If You're Not Saving for Retirement in This Account, You're Missing Out

Key Points

• Many people know to save for retirement in an IRA or 401(k).

• A health savings account (HSA) gives you even more tax benefits.

• It's also nice to have funds on hand to cover medical costs specifically.

• The $23,760 Social Security bonus most retirees completely overlook ›

There are a lot of people who contribute regularly to an IRA or 401(k). Hopefully, you're doing the same.

You may not enjoy having to part with money you won't get to use for many years. But it's necessary to build a retirement nest egg to ensure that you have enough money for your later years, especially given the potential for Social Security cuts.

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There may, however, be one lesser-known retirement account you're overlooking in the course of building savings. And it's one anyone invested in a secure retirement should know about.

Don't forget about health savings accounts

Health savings accounts, or HSAs, aren't as well-known as IRAs and 401(k)s. And part of the reason may be that they're not available to everyone.

In order to contribute to an HSA, your health insurance plan has to meet certain requirements with regard to your deductible and out-of-pocket maximum that change yearly. But if your plan qualifies, it pays to contribute to an HSA for three distinct reasons, all of which are tax-related.

With an HSA, you get:

1. Tax-free contributions
2. Tax-free gains on the money you invest rather than withdraw right away
3. Tax-free withdrawals when your money is used for qualifying healthcare expenses

Now, let's compare HSA benefits to those of IRAs and 401(k)s.

With a traditional IRA or 401(k), you get:

• Tax-free contributions
• Tax-deferred gains

With a Roth IRA or 401(k), you get:

• Tax-free gains
• Tax-free withdrawals

An HSA, therefore, has more tax benefits for you to enjoy. And while you might assume that you can only use your HSA to cover healthcare expenses, that's not necessarily true.

With an HSA, there's a 20% penalty for withdrawals taken for nonhealthcare purposes. Plus, in that case, your withdrawals are subject to taxes.

Once you turn 65, though, that penalty goes away, even if you tap your HSA for a reason having nothing to do with healthcare. At that point, you could withdraw from your HSA to take a vacation if you so choose, and the only thing you'll have to worry about is paying taxes.

Put another way, an HSA basically functions like a traditional IRA or 401(k) once you turn 65 when used for nonmedical withdrawals. That gives you a world of flexibility.

It's nice to have dedicated funds for healthcare spending

At this point, you may be thinking, "Why fund an HSA when I could instead just add more to my IRA or 401(k)?" And the reality is, you could.

But here are a couple of things to consider.

First, IRAs and 401(k)s have annual contribution limits. If you're able to save beyond those limits, and your health insurance plan is HSA-compatible, you have an opportunity to sock away more money in a tax-advantaged manner.

Secondly, your healthcare costs in retirement may end up being more than you've bargained for. Having dedicated funds for healthcare spending could take some of the pressure off of your general savings.

Fidelity recently released data on senior healthcare spending, finding that the typical 65-year-old ending their career this year can expect to shell out $172,500 on medical expenses in retirement.

That's a 4% increase over Fidelity's 2024 estimate. And it's a number that could rise even more over time. So if you're able to put money into an HSA, it pays to do so in conjunction with funding an IRA or 401(k).

And remember, there's no rule stating you have to use an HSA in retirement. That money is yours to tap for healthcare costs at any time.

It's smart to try to leave that money alone until retirement so you can benefit from tax-advantaged growth and reserve more funds for a period of life when your healthcare bills may be higher. But you can always use your HSA as a near-term source of cash when you find yourself on the hook for unexpected medical costs.

The $23,760 Social Security bonus most retirees completely overlook

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