Some retirees may think that having both HSA and Medicare sounds like a great idea, but there are repercussions that may actually do more harm than good. Learn everything you need to know about these two plans in this article.
In this article:
- What Is a Health Savings Account (HSA)?
- What Are the Rules on HSA Eligibility and Contributions?
- What Is Medicare?
- What Are the Rules for Medicare Contributions?
- What Happens If I’m Enrolled in Medicare and Also Contribute to My HSA Funds?
- How Can a Retiree Handle Medicare and HSA upon Retirement?
HSA and Medicare: How to Avoid Costly Mistakes and Minimize Your Medical Expenses
What Is a Health Savings Account (HSA)?
A Health Savings Account, also known as HSA, protects individuals who may suddenly need to pay big medical deductibles due to medical expenses. The wonderful thing about a Health Savings Account lies with the tax advantages it brings.
But first, let’s talk about the relationship between an HSA and a High-Deductible Health Plan (HDHP).
An HSA functions like any savings account, but the money here can be used only for qualified medical expenses.
Account owners may use the money any time for medical expenses, but to be able to contribute, or add money into the account, they must have a High-Deductible Health Plan (HPDP), which is a health plan that can cover preventive services before the deductible.
What is a deductible? This refers to the amount an account owner must pay before their insurance kicks in and starts paying.
Here are the minimum deductibles for 2019 and 2020:
- Individual: $1,350 (2019), $1,400 (2020)
- Family: $2,700 (2019), $2,800 (2020)
HDHP coverage typically has high deductibles, which means lower insurance premiums.
An HSA account also provides much needed quick cash due to a health insurance policy with a high deductible. Since insurance premiums are inversely proportional to deductibles, quite a number of policyholders choose to have big deductibles.
By adding HSA contributions, the account owner can add funds inside a savings account that grows tax-free. The savings won’t be taxed as they grow, which means your income tax levels remain the same.
Think of an HSA like an IRA, only for medical expenses.
A Health Savings Account can help you protect your growing retirement nest egg. Medical expenses can eat a big slice of your retirement pie, so protecting your income plays a vital role.
What Are the Rules on HSA Eligibility and Contributions?
Here are the eligibility requirements for an HSA:
- An HDHP since an HSA can’t exist without the HDHP
- Generally, no other health insurance or coverage
- Most importantly, the applicant shouldn’t be enrolled in Medicare.
HSA Contribution Rules
The HSA can accept funds from both the employer or employee. However, like an IRA, there are HSA contribution limits.
- Contribution Limits for Individuals — For 2019, individuals can add up to a maximum of $3,500 and $3,550 for 2020 in their HSA account. However, eligible individuals who are at least 55 years old at the end of the tax year can contribute up to an additional of $1,000, increasing their limit to $4,400 for 2019 and $4,450 for 2020.
- Contribution Limits for Families — For a family, the contribution limit in 2019 is $7,000. In 2020, it increases to $7,100.
Contributing more than what the law allows can lead to:
- 6% excise tax
- Non-application of the tax-deferred benefits of the contribution.
Remember, the HSA contribution is pre-tax, meaning your income bracket may decrease as contributions are deductible.
However, pre-tax contribution means the application of your tax bracket only happens upon withdrawal of funds. This can have an effect on your finances, especially if you have a higher tax bracket upon retirement.
The HSA can invest in stocks, mutual funds, and bonds. Since your HSA contributions appear above the line of your IRS tax filing report, you essentially have lower taxes since they’re considered tax-deductible.
What Is Medicare?
Remember your FICA taxes and how they take a nibble out of your paycheck? Those small bites actually help you prepare for retirement because they go towards two essential programs: Social Security and Medicare.
Both Social Security and Medicare refer to income during retirement. However, these two programs also help people suffering from disabilities even before retirement, as long as they’re eligible for Medicare.
We have to talk about Medicare and how it affects your retirement. Mainly, the parts of Medicare and the process.
First off, Medicare has four parts, covering four different areas of medical expenses:
- Medicare Part A, also known as Hospital Insurance — This portion pays for hospital stays and, to some extent, hospice, home health care, and any scenario where one has to pay fees for staying over due to eligible medical reasons.
- Part B, also known as Medical Insurance — Part B pays for eligible professional services, medicine and related supplies, some preventive care and services and outpatient care.
- Medicare Part C — This encompasses all Parts bundled in a single policy. Usually, private companies sell these policies rather than Medicare itself.
- Part D — This part covers prescription drugs. However, like Part C, private insurance companies offer Part D as a bundle to other policies.
For retirement, most insured use Part A and B. Also, like all Medicare programs, deductibles still apply.
Having both an HSA and being enrolled in Medicare can help with paying for medical emergencies.
Important: Note that while you can pay using your HSA funds, you have to stop contributing to it once you’ve signed up for Medicare and Social Security benefits. During this time, you can use your HSA funds until they run out, but you’re no longer allowed to add to it.
What Are the Rules for Medicare Contributions?
Medicare contributions come directly from your FICA taxes.
- For employees — The employer will give their part of the contribution, and is also responsible for withholding and submitting the employee’s part.
- For self-employed individuals — Individuals pay both parts (employer’s and employee’s contribution). However, the IRS considers the employer’s part as a FICA contribution, which is a valid tax-deductible expense.
Just a heads up; you can choose to get your Medicare income later. Specifically, for Part A and B, there are no penalties for late enrollment, but there is for Part D.
The age in which an account owner should stop HSA contributions and enroll in Part D depends on state and federal laws, wherein some states put 68 as the latest age and others at 65.
The Part D penalty is around 1% per month of late enrollment. This 1% can snowball into a big sum, and the penalty will stay for the rest of the life of the insured.
What Happens If I’m Enrolled in Medicare and Also Contribute to My HSA Funds?
Worst comes to worst, you may get an IRS audit. Other than the lengthy and often costly audit process by the IRS, the IRS may find other penalties, errors, and discrepancies, further adding to your financial woes.
Other than an audit, you are disqualified in reporting your HSA contributions as tax-deductible. This can increase your income tax levels as well as the total taxes you pay.
How Can a Retiree Handle Medicare and HSA upon Retirement?
What a retiree can do is use any HSA funds to pay for Medicare premiums, deductibles, and other miscellaneous fees like copays and coinsurance. Remember, Medicare doesn’t pay the fees immediately, as policies have deductibles and other clauses.
Some retirees prefer to continue working even during retirement.
For those employed in small businesses, usually, but not always, the employer has Medicare first and HSA second. You can enroll in the Medicare parts and ask them to stop contributing to the HSA.
On the other hand, big employers can contribute up to the maximum, and it may be financially effective to simply postpone the Medicare enrollment.
Lastly, for those who are married, your spouse can contribute to the HSA up to the maximum under his or her name.
Remember, contributions to the HSA while under Medicare enrollment can lead to a 6% penalty in excise taxes, as the funds are considered excess contributions.
While retirees may get confused from all these rules, mistakes can be avoided. Before making any decisions, to be on the safe side, research first or ask a financial advisor about other possible scenarios you may have overlooked to avoid any penalties that stem from mistakes or ignorance.
Do you have any questions about the HSA and Medicare? Let us discuss in the comments section below.
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