Life as a business owner and a newly minted family man keeps you on your toes. I have been learning through experience about the importance of prioritizing time and energy between early morning and late evenings. Even as a financial planner new medical costs have made me realize the importance of understanding and having great health insurance. While many business owners are aware of the challenges of health care, many fail to be proactive in using an HSA with their High Deductible Health Plan (HDHP) for taking care of health issues today and providing potential tax-free growth for the future.
Why HSAs are Great!
In my previous article, “Why Are You Not Taking Advantage of Your HSA?” I went over the triple tax advantages of HSA’s which are:
1.) Lowers your taxes today
2.) Grows tax-free
3.) Tax-free withdrawals if used for eligible medical expenses.
The tax advantages provided by an HSA allow it to outcompete many other savings vehicles such as an emergency savings account or taxable brokerage to pay for medical bills.
What one may not be aware of is that health care expenses continue to outpace general inflation. Many retirees do not consider that their healthcare costs generally increase over time not purely due to inflation. As one ages, new medical needs arise and stack on existing medical needs as well. Ultimately, healthcare costs could increase exponentially in the latter years of retirement. This is often why many make the case to purchase Long Term Care Insurance versus self-insuring to guarantee funding for these expenses towards the end of retirement.
The Problem Facing Business Owners with HSAs
Business owners are placed in an interesting situation when it comes to utilizing an HSA. This is because they are not allowed to make pre-tax contributions directly from their paycheck to an HSA like their employees can if they have a group HSA set up. This makes it very important for business owners to understand how to incorporate the employer benefits of a spouse or plan as an individual all while considering the tools available to them as a business owner.
Planning with a Spouse:
If one is married and the spouse has a job with good health insurance and an HSA, the family can have their spouse make contributions ($7,200 per year to the HSA for a Family, $3,600 for an individual) directly from their paycheck. Keep in mind that the $7,200 is combined with both company and personal contributions.
Spouse Without HSA Access or Individual Planning:
If the spouse does not have access to an HSA or the business owner is an individual, the business owner can go to a third party, open an HSA, and make after-tax contributions (as long as they qualify for the HSA).
Making an after-tax contribution to an HSA counts as a deduction on the contributor’s personal taxes. This is not quite as advantageous as an upfront pre-tax contribution from a paycheck but is still good based on tax accumulation and withdrawal advantages in the HSA.
Health Care Costs Today and the Future:
Once business owners understand the benefits, many of them sign up for an HSA with a third party and start making contributions. However, many fail to take advantage of the biggest benefit of the HSA. Most HSA’s start people off in a Money Market Fund with little to no return and ignore using the various mutual funds inside the HSA that take advantage of TAX-FREE INVESTMENT RETURN LEVELS OF GROWTH.
However, investing comes with risk! Remember that this money is ultimately needed to pay for medical expenses that your high deductible plan will not immediately cover. It is often prudent to at least build up the cash value of the HSA to your annual deductible before considering an investment into more volatile and higher return options within the HSA,
For Example, if someone has a High Deductible Plan with a Deductible of $4,000. He might have an HSA “Portfolio” That looks something as follows:
Planning as a business owner beyond the day-to-day operations is vital to building personal long-term wealth. While you focus on your business(es), make sure you are taking care of yourself and your loved ones along the way. To learn more about HSAs and how to set up a strong personal financial foundation, schedule a time to speak with a Financial Coach. As always, we are here to encourage you and see you continue to grow your business!
James Hargrave, MBA, CFPⓇ, CLUⓇ
Director of Financial Planning