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May 03, 2012 at 12:09 PM
Is your client looking to reduce taxable income while potentially creating a substantial nest egg to pay for health care costs during retirement? In today’s uncertain tax environment, health savings accounts (HSAs) can be as important as an actual retirement account to your client’s financial security and even more beneficial from a tax perspective. Unlike a retirement account, HSAs allow your clients to set aside tax-deductible dollars today to provide funds for health-related expenses, and even simple cash flow, during retirement without increasing their future taxable income.
The Basics: How HSAs Work
HSAs are tax-deferred investment accounts earmarked specifically for health-related costs. Anyone with a qualified high-deductible health insurance plan is eligible to establish an account, and anyone can pay into the account once established (including employers and other family members).
Funds from HSAs must be used to pay for qualified medical expenses not covered by the holder’s health insurance plan, but the range of qualified expenses is very broad and includes commonly excluded dental and vision expenses and alternative treatments, such as chiropractic care and acupuncture. Your clients can use HSAs to pay for everything from household medical supplies, such as aspirin and bandages, to the costs of long-term care insurance.
Importantly, unlike other flexible spending accounts, the funds deposited into HSAs do not expire at the end of each year, generating a tremendous potential for growth.
Double Tax Benefits
After the account is established, the client (or the client’s employer) can deposit pre-tax dollars into it, reducing taxable income. Any employer contributions to an HSA are tax deductible.
Once the funds are in the account, they grow tax-deferred in the same way as a traditional retirement account, such as a 401(k) or IRA. Unlike the traditional retirement plan, however, funds are not taxed when they are withdrawn to pay for qualified medical expenses.
As noted, HSA funds are rolled over from year to year, allowing your clients to accumulate a substantial amount. Because the principal and interest in the account grow tax-free, this presents an opportunity for younger taxpayers to create a significant nest egg for future health expenses.
