Using a Health Savings Account (HSA) as an investment vehicle: What are the drawbacks?

Question

For next year, my company has started offering an HDHP with an HSA.

With this, they will contribute $500 per year flat, and 50% matching up to $500 (where they will match $250; up to $750 total). I know that $250 is basically chump change, but I am new to investing and am taking this as learning experience.

One of the first things I noticed when looking through the account description is that it is almost exactly the same as a 401(k), etc. Company makes contributions; pre-tax deposits; no penalty after 65; added bonus of tax-free withdrawals for medical payments.

After doing some shallow digging online, I've found that others seem to agree with me. You can even open an investment HSA. At this point, I've realized I'd be silly not to take my 50% return on the $500. In fact, it might be better idea to invest here rather than my 401(k) after I've met my matching there.

I would, however, like to confirm a few things:

1. You are allowed to have multiple HSA accounts. My company forces me to use a specific bank if they are going to be make contributions. However, I would like to move this money to a higher-risk/higher-yield account.

2. You are allowed to withdraw money to reimburse any past payments that were made after the HSA is opened – perhaps years later. This would allow me to accumulate interest on the money and then get reimbursed later.

3. You can transfer money between HSAs, etc. and the money will still cover any payments since the first HSA was opened?

4. I am currently unmarried and without children. An HSA can be made to pay for any dependent or spouse medical bills as well. I am currently signed up with an HSA that is marked as "individual" or something. I assume that once I get married, I should have no issues using this money from the past on my wife and kids?

Is there anything I am missing? Why wouldn't I do this?

Answer 1

I also talked to the IRS yesterday to get a few of my own questions answered, and I asked a few of these while I was at it (as I didn't know the answers for sure either, even after reading IRS pub 969). To answer your specific questions:

I would, however, like to confirm a few things:

1. You are allowed to have multiple HSA accounts. My company forces me to use a specific bank if they are going to be make contributions. However, I would like to move this money to a higher-risk/higher-yield account.

2. You are allowed to withdraw money to reimburse any past payments that were made after the HSA is opened – perhaps years later. This would allow me to accumulate interest on the money and then get reimbursed later.

3. You can transfer money between HSAs, etc. and the money will still cover any payments since the first HSA was opened?

4. I am currently unmarried and without children. An HSA can be made to pay for any dependent or spouse medical bills as well. I am currently signed up with an HSA that is marked as "individual" or something. I assume that once I get married, I should have no issues using this money from the past on my wife and kids?

1. Though I didn't see it specifically called out in pub 969, the IRS confirmed that you can have multiple HSA accounts as long as your total contributions don't exceed the yearly maximum.
2. This the IRS agent had to double-check this, but determined that you can only take distributions for expenses paid in the last tax year, i.e. you can not take distributions for expenses paid in years past. Their explanation was based on Qualified Medical Expenses explained in IRS Publication 502: Medical and Dental Expenses, noting that you can only claim tax deductions for expenses in the past tax year, and apparently the same rules apply to distributions from an HSA. I asked about the FSA grace-period deal, and apparently that's some sort of exception. Not really sure on that. Correction, as pointed out in comments below and sourced in official IRS documentation by @MichaelDeardeuff: You can take distributions for any expenses paid since the HSA was opened. From IRS HSA FAQ published in 2004 (though apparently still accurate) A-39, "An account beneficiary may defer to later taxable years distributions from HSAs to pay or reimburse qualified medical expenses incurred in the current year as long as the expenses were incurred after the HSA was established. Similarly, a distribution from an HSA in the current year can be used to pay or reimburse expenses incurred in any prior year as long as the expenses were incurred after the HSA was established. Thus, there is no time limit on when the distribution must occur." Thanks Michael for finding that source.
3. From pub 969: "For HSA purposes, expenses incurred before you establish your HSA are not qualified medical expenses. State law determines when an HSA is established. An HSA that is funded by amounts rolled over from an Archer MSA or another HSA is established on the date the prior account was established." (emphasis mine)
4. Contributions & distributions are not linked, so rules for distributions aren't affected by when funds were contributed (as far as I can tell). IRS pub 969 says "Qualified medical expenses are those incurred by the following persons: You and your spouse. All dependents you claim on your tax return."

Note that I am not a certified tax professional and you should not rely on this information for your own tax decisions, but should investigate or contact the IRS yourself.

Answer 2

First of all, one thing that is very important:

Match is always better than no match. So, you should definitely use that match on your HSA if you've already maxed out the company match on your 401(k). In fact, for most people there won't be much reason to invest in your 401(k) above the company match at all.

If, for example, your company matches only up to 5%, and you want to invest 15% of income into retirement, you ought to open an IRA instead (Roth or standard depending on your situation) and put the extra 10% in there.

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Beyond that, you're right, HSA's (the accounts themselves) have all the benefits of a 401(k). I wouldn't invest there for retirement instead an IRA, though. There is just no reason.

The only built-in downside of an HSA is the HDHP attachment, which may be undesirable to some employees or in certain situations.

If you want to get down to raw dollar figures and your company is offering both a standard health plan and a HDHP+HSA, the calculation will be dependent on the premiums and benefits of each and your projected costs of your health care (which is always a crystal ball estimation anyway). Those costs and benefits can vary wildly, from a completely obvious choice on either the HDHP or standard plan, or pretty much a wash where you decide based on your comfort level with a high deductible.

To illustrate...

• Standard plan: Your company might offer a standard plan that costs you $100 out of pocket for an individual. That means you pay a minimum of $1200 a year for health care. Most plans will have copays (a flat amount like $15 you pay for standard doctor consultations), a deductible (you pay 100% of fees up to this, co-pays don't count), a percentage you pay beyond the deductible (20% is typical), and a maximum (like $1000 per individual per year - beyond this, up to a "lifetime" maximum benefit of like $2 million, you won't be charged anything).

  In a standard plan where you have no expenses, you might pay $1200 a year plus a couple co-pays, for a total of $1230. In a bad year with surgery, you might max out, so $1200 + $30 + $1000 = $2230.

• HDHP/HSA: These plans are very different. You might still pay a premium, I.E. $30 a month. They will still have a deductible and maximum, but they might be the same amount. You will probably not have copays (I didn't when I had one, but I could be wrong), which means a standard doctor visit will cost more like $80-100.

  In a good year, this will mean that you pocket $500 from your company, but pay back $360 in premiums. A couple doctor visits would mean there's only $300 left in your account at the end of the year. But, that's still a net cost of only $60, compared to $1230. Big win!

  In a bad year, you would end up out of pocket the max (say $2000) plus premiums, minus the $500, for a total of $1860. In this case, still better than the standard plan.

The important difference will come in an in-between year. You will reach the max quicker on an HDHP than you will on a standard plan. With a family, where all of these numbers are higher, and you have more people to be getting sick/injured this might make the standard plan a better benefit.

However, since whatever you build up in an HSA account stays with you forever, while you're single and have only your own health to be concerned about, that is probably a good choice. When you have a family, things might change and you switch to a standard plan, but you still have that war-chest to offset copays and hospital visits in future years.

I was forced onto an HSA for 2 years with a smaller company. They had a really good contribution, $2500 if I remember right, and we saved up big time. Later, when my wife was pregnant, we were on a low-deductible standard plan and paid all our fees out of the HSA. It worked out great.

I say, as long as the averaged yearly expected costs make sense after doing calculations illustrated above, go for it!