A Health Savings Account - HSA - is a new financial strategy that allows an insured person to save money in a tax-free account that can be used to pay for future health costs. It was designed to keep health care premiums down by passing some of the risk of a plan, and therefore some of the costs, to the consumer.
An HSA is not an insurance plan. Rather, it’s a savings account that’s attached to a traditional insurance plan. One without copays or prescription benefits. Most of the time an HSA and the insurance plan can be set up from one source - the insurer will set up the savings account for the client at the same time they write the insurance policy. When someone says “HSA” they usually mean the package that is the insurance plan and the savings account.
Back to the 80/20 plans
An HSA is designed around a traditional 80/20 plan. Those were becoming scarce in the 1990s as health insurance companies pushed PPOs, ostensibly because they were a superior plan that encouraged wellness, but in truth it was because PPOs had a higher profit margin for them.
An 80/20 (or 70/30, 60/40, etc.) is much simpler to understand than a PPO or HMO. The consumer has a deductible of a certain amount - we’ll say $1,000 per year for our example - and the individual pays all costs up to that deductible out of his or her wallet. Once that deductible is met, the insurance company pays 80%, and the individual pays 20% until a cap is met. For our example, we’ll say $3,000. After that cap is met, the insurance company will pay 100% of costs.
Why Get an HSA?
Now that we understand how an 80/20 plan works, we can talk about what makes an HSA so great.
An HSA is a savings account that can be piggybacked onto that 80/20 plan. You are free to deposit up to the amount of your deductible into the account every year. If you have a $1,000 deductible, you can put up to $1,000 into the account, but you don’t have to. If you can only afford to put $100 into it, that’s fine. The maximum amount you can put in, regardless of your deductible size, is $2,600 every year.
What can you use the money in that account to pay for? Quite a lot, actually. Anything that qualifies as a health expense is acceptable, even if it’s not an expense that would normally be covered under a plan, or contribute towards your deductible. What if you need to go to the dentist, but you didn’t have a dental plan? How about if you’ve found that acupuncture is the best treatment for that pain in your wrist? No problem, those expenses can be paid for with money from your HSA. That means that your teeth cleanings, while not being free as they might be under a very expensive dental plan, are paid for with tax free money. For a lot of people that represents about a 20% savings. Also, all of those regular medical expenses that you need to cover until you hit your deductible can be paid for out of that account, as can those 20%’s you have to pay until you reach your OOP.
There’s also a nice tax benefit: all money that you save in this account goes in tax free. So, when you are doing your taxes and you figure out that you grossed $22,000 in income, but put $1,000 of that money into your HSA, your adjusted taxable income becomes $21,000.
The obvious question is what happens if you don’t use the money in that account? Where does it go? What can you do with it? It stays in the account and builds up over time as you add to it. If you’re so inclined, you can invest that money and grow the account even more. A lot of people may find that investing is more work or trouble than the potential risk is worth. The worst you end up with is a tax-free option to tuck your money away until you need it.
As the years go by, that money can be used as collateral on a loan, or you can withdraw it with a tax penalty similar to that of an IRA. Basically, if you eventually use the money for something other than health expenses, you will have to pay taxes on it. Unfortunately, it’s not a tax-free way for you to save up for the 1962 Olympic White Fender Jazzmaster you’ve always wanted. That would be too good.
What are the Drawbacks?
Nothing is perfect, especially in the world of health insurance. Here are some things to be aware of if you explore this route:
- You will have to pay, and pay more, when you got to the doctor or get a prescription. Because they’re based on the 80/20 plan, there are no copays when you go to the doctor – you pay the full amount per visit. However, almost all young people will win under this arrangement when these costs are stretched over 5-10 years, even with a major loss one year.
- Even though you’ll have to pay at the doctor’s, you will pay less than someone who has no health insurance. Remember, you have to have an 80/20 plan before you get an HSA, which means you’re eligible to pay rate negotiated by the health insurance company. For example, a person with no health insurance might have to pay $227 for a doctor’s visit. A person with insurance will pay the rate the health insurance company has negotiated, even if they haven’t met the deductible. That might mean they pay $185 for the same visit.
- Don’t forget the monthly maintenance fee. Since HSAs are a bank account, there will likely be some bank fees to pay. They might be as little as $3 a month, but that can add up.
- HSAs will help, MAYBE, 5% of the US population. There is still a major crisis, and this key component of the “ownership society” is a benefit that is accessible to folks who can already afford some form of health insurance.
Form Your Own Little Insurance Company
Look at it another way: you can either give your money to an insurance company so they can provide you with services that you probably won’t use, or you can pay a lower premium each month, put that savings in your own account and act as your own insurance company for the little issues, with the assurance of knowing that the big stuff - should it arise - is covered. If you think about how little the average healthy person goes to the doctor in a given year, the false economy of a plan rich with benefits quickly becomes apparent.
The HSAer’s motto:
Pay less now with the understanding that I may have to pay a little more if I get sick.
…but not that much more.
Health Savings Accounts - The Ownership Society in Health Care
James C. Robinson, Ph.D.
New England Journal of Medicine, September 25, 2005