Common Misconceptions About Using Your HSA During Retirement
By Jodie Norquist, CIP, CHSP
Health savings accounts (HSAs) will celebrate 20 years in 2024, and these tax-advantaged accounts are more popular than ever for families and individuals who want to save money for their healthcare expenses. According to a September 2024 Devenir report, nearly 36 million people held $116 billion in HSA assets as of June 30, 2023.
But even after 20 years, there are some common misconceptions about HSAs that prevail, despite their growing popularity. While many HSA owners use their HSAs for current qualified medical expenses, they can also save their HSA assets for use during retirement.
When you’re fielding questions from HSA owners, it’s important to remember these common misconceptions—and the facts behind them.
When You Turn 65, You Need to Close Your HSA
Not true. Our ERISA consultants have clarified this common misconception on our consulting lines many times. There is no age restriction for HSA contribution eligibility. HSA owners, however, are no longer eligible to make HSA contributions beginning in the month that they enroll in Medicare (such as Part A, B, or D).
While many individuals are automatically enrolled in Medicare when they turn age 65, others will have to enroll during either an initial enrollment period, a special enrollment period, or during a general enrollment period. Individuals who are already receiving Social Security will be automatically enrolled in Medicare when they turn age 65. The automatic enrollment is effective on the first day of the month that they turn 65, unless they are born on the first day of the month, and then their enrollment will be effective for the first day of the previous month.
Individuals can take advantage of an eight-month special enrollment period if they are
still working at age 65 (or has a spouse who is still working),
not receiving Social Security, and
covered under a qualifying employer health plan.
These individuals can continue coverage and contribute to an HSA without being subject to any late Medicare enrollment penalties. They will generally have to enroll in Medicare within eight months following the month in which they retire or when their employer health plan coverage ends. Under these circumstances, Medicare Part A coverage will apply retroactively by six months, which makes them ineligible to make HSA contributions starting with those months.
But remember, even if HSA owners are ineligible to make HSA contributions, they can keep their HSAs open and use their existing assets to pay for their qualified medical expenses (and for expenses incurred by their spouse or their dependents).
HSA Assets Can be Used only for Qualified Medical Expenses
Not true. When individuals use their HSA to pay for qualified medical expenses, their distributions are tax- and penalty free. This is one of the many benefits of HSAs. But individuals can also take a nonqualified distribution from their HSA. HSA owners must include nonqualified HSA distributions in their taxable income for the year, and possibly pay a 20 percent penalty tax. The 20 percent penalty tax does not apply, however, if the HSA owner is age 65 or older, disabled, or if the distribution is paid to a nonspouse beneficiary after the HSA owner’s death. This is why some retirees use their HSAs to pay for nonmedical expenses. (This taxable-but-penalty-free treatment is the same as the tax treatment of a post-age 59½ Traditional IRA distribution.)
HSAs Can’t Be Used to Pay for Medicare Premiums
This is usually not true. Even though medical insurance premiums are partially deductible, the IRS specified in Notice 2004-02 that only certain premiums are qualified medical expenses for HSA purposes.
The following types of premiums are considered qualified medical expenses.
Qualified long-term care insurance
COBRA health care continuation coverage
Health care coverage while an individual is receiving unemployment compensation
Medicare Part A, B, D, and HMO premiums for individuals age 65 and older
The employee share of premiums for employer-sponsored health insurance (including retiree insurance) for individuals over 65
Individuals cannot use HSA distributions to pay for Medigap insurance premiums. If your clients have questions about their HSAs, you can refer them to IRS Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans, found on the IRS website or to a competent tax advisor.
