Originally published on PLANSPONSOR.com
Critics have long argued that health savings accounts (HSAs) are designed with the wealthy in mind—those whose incomes allow pre-tax contributions to build up year over year—but the latest research is proving otherwise. HSAs are undeniably being recognized as a tax-advantaged way for the Millennial generation to save for health care costs not only in the moment, but in retirement.
Before discussing the HSA, let’s first understand the audience and its journey. Those that make up the Millennial generation, including the younger population born between the 1990s and the mid-2000s known as Generation Z, are predicted to be working into their 70s, mainly due to financial uncertainties spurred by historically high student loan debt, shrinking median income and the soaring costs of home ownership.
As a result, this largest living generation—having recently overtaken Baby Boomers to earn this distinction, according to U.S. Census data—is inevitably getting by, paycheck to paycheck, and stashing less away in savings. What savings these young workers do accrue is likely kept in cash value, vs. in informed investment opportunities.
But this is not to say that Millennials do not spend beyond practical means; despite financial struggles, Millennials tend to spend on luxuries they come to trust—items they believe in. Having been born into innovation, they find the latest tech gadgets, for example, important to them, as well as items pertinent to their health, such as gym memberships, fitness trackers, and nutritional foods and supplements.
So, if health is indeed worth the extra spend, is health care up there as a trusted necessity? Not exactly.
Numerous studies have indicated that health insurance and medical care do not make the cut as one of Millennials’ top priorities. Specifically, more than one-third of the generation ranks physical health as its absolute top priority, while less than one in 10 consider obtaining affordable health insurance and access to quality health care as their items of highest importance. Also evident is the absence of routine doctor visits for Millennials, counter to generations preceding them who place a high value on customary physicals and the doctor-patient relationship.
Hope … in the form of an HSA
Whether Millennials have a general distrust in modern health care, or apprehension over the cost of high premiums or deductibles, opportunities abound for employers to educate and empower these younger workers when it comes to health benefits and tax-advantaged plan offerings that yield significant cost savings potential—for the here and now, and in preparation for retirement. The time is ripe for the Millennial generation to understand the ins and outs of an HSA, particularly the underutilized savings opportunities that carry sky-high potential for storing away tax-advantaged, interest-bearing funds for the future.
Contributions to an HSA reduce taxable income, and the interest earned on HSA balances and investments is tax free. The result is triple tax savings: Contributions, interest from investments, and ongoing and future qualified distributions can all be tax exempt under normal circumstances.
Because an HSA enables individuals, and families, to set pre-tax dollars aside—along with any employer contributions—the funds help to offset high deductibles. Further, the account is portable, meaning that it belongs to the employee and goes with him wherever he goes, should he change employers. And, unlike a flexible spending account (FSA), there are no “use it or lose” policies at the end of a plan year; funds roll over, year after year.
Drawing many favorable comparisons to the traditional 401(k), the HSA is now widely recognized as a true, tax-advantaged way to save for health care costs in retirement. By future-proofing funds in an HSA, young employees in their 20s could, theoretically, start making careful investments and save enough to meet their retirement needs by age 60 for both lifestyle and health-care expense coverage.
For example, if a 25-year-old employee contributes $3,000 a year to his HSA each year until retirement, uses $1,500 a year for medical expenses, earns 6% a year in interest and investments, and
reinvests all earnings, the value of the HSA could be about $246,000 by the time he turns 65. This estimate does not include potential contributions from the employer—an increasingly popular option, as the money employers save by driving enrollment into lower-cost high-deductible health plans (HDHPs) can be apportioned to help jump-start employees’ HSAs early in the plan year.
Stacking up the savings
Beyond the HSA, other types of accounts can have tax advantages that can really add up if Millennials maximize every benefit opportunity available to them. Realization of such savings is all about understanding the near- and long-term financial benefits of tax-advantaged accounts, and how they stack up and complement each other on an annual basis. ConnectYourCare recently shed light on these scenarios when it conducted a modeled analysis called the Health Care Stack, which illustrates the pre-tax dollars consumers can contribute for both health and lifestyle expenses, ahead of retirement.
The pre-tax savings are vast when notional accounts are factored into the equation. With approved Internal Revenue Service (IRS) limits of a $2,600 per year maximum for FSAs, $5,000 per year maximum for dependent care FSAs, and $6,120 per year maximum for commuter/parking reimbursement plans, this currently equals $38,470 of pre-tax contributions that younger consumers could save by offsetting the tax burden and then invest toward retirement.
The road to retirement, paved with pre-tax savings
While a one-size-fits-all savings strategy has ceased to exist, it is fundamentally important for Millennials to gain awareness of their options and subsequently understand how the HSA and other pre-tax accounts play an important role in shaping future retirement planning. It’s never too early to plan out a retirement savings strategy. And, as earnings increase over time, so can contribution levels and investments, creating a financial cushion to cover individual and family medical expenses—and to enjoy life comfortably.