Once just a vehicle for immediate health care costs, health savings accounts, or HSAs, have transformed into a potent financial tool. Many investors are leveraging their HSA's triple-tax benefits for long-term health and retirement planning.
Nearly two decades ago, President George W. Bush signed into law the Medicare Prescription Drug, Improvement, and Modernization Act, a law that created HSAs.
Back then, the Bush administration said the HSA was designed to provide a tax-advantaged way for individuals to save and pay for current health care costs as well as those in retirement.
Today, we know that "saving and investing in an HSA can play a critical role in addressing both current and long-term medical expenses," said Karen Volo, head of health and benefit accounts at Fidelity.
The long-term benefits of investing HSA funds include major tax breaks and growth opportunities. That's why Investor's Business Daily continues its annual special report on the Best HSAs. In this report, 12 HSA providers made our 2024 list by combining investment options and low fees.
How Invested HSAs Pay Off In The Long Run
Addressing long-term medical expenses is exactly how David Haas and others plan to use the funds in their HSA.
Haas, who is a certified financial planner with Cereus Financial, is among those HSA owners who understand the critical role HSAs play in addressing long-term expenses.
Before he became a financial planner, Hass started contributing to an HSA in 2012 when he was a software engineer. His goal was to use the money in the account to pay for health care expenses in retirement. "I probably switched to using an HSA (at the time) because when I evaluated the available health plans, the high deductible plan made the most sense," he said.
Once he left his employer in 2013, he rolled his HSA over to a fund company that did not charge any fees. He has continued to contribute the maximum to his HSA yearly since then.
Today, Haas has accumulated $83,000 in his HSA. He's never taken a distribution from that account. "From the very beginning, I knew I wanted to accumulate in the HSA and use it later in retirement," he said.
Read our full report on the best HSAs for 2024 and how HSAs can help young investors create a healthier, wealthier retirement
Others are taking the same approach as Haas.
Kevin, who asked that his last name not be used to protect his privacy, started contributing to an HSA in January 2011. He maxed out his contributions each year. By his retirement as a software company chief investment officer in 2023, his HSA balance had grown to $103,000.
How HSAs Began And Who Qualifies
HSAs came out in 2004. They are, and always have been, only available to individuals enrolled in qualifying high-deductible health plans, or HDHPs. Those are plans where monthly premiums are usually lower than with traditional health insurance plans, but the deductible, which is the amount one pays out-of-pocket before insurance coverage kicks in, is much higher.
To be fair, in 2004, HDHPs and HSAs were still relatively new. At the time, only about 4% to 6% of firms offering health benefits provided qualifying health plans. But HDHP offerings have increased steadily. By 2009, around 12% of firms offered a HDHP/Health Reimbursement Agreement or HSA-qualified HDHP.
However, HDHPs have gone from a niche offering to a mainstream plan type. In 2022, about 28% of firms offering health benefits provided a HDHP/HRA or HSA-qualified HDHP. Enrollment also has grown significantly. Last year, 28% of covered workers were enrolled in a qualified plan.
According to Devenir, a provider of HSA research, there were nearly 36 million HSAs holding $116 billion in assets as of mid-2023.
Investing the money in your HSA does have big benefits. Devenir data shows that in 2022, HSAs with investments had an average total balance of $16,397. That's 6.7 times higher than accounts with no investments.
Investment Options Grow
Back in 2004, a typical HSA had no investment options, just a savings or checking account. And not surprisingly, most HSA account owners used the money in their accounts to pay for current medical expenses.
But the number of HSA investment options has grown considerably. Now, the average HSA investment menu provides many fund choices covering a range of asset classes and strategies, according to Devenir.
A growing number of HSA account owners are now investing in low-cost mutual funds, target date funds, index funds, money market funds and self-directed brokerage accounts, according to Devenir's research.
But most HSA owners still aren't taking advantage of the investment and tax opportunities. As of 2021, 88% of HSA owners held their full balance in cash. A majority seem to use their HSAs to pay for current expenses, according to the Employee Benefit Research Institute (EBRI).
Yet average balances in HSAs have risen, despite increased health care spending related to Covid. The average balance rose from $3,622 in 2020 to $4,318 in 2021, according to EBRI. And, encouragingly, the share of account holders who invest the money in their HSAs also has risen. About 12% of HSA account holders were investing some of their funds as of 2020-2021. That's up from 4% in 2015, according to EBRI.
And in recent research, Bank of America highlighted key differences in HSA investment behaviors. Boomers invest their HSAs more frequently than other generations (15% compared to 12%), and men invest more than women (18% vs. 11%).
The Triple-Tax Advantage Of HSAs
HSAs offer a triple-tax advantage. Account holders are able to stretch money earmarked for health care expenses further than they otherwise could, according to EBRI.
- First, your own HSA contributions are tax-deductible or pretax, if made by payroll deduction
- Second, the money in the account grows tax-free, and
- Third, withdrawals for qualified medical expenses are tax-free
According to EBRI, "the tax benefits of HSAs are maximized when account holders contribute the statutory maximum and minimize withdrawals for current medical expenditures — if they are able — and invest their HSA balances in assets other than cash."
This year, the IRS allows individuals to contribute up to $3,850 to an HSA, and $7,750 for families. Individuals over age 55 can contribute an additional $1,000. These numbers include what your employer contributes.
For 2024 the HSA contribution limits are $4,150 for self-only coverage and $8,300 for family coverage. Those 55 and older can contribute an additional $1,000 as a catch-up contribution.
Most Americans Don't Understand The Value of HSAs
Despite HSAs being available for nearly 20 years, recent research from Voya reveals that many working Americans still don't fully understand their value. According to Voya's paper, Amplify the power of HSAs to boost health care savings — now and in retirement:
- Only 55% of working Americans know HSAs can be used to pay for health care expenses in retirement.
- Just 27% of working Americans know HSAs can be used as an investment vehicle.
- About 35% of working Americans know a primary reason to put money into an HSA is to invest money to have for health care expenses in retirement.
Is It Worth Investing With An HSA Account?
Can an HSA actually grow large enough to even justify having an investment strategy? The answer is yes, according to Keith Whitcomb, a financial consultant.
In 2017, for instance, HealthEquity's top HSA account holders had more than $200,000 in accumulated assets in their HSAs. "So, yes, an HSA can be a significant part of your retirement funding strategy," Whitcomb said.
Fidelity, EBRI and others have calculated the amount of money a 65-year-old couple would need to fund health care expenses in retirement. According to Fidelity, a single person age 65 in 2023 may need approximately $157,500 saved (after tax). An average retired couple age 65 in 2023 may need approximately $315,000 saved.
Is it even possible to save that much in an HSA? Yes, indeed. An individual contributing the maximum possible each year to an HSA account earning 8% per year over a 42-year period would have $1.2 million saved.
How To Invest Money In HSAs
If you plan on using the money in your HSA for current qualified medical expenses, then consider this:
To reduce the current cost of health care, those with HSA compatible health insurance should consider running all their current qualified medical expenses through an HSA. That would be like a checking account for health care, even if their ability to save for the long-term is limited, said James Ivie, vice president of HealthEquity Investment Trust.
"This is because every dollar contributed to an HSA, even if only for a short time, typically generates a corresponding deduction from federal and most state income and payroll taxes, effectively discounting medical bills by one's marginal tax rate. This can be anywhere from 20% to more than 40%. Facilitating this process requires keeping at least some HSA assets in cash," Ivie said.
Others agree. "If you think you'll need the money in the next couple years, don't invest it," said Ed Snyder, a certified financial planner with Oak Tree Advisors. "You still get the tax benefit of the HSA when paying your health care expenses."
In his practice, Dennis Hunt, a certified financial planner with Moisand Fitzgerald Tamayo, says a good strategy with HSA investing is to keep whatever the annual maximum out-of-pocket cost associated with their health plan is in cash within the HSA and aggressively invest the remainder for future growth. "I might change that with someone who regularly meets their maximum out-of-pocket," he said. "In this case, I would invest the remainder less aggressively, so as to lessen the risk of having to fill up their cash bucket in a down market."
Investing For Medical Expenses In Retirement
If you plan on building a nest egg for qualified medical expenses in retirement, you will have to think differently about how you pay for current medical expenses. Instead of using the money in your HSA to pay for current medical expenses, experts suggest using other funds if able.
"HSAs represent a uniquely flexible opportunity to prepare for various health care costs," wrote Clifford Felton and Boris Wong, the authors of Stretch your financial muscles: The unique flexibility of HSAs, a paper published recently by Vanguard. "For those who maximize their contributions to tax-favored accounts and also save in taxable accounts, one potential strategy to consider is treating the HSA as a retirement savings vehicle and paying for any out-of-pocket health care costs with taxable funds."
If you use this strategy, do save your qualified medical expense receipts. You'll be able to use the HSA to pay for those expenses later, after the money in your account has grown. Generally, qualified expenses include doctor visits, medications, medical equipment, and dental and vision care for you, your spouse and any dependents.
Viewing Your HSA As A Retirement Account
If you treat your HSA as a retirement account, experts recommend evaluating your time horizon, risk tolerance and investment objectives, as you would with any other investment account. "As with any asset allocation decision, it's important to consider the time horizon — when you'll need the money — as well as your risk tolerance — how much volatility you are comfortable with — when choosing investments in your HSA," said Volo.
Plus, "your investment strategy should ultimately align with your objectives," said Maria Bruno, a certified financial planner and the head of U.S. wealth planning research at Vanguard.
In general, many experts suggest investing the money in your HSA into buckets: a short-, intermediate- and long-term bucket.
Investing For Short-Term Horizons
If you plan to use the money in your HSA to pay for qualified medical expenses within the next two to five years, it's best to invest it in low-risk, liquid assets such as high-yield savings accounts, money market funds or CDs. You might also want to invest a small percentage of the money in your HSA in the short-term bucket just in case you need money for qualified health care expenses that can't be funded with other sources.
According to Bruno, one of the authors of the paper published by Vanguard suggested this approach: Split the account between cash and investing, by keeping cash to cover the deductible, or even out-of-pocket maximums, and then invest anything above this amount to serve multiple goals at the same time.
"As far as short-term expectations, yes, it's best to keep the investments liquid and earn approximately 5% in today's environment at the same time," said Andrew Herzog, a certified financial planner with The Watchman Group. "The only con is opportunity cost if the funds were never withdrawn and higher returns are missed out on."
Investing for Intermediate-Term Horizons
If you plan to use your HSA money within the next five to 10 years, you can afford to take on a bit more risk with your investments by investing in short-term bond funds; dividend-paying stocks; and target-date funds.
"If you don't think you'll use the money for several years, I'd invest it in a diversified portfolio of stock funds," said Snyder. "Don't put all your eggs in one basket. Let the money work for you for your future health care expenses."
Snyder noted at least one potential drawback to investing in short-term bond funds. The net asset value of the fund can go down. "Most people are using them for their perceived 'safety' but they are not exempt from going negative," he said.
Snyder's advice: "I'd stick with a money market (fund) instead."
Others, meanwhile, say what investments work best for intermediate time horizons is up for debate. "It comes down to risk tolerance and what someone is willing to do," said Herzog. "Short-term bond funds could work in a rising interest rate market. But longer duration bonds would do better in a dropping interest rate world. What is Powell going to do? Who knows. Perhaps the same money markets could work for someone who is risk-averse and willing to bet we stay 'higher for longer' on interest rates. On the other hand, someone could treat it aggressively. Say, anything over 5-plus years should be equities and index funds."
As for target-date funds, Snyder said these funds are good for the do-it-yourselfer. However, if someone is working with a financial advisor, he'd rather see more customization. That might include real estate investment trusts.
Investing For A Long-Term Horizon
If you have a long-term time horizon (more than 10 years), you can afford to take on the most risk. That can include investing in growth stocks, index funds or REITs.
"The HSA can be the greatest investment vehicle," said Vida Jatulis, a certified financial planner with MainStreet Planning. "If you can take a long-term approach and invest your HSA with a long-term investment horizon, do it."
"I would go aggressive with low-cost diversified stock funds," said Catherine Valega, a certified financial planner with Green Bee Advisory. "That would allow for maximum growth given you have the time horizon for that."
Ivie says even HSA owners nearing or reaching retirement age should still consider investing for the long-term. After all, HSA owners could spend 30-plus years in retirement.
"The average investor would therefore do well to consider maintaining the bulk of their HSA assets in passively managed indexes, with perhaps a heavier weighting to risk, for example, equities over fixed income, than their overall portfolio," he said.
Others favor this approach as well. Said Herzog: "Personally, I treat my HSA as a retirement fund, therefore I invest aggressively." Herzog noted that he has emergency funds set aside for anything, including health care. "So hopefully I never withdraw from the HSA until I'm in retirement and give it decades to grow uninterrupted."
The long-term horizon needs to be aggressive on riskier assets that have a higher likelihood of appreciating over decades, said Herzog. "The only con here could be poor market timing where there's a crash and someone really needs those funds that are suddenly worth less," he said.
How And Why Retirement Savers Really Invest Their HSAs
Kevin, the retired software company chief investment officer, invests 100% of his HSA in equities because of his longtime horizon. "We want to maximize the long-term tax-advantaged growth of the HSA," he said.
Kevin plans to let his HSA grow for the future and is currently paying for all of his medical expenses with other resources. He has fully invested his HSA funds in a Vanguard total stock market index fund. "We plan to let it grow for several more decades and use the money deep into retirement after other funds start running low," Kevin said. "Medical expenses, Medicare premiums, and long-term care expenses are all options."
As for Haas, 50% of his HSA is invested in a large-cap growth fund and 50% in an international stock fund. Haas says he chose that strategy because he knew he didn't need the money right away. And, his own risk tolerance is quite high. "I have other funds that I could use for my medical expenses, so it made sense for me to invest aggressively," he said.
When and how might Haas use the funds in his HSA? "I do not plan to stop working any time soon. So, even when I go on Medicare, the only reason I might take distributions is because this is not a good fund to leave my children," he said. "But since I am self-employed, I can still deduct Medicare premiums against my income. That makes more sense than using the HSA. So, I will probably wait until I stop working before using the HSA unless I have significant out-of-pocket dental or vision expenses. My dad and grandfather both worked into their mid-90s, so who knows?"
How To Sequence Your Savings With HSAs
Prioritizing how much to save and the right account type are key, according to Vanguard. For investors facing budgeting constraints, determining where to put the next dollar can prove difficult. But according to a Vanguard research paper, "Stretch your financial muscles: The unique flexibility of HSAs," investors should:
- First, contribute to an employer plan (enough to get matching contributions).
- Then contribute to an HSA.
- From there, turn to tax-advantaged savings accounts (traditional/Roth IRAs and 529s).
- And finally, turn to taxable accounts.
According to Vanguard, HSAs are second because they offer nearly unrivaled tax benefits and much more flexibility. The superior tax advantages can translate into greater growth in spending power. The longer the time horizon, the larger the potential advantage. For instance, the paper found that the median wealth for investors at age 65 could increase by $91,000, depending on the strategy.
Other experts, however, suggest first maximizing contributions to HSAs, especially when employers match them. After that, contribute enough to employer-sponsored retirement plans to get their matching funds. This approach leverages the HSA's triple tax benefit compared to the 401(k)'s double tax benefit.
