When deciding if your parents, grandparents, or yourself can afford to retire early, the cost of health insurance should be a key factor in the financial equation. Unless you're lucky enough to have retiree health benefits through an employer, or are entitled to coverage through a spouse's plan, you may need to consider individual health coverage and pay the entire premium cost--which can be high--until the senior becomes eligible for Medicare at age 65. If you're looking to bridge the gap between the time of retirement and the time of Medicare enrollment, one option worth considering is a health savings account (HSA).
HSA basics
An HSA is a tax-favored account that can be opened in conjunction with a high-deductible health plan (HDHP) to pay for current health costs and save for future ones. The HSA/HDHP option may be attractive to healthy retirees under age 65 who want more flexibility and potentially lower health insurance premiums than traditional individual health insurance offers.
An HDHP begins to pay benefits only after you've satisfied a high annual deductible (at least $1,100 for individual coverage in 2007), although some preventative care may be covered in full immediately. Because you're shouldering a greater portion of your health-care costs, you'll usually pay a lower premium for an HDHP than for traditional health insurance, and you can contribute your premium savings to your HSA. In 2007, you can contribute up to $2,850 if you have individual coverage, and if you're 55 or older, you can make an extra "catch-up contribution" of up to $800. Your HSA contributions are tax deductible, and accumulate tax deferred (along with any earnings) until withdrawn. You can use your HSA funds to pay qualified health-care expenses that aren't covered by your plan. Before age 65, you can withdraw money and use it for nonqualified expenses, but you'll generally pay a 10% penalty, and you'll owe income taxes on the amount you withdraw.
What Happens at Age 65?
Once you reach age 65 and enroll in Medicare Part A or B, you're no longer eligible for a high-deductible health plan, and that means you can no longer contribute to your HSA. However, any money remaining in the account is yours to keep.
Reaching age 65 gives you a little more flexibility when it comes to using your HSA funds, since at age 65 the 10% penalty on nonqualified withdrawals no longer applies. But before you use your account funds for something other than health-care expenses, keep in mind that you'll still owe income taxes on money used for nonqualified expenses.
The only way to avoid paying taxes on your HSA funds (at any age) is to use them for qualified health-care expenses. Fortunately, the list of qualified expenses is long, and includes items such as prescription drugs, eyeglasses, and Medicare-related expenses such as premiums, deductibles, and co-payments. If you have health benefits through your former employer, you can use your HSA funds to pay your share of your retiree health insurance premium. And, if you decide to buy a tax-qualified long-term care insurance policy, you can also use your HSA funds to pay the premiums (though dollar limits apply). One thing you're not allowed to use your HSA dollars for is the premium cost of a Medigap policy to supplement your Medicare coverage. For a list of other qualified expenses, see IRS Publication 502, Medical and Dental Expenses.
HSA basics
An HSA is a tax-favored account that can be opened in conjunction with a high-deductible health plan (HDHP) to pay for current health costs and save for future ones. The HSA/HDHP option may be attractive to healthy retirees under age 65 who want more flexibility and potentially lower health insurance premiums than traditional individual health insurance offers.
An HDHP begins to pay benefits only after you've satisfied a high annual deductible (at least $1,100 for individual coverage in 2007), although some preventative care may be covered in full immediately. Because you're shouldering a greater portion of your health-care costs, you'll usually pay a lower premium for an HDHP than for traditional health insurance, and you can contribute your premium savings to your HSA. In 2007, you can contribute up to $2,850 if you have individual coverage, and if you're 55 or older, you can make an extra "catch-up contribution" of up to $800. Your HSA contributions are tax deductible, and accumulate tax deferred (along with any earnings) until withdrawn. You can use your HSA funds to pay qualified health-care expenses that aren't covered by your plan. Before age 65, you can withdraw money and use it for nonqualified expenses, but you'll generally pay a 10% penalty, and you'll owe income taxes on the amount you withdraw.
What Happens at Age 65?
Once you reach age 65 and enroll in Medicare Part A or B, you're no longer eligible for a high-deductible health plan, and that means you can no longer contribute to your HSA. However, any money remaining in the account is yours to keep.
Reaching age 65 gives you a little more flexibility when it comes to using your HSA funds, since at age 65 the 10% penalty on nonqualified withdrawals no longer applies. But before you use your account funds for something other than health-care expenses, keep in mind that you'll still owe income taxes on money used for nonqualified expenses.
The only way to avoid paying taxes on your HSA funds (at any age) is to use them for qualified health-care expenses. Fortunately, the list of qualified expenses is long, and includes items such as prescription drugs, eyeglasses, and Medicare-related expenses such as premiums, deductibles, and co-payments. If you have health benefits through your former employer, you can use your HSA funds to pay your share of your retiree health insurance premium. And, if you decide to buy a tax-qualified long-term care insurance policy, you can also use your HSA funds to pay the premiums (though dollar limits apply). One thing you're not allowed to use your HSA dollars for is the premium cost of a Medigap policy to supplement your Medicare coverage. For a list of other qualified expenses, see IRS Publication 502, Medical and Dental Expenses.
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