Laura answers a question about costly HSA mistakes you should know and avoid.
Laura answers a question about costly HSA mistakes you should know and avoid.
Find a transcript here.
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Welcome back to Finance Friday, another special edition of Money Girl, where I answer your burning money questions! Today’s topic comes from a good friend, who I’ll keep anonymous, who says:
“I’ve had an HSA for years and recently realized that my balance was earning a little interest, but that it should have been invested all this time and earning more. Are there any other common HSA mistakes that I should know and avoid?”
My friend’s question is an excellent reminder that to utilize tax-advantaged accounts, such as a health savings account (HSA), to their fullest potential, there’s a lot to know. This post will review seven costly HSA mistakes to avoid.
Welcome back to episode 955 of Money Girl–I appreciate you downloading the show! I'm Laura Adams, an award-winning author, on-camera spokesperson, female money speaker, and founder of The Money Stack, a Substack newsletter.
You can learn more, ask questions, and sign up for the Money Stack at LauraDAdams.com. Newsletter subscribers automatically receive my Money Success Toolkit with the exact templates I use to manage money.
What is a health savings account (HSA)?
An HSA is a medical savings account that allows owners to make withdrawals for qualified healthcare expenses for themselves, their spouses, and dependents. But you can only contribute to an HSA if you’re enrolled in a high-deductible, HSA-qualified health plan.
You can purchase HSA-qualified health insurance through your employer or independently, such as through Healthcare.gov, a state insurance marketplace, or a private insurance broker.
Contributions to an HSA are tax-deductible, reducing your tax liability in the current year. The account balance grows tax-deferred, allowing you to skip taxes on interest, dividends, and capital gains. Finally, HSA withdrawals for eligible healthcare expenses are entirely tax-free. Those three tax benefits make HSAs one of the most tax-efficient account options available.
From doctor and dentist visits to over-the-counter medications and eyeglasses, you can pay a wide range of allowable medical, dental, vision, hearing, and alternative care costs using an HSA. However, not following the account rules or knowing its benefits can be expensive.
To learn more about HSAs, including which expenses are qualified, don’t miss Money Girl episode 948, Tips to Maximize an HSA from Tax Savings to Retirement. In addition, you can find a list of IRS-approved healthcare expenses in Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans.
7 costly health savings account (HSA) mistakes to avoid
Here are seven common HSA mistakes, along with tips to avoid or correct them.
1. Not investing your balance.
My friend mistakenly overlooked the ability to invest her HSA balance for higher returns. However, once she realized it was an option, she said that choosing investments and funding them was straightforward.
Most HSAs offer a menu of options, including mutual funds and exchange-traded funds, similar to investments you’d find for a retirement account. There are even self-directed HSA options that allow you to choose and manage your own investments, such as businesses and real estate. However, the rules for self-directed accounts can be complex and challenging to follow, so I generally don’t recommend using them.
HSAs may require a minimum balance, such as $1,000, before you can invest the rest. Consider factors like an investment fund’s fees, diversification, and alignment with your risk tolerance.
If you plan to use HSA funds to cover short-term healthcare needs, it’s essential to maintain a minimum cash balance to ensure you have liquid funds available. Otherwise, you could be forced to sell investments at a bad time, like when their prices go down, causing you to lose money.
But a great feature of HSAs is that you can pay healthcare expenses out of pocket and then reimburse yourself later. So, instead of selling HSA investments at a loss, you could wait for them to appreciate before selling enough to pay yourself back.
Investing your HSA balance is a powerful strategy for building your healthcare funds and creating an extra retirement nest egg. I’ll discuss using an HSA in retirement next.
RELATED: Should I use a self-directed IRA?
2. Not taking a long-term approach.
If you can afford not to tap your HSA, or are relatively young and healthy with few healthcare expenses, consider paying them out of pocket and letting your entire HSA balance grow as a long-term tax-free investment.
Letting your HSA stay invested for the long run turns it into a supplementary retirement account for future healthcare expenses. In addition, after age 65, you can withdraw HSA funds for any reason. However, amounts used for non-qualified expenses would be subject to income tax, similar to a traditional retirement account.
If you’re under 65 and use HSA funds for non-qualified expenses, like a vacation or rent, you must pay income taxes plus a 20% penalty on unauthorized withdrawals.
While there’s nothing wrong with spending an HSA balance on eligible expenses, allowing it to grow for high, unexpected healthcare costs or for retirement could give you more financial flexibility in the future.
RELATED: How can I become a confident investor?
3. Not keeping good receipts.
If you choose to pay qualified healthcare costs out of pocket for any reason, keep good records of those expenses. You never know when you may want to reimburse yourself later for them.
Having receipts or tagging appropriate transactions in a digital bookkeeping program or app will make it much easier to verify future HSA withdrawals. Some HSA platforms have online tools for uploading and storing receipts.
If you don’t stay organized, it could be easy to forget about paying HSA-qualified expenses out of pocket and miss opportunities to reimburse yourself on a tax-free basis.
4. Not maximizing your account.
Since the tax benefits of an HSA are so good, not maxing out the account annually, when you can afford it, is a mistake.
For 2025, you can contribute up to $4,300 when you have an individual health plan or $8,550 for a family plan. Plus, after age 55, you can contribute an additional $1,000 with either type of health plan.
5. Contributing too much.
Another interesting feature of HSAs is that contributions can come from you or someone else, like a family member or employer. But unlike employer matching for a workplace retirement account, contributions from others to your HSA are included in the annual limit.
That can make it easy to lose track and over-contribute to an HSA, especially if your employer makes variable contributions on your behalf. Another situation when you could over-contribute is when an HSA-eligible health plan didn’t cover you for the whole year. In that case, your allowable HSA contribution limit must be prorated.
To correct an overpayment, contact your HSA administrator for help. If you don’t resolve it and pay tax on any growth on the excess, you must pay a 6% penalty every year it remains in your account. But if you catch the mistake before you file taxes (including any filing extensions), you can avoid the penalty by withdrawing the excess plus any investment or interest earnings.
Like with an IRA, you can make HSA contributions up to your tax filing deadline for the previous tax year. For instance, you can fund an HSA for 2025 as late as April 15, 2026.
LISTEN ALSO: Can I contribute the family limit to a health savings account (HSA)?
6. Contributing when you’re not eligible.
If you lose coverage under an HSA-eligible health plan for any reason, such as becoming unemployed, changing insurance, or enrolling in Medicare, you can no longer make HSA contributions. Similar to over-contributing, contributing to an HSA when you’re no longer eligible means paying a 6% penalty on mistaken contributions.
However, you can continue spending and investing an HSA balance indefinitely, even when you don’t have an HSA-qualified health plan. You can use it for healthcare expenses for yourself, your spouse, and any dependents. You can continue using the same account or roll over funds to an HSA at a different institution, such as Lively.
7. Not naming a beneficiary.
If you pass away without a named beneficiary on your HSA, it becomes part of your estate and must go through probate, which can be a lengthy and costly process. Just as with a retirement account, always designate a beneficiary who can assume ownership of your HSA and enjoy its tax-advantaged status.
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