Update: The content of the original post was updated on May 8, 2017 to reflect the 2018 HSA contribution limits set by the IRS.
There is a saying:
- In your 20s, you don’t know…but you don’t know that you don’t know.
- In your 30s, you don’t know…but you know that you don’t know, so you keep a low profile, seek out mentors and start to really learn.
- In your 40s, you know…but you don’t know that you know, so you cautiously begin to post victories.
- In your 50s, you know…AND YOU KNOW THAT YOU KNOW.
This idiom holds true in so many aspects of one’s life: relationships, careers, finances, etc. (For instance, when it comes to investing and health care savings, I’m hoping that by the time I’m 50 I’ll know my investments are in the right places and I’m prepared for retirement).
When you are in your 20s, you are invincible, you have your first job, you want shiny new things, and you are taking advice from your parents on finances and benefits. You may put money away in your 401k but your main priority is paying off the student loan and possibly credit debt, managing your car payment, and hopefully saving for rent or a down payment on a home.
When you are in your 30s, you are more established, you are near paying off your student loans, and your finances start to open up. But then, you may also be expanding your family, buying a home, getting a new car, bringing you back to square one. You need to make every dollar count, but hopefully by this point you have started to focus more on your retirement investments.
In your 40s, you wake up and realize you are halfway to retirement and start to worry “have I saved enough?” You need to pay down outstanding deb and save as much as you can for retirement, and if lucky enough to do so, invest what you can into your children’s future.
By 50, you have a better gauge as to your financial health and wealth, and see a clearer path to retirement… the question then is “are your investments in the right bucket to cover your expenses?” You can’t set back the clock; all you can do is hope you set aside as much as you could in your 20s, 30s, and 40s.
My dad’s advice for me right out of college was to set aside 10% of my pre-tax income a year into my 401K, and I could potentially retire with a million+ dollars invested. Of course, it took me nearly two years to follow his advice, as I had to pay off my car and work to pay down my student loans, but eventually I got there.
In my 30s, my dad’s advice had changed a bit, and it was no longer about sole 401k investment, but also this new pre-tax investment strategy called an HSA, or Health Savings Account.
He was showing me through his own example how he was investing in an HSA, with employer contributions — just like his 401K plan — and it would carry over year after year to cover his current and future health care expenses.
This foresighted investment strategy that became available to him in 2003 allowed him to not only preplan, but ultimately retire at the age 60 (well as retired as he is going to get), and then later have the funds available to cover the High Deductible Health Plan expenses he was facing due to medical treatments.
He adopted early on the “Health Care Stack” mentality, and it benefited him greatly.
Leveraging the Health Care Stack
So what is the Health Care Stack exactly?
The Health Care Stack is all about understanding the near- and long-term financial benefits and savings one can achieve by leveraging certain tax-advantage savings accounts made available by the IRS.
It is not groundbreaking news that you can invest $18,500 per year in your 401K or 403B plans, nor is it news that you can have a $5,000 increase on those investment amounts if you are 50 or older. But what are not as highly publicized are the other tax-savings accounts one could leverage to save even more.
Let’s walk through one common scenario for a working class family with child care expenses.
With the Health Care Stack in place, one family worker could set aside $18,000 per year for retirement. On top of that, they could place $6,900 into a Health Savings Account plan that can be carried over to following years to use in retirement (or sooner, in the case of the HSA).
This would equal $24,900 a year that a worker could set aside, pre-tax, to put towards retirement—nearly $25,000 less income that they would have to pay taxes on in a given year (not even taking into consideration this worker’s spouse setting aside $18,000 a year into a retirement plan).
They could save $330,000 for health care expenses by retirement if you assume they begin investing at the max by the age 35 with a 3% rate of return—enough to cover medical expenses during retirement. This would free up their 401K retirement investments to cover additional lifestyle expenses, like that cruise to the Bahamas.
Now, let’s say this worker also maximizes a Limited Purpose Flexible Spending Account (FSA) to cover dental and vision ($2,600), as well as child care under a dependent care savings account ($5,000), and commuter savings ($6,120).
With these tax savings programs, one tax payer has the potential to realize $45,170 in pre-tax contributions for their family and future.
What I hope to know by the time I reach 50 is that I know I know, and will be set up for success in retirement to enjoy life, my children, and grandchildren, and not worry about medical expenses and how to pay my bills.
Planning is bringing the future into the present so that you can do something about it now- Alan Lakein
It is all about awareness and proper planning.