High-deductible health plans have a sneaky way of beating up your wallet. Spending less on monthly premiums feels good until your next trip to the doctor. That’s when you are surprised by a bigger copayment or a giant bill weeks later. There are ways to lighten your burden at tax time, but only if you plan in advance.
Three ways to save with a health savings account
Optimizing your health savings account (HSA) is all about being proactive. The first step is deciding how much you want to save from each paycheck. The limit is different from year-to-year, but contributing always lowers your taxable income. Once the money is in your HSA, you can grow the balance through investing, and there is no tax on your earnings. When you’re ready to spent it, you can withdraw the money anytime for qualified expenses. Getting pummeled by out-of-pocket health expenses is no fun. Your HSA will lessen the burden when you file your taxes.
Which medical expenses are qualified?
You may feel tempted to “get creative” once you realize how much an HSA can actually save you. This may be a costly mistake. The IRS won’t give you the green light on every single expense. They have a long list of exactly what’s allowed. Ambulance rides, eye exams, and service animals make the cut. They’re also clear about what isn’t allowed. Cosmetic surgery, childcare, and gym memberships are a few of the things that may be flagged.
Why does this matter? Well, if you use HSA money to pay for an unqualified expense, it will cost you income tax plus an extra 20 percent penalty. Mistakes like these add up fast and may erase that tax savings you have planned on.
Which is better: using your HSA or the medical expense deduction?
When it’s time to file your taxes, owing less is usually a good thing. Before you get to that point, though, there are decisions to make. If you have spent a lot on healthcare, the IRS does offer some relief. Here’s how two of your savings options stack up.
Option #1 – Deduct medical expense on your tax return
Medical expenses — especially when you pay for them out-of-pocket — can chip away at your savings. To ease the sting, the IRS allows you to deduct some of them. The problem is, you can only collect if you itemize deductions. Recent tax law changes increased the standard deduction. This means it’s a lot less likely you’ll choose to itemize. Even when itemizing makes sense, there is a cap on how much you can deduct.
Option #2 – Pay with your health savings account
One of the perks of using your HSA is flexibility. If you’ve been diligently funding it, there are a couple of ways to pay for health expenses. Because your money rolls over every year, it’s possible to build a sizable balance. When it’s time to pay for an expense, you will already have saved on taxes in three different ways.
If you choose to reimburse yourself the good news is there are no deadlines. If you decide to wait, there are a few ways to avoid trouble. First, you need to save every single receipt — no exceptions. Also, you can’t reimburse yourself for an expense that happened before you opened an HSA. Even with these restrictions, your HSA gives you plenty of options.
While both of these choices may save money, it’s not easy to crunch the numbers on your own. Speaking with a tax professional can help you narrow down to the best option. Don’t try to do both. That’s double-dipping in the eyes of the IRS.
Looking for good news at tax time? Leverage your health savings account
As high-deductible health plans become more popular, the string of bills may feel unavoidable. One way to save is by keeping track of your qualified medical expenses. Reimbursing yourself through your HSA may save you a lot more than you expect.
Disclaimer: the content presented in this article are for informational purposes only, and is not, and must not be considered tax, investment, legal, accounting or financial planning advice, nor a recommendation as to a specific course of action. Investors should consult all available information, including fund prospectuses, and consult with appropriate tax, investment, accounting, legal, and accounting professionals, as appropriate, before making any investment or utilizing any financial planning strategy.