Make Your HSA an IRA on Steroids

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(Image courtesy of Bedel Financial Consulting Inc.) (Image courtesy of Bedel Financial Consulting Inc.)

What if I told you a Health Savings Account is the most tax efficient and versatile retirement account you own? Believe it or not, with proper planning, an HSA can blow the doors off your 401(k), IRA, or even a Roth IRA!

When we think of Health Savings Accounts (HSAs), we think of a tax-efficient pass-through vehicle that allows us to make tax-deductible contributions followed by tax-free distributions, reimbursing ourselves for qualified medical expenses.  However, one HSA rule often overlooked is the ability for someone to reimburse themselves for medical expenses that were incurred in prior years.  This special rule allows for a unique planning strategy.

Who Qualifies for an HSA?

You can only establish and contribute to an HSA if you are participating in a high deductible health plan (HDHP).  The HDHP will have a lower premium than traditional health insurance policies, but you will be required to pay more out-of-pocket for medical expenses before the insurance company begins to share the cost, i.e. high deductible. 

The 2018 maximum HSA contribution for individual coverage is $3,450; family coverage is $6,900. An additional catch-up contribution of $1,000 can be made if over age 55.

Distributions can be made tax-free for qualified medical expenses, such as the policy deductible and co-pays, as well as dental, vision, or hearing care expenses even if they are not covered by the health insurance.  For more information on qualified medical expenses, review IRS Publication 969. Any distributions for expenses other than qualified medical expenses will be taxable plus a 20% penalty will apply. This rule changes at age 65 when the 20% penalty goes away. 

HSA Retirement Income Strategy

For this strategy to work, you must be able to pay out-of-pocket medical expenses from your cash flow or sources other than your HSA.  Below is an example of the impact of this strategy for Phyllis, a 40-year old with a family HDHP who plans to retire at age 65.

  • For the next 25 years, Phyllis makes tax-deductible contributions of $6,500 to her HSA.
  • She does not request reimbursement from the HSA for her family’s medical expenses, but maintains all receipts.  If we assume that out-of-pocket qualified medical expenses equal $8,000 per year, the 25-year total would be $200,000.
  • Phyllis invests her tax-deductible contributions in her HSA, using a long-term growth strategy.  Let’s assume her HSA experiences an average annual investment return of 8% and, therefore, has an account balance of $475,000 after 25 years.

At age 65, Phyllis retires with $475,000 in her HSA and begins making tax-free withdrawals as reimbursement for $200,000 of medical expenses paid out-of-pocket during the last 25 years.

The remaining $275,000 can be withdrawn penalty-free, but taxable as ordinary income (similar to a distribution from an IRA).  However, starting at age 65, in addition to qualified medical expenses that may be incurred, HSA funds can be used tax and penalty free to pay for health insurance premiums; including Medicare Part B and long-term care coverage.  If we assume a $10,000 per year distribution, the HSA could fund Phyllis’s medical expenses tax-free into her 90s.

Better than an IRA!

Assuming a 25% tax bracket, the ability to withdrawal $475,000 tax-free in retirement could save Phyllis’s family $120,000 in taxes!  If this money was inside a Traditional IRA instead of an HSA, the entire $475,000 would be taxable as ordinary income, assuming all contributions were tax-deductible. Also, there is no Required Minimum Distribution (RMD) starting at age 70 ½ on HSAs as with Traditional IRAs. This allows you to withdraw as little or as much as needed to pay insurance premiums or qualified medical expenses regardless of your age. The longer you can allow the HSA funds to grow tax-free, the greater your benefit. 

No other investment account has tax-deductible contributions, tax-free growth, and tax-free distributions.  If eligible to establish an HSA, all you need to do to make this retirement income strategy work is save and invest through your HSA, pay out-of-pocket for your current medical expenses, and maintain your receipts.


By taking advantage of IRS rules for HSAs and properly planning, you could change your financial future and the choices you have during retirement.  Caution: This strategy works based on current tax laws and provisions, which can change in the future.  Before implementing this strategy, you should consult with a financial planner or tax advisor. 

Evan D. Bedel, CFP, is Director of Strategy and Finance and heads Generation NeXt services for Bedel Financial Consulting, Inc., a wealth management firm located in Indianapolis. For more information, visit the Bedel Financial website at or email Evan.

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