume that it will be.

This is not an issue for higher earners, earning well above the max SSA taxable wages. There is no wage limit on the 1.45% Medicare tax withholding's, and there is certainly no harm in saving Medicare taxes because it will not affect future Medicare benefits. So for taxpayers earning well over the max SSA wages, they will just save the 1.45% Medicare taxes without affecting their SSA contributions and resulting retirement benefits.

So again, it all comes down to personal situations. Depending on your earnings and goals, employer plan may or may not be the way to go.

Personally, for my lower earning clients, friends and family, I tend to recommend that they do whatever they can to maximize their social security benefits in retirement. So I would advise them to either use the external provider account, or the employer plan but with post-tax contributions so you don't lower the SSA withholding's but can still claim the income tax deduction on your tax return.

YMMV

-Dan

Answer 5

One small note: If you have an employer sponsored account and get let go you might have an issue. You would lose any funds in the account as of the day of your unemployment if you don't have enough expenses to use it all up! So if you put in a lot every month because you have a large planned expense like root canal or operation then you could lose it all. This happened to me.