A Health Savings Account (HSA) is a government-sanctioned tax-deferred investment plan that can only be used for paying health-related expenses. When you get insurance, either as a private individual or through a company/organization plan you may be required to pay a deductible and/or co-insurance. The higher your deductible and co-insurance costs the less expensive your major medical health insurance premiums tend to be.
A typical individual health insurance premium may cost anywhere from $300 per month to $1000 or more, depending your age, general health, recent medical issues (within the past 2 years), chronic medical conditions, and the size of the deductible and co-insurance you agree to.
Your deductible is applied to co-pays for doctor’s office visits, prescriptions, and other “out-of-pocket” expenses. A typical deductible may run anywhere from $500 a year to $10,000 a year. Deductibles for family plans are higher than deductibles for individual plans.
The fact you have “major medical” insurance doesn’t mean you won’t have to pay for medical care. Your coverage may not include many types of diagnostic tests your doctor prescribes, or your coverage may pay only a portion of those tests’ costs. So you can have “full medical coverage” and still find yourself responsible for paying for hundreds or thousands of dollars per year in medical expenses. These expenses are applied to your deductible.
Once you meet your deductible your insurance company picks up the full cost for most medical expenses, but this “full coverage” is usually limited. Once the limits are met your co-insurance begins. You may have to pay for 20% to 40% of your remaining insurance costs within the plan year to cover the co-insurance obligation. Most insured people never see these costs in a given year; you have to have chronic health issues or undergo very expensive surgery before you face these costs.
The HSA allows you to invest money that “rolls over” from year to year so that you can cover these deductible and co-insurance costs. Any money you don’t spend from your HSA remains in the investment plan — typically managed much like you would a 401(k) plan — to grow and for future use in later years.
The law limits how much money you can invest in an HSA — typically around $3000 per year. This limit may be gradually increased as years pass to account for inflation and other changes in healthcare costs.
Assuming your deductible obligations amount to less than what you pay into the HSA in any given year your money will grow, but you may not be able to use it all when you have a real medical emergency. Most people don’t realize this but the government also limits how much you can spend out of an HSA on your health care.
Crazy as that sounds, it means that a Health Savings Account should not be the only way you plan to cover future major medical costs. You may also want to look into obtaining Hospital Indemnity Insurance, Accident Insurance, Catrastrophic Health Insurance, Cancer Insurance, and similar supplemental insurance plans. The premiums for these plans can add up but they tend to be less expensive the younger you are and once you start using these plans the premiums will never increase as long as you keep paying the premiums. You can even keep these policies if you leave your current employer.
Unfortunately, you cannot use an HSA to pay insurance premiums unless you are collecting state or federal unemployment assistance or if you are picking up the cost of a COBRA policy. COBRA coverage allows you to assume responsibility for your monthly premiums when you leave a company, assuming you want to retain the health insurance. Most people cannot afford to pay the premiums but an HSA helps cover these costs.
So how much should you invest in an HSA plan? You want to be able to cover your deductibles and premium costs in the worst-case scenario: you have lost your job or left voluntarily and pick up the COBRA option. You may not be able to invest enough money in a single year to cover your existing deductibles and future COBRA payments but over several years you may be able to invest enough money in your HSA to handle 1-2 years of COBRA premiums. COBRA eligibility does eventually run out, though, so all you can do is buy yourself some time.