Coronavirus has taught us one thing: no one is exempt from facing a medical issue. While older people may have graver consequences, a virus can affect virtually anyone.
Hence, the universal need for an emergency medical fund.
We may be witnessing a weakening of the virus itself, and the number of cases and deaths may be waning. But the lesson is still vividly etched in our minds.
From an early age, we’ve heard about the need for an emergency fund, usually representing anywhere from three to six months of our expenses. (It’s typically linked to how many months we think it might take us to replace a lost job.)
That’s a valid concern. But the corona pandemic not only did medical damage but has caused nearly 20 million Americans to lose their jobs. Uniquely, finding replacement jobs is less linked to skill levels than to the industry involved. The after-affects of the virus – such as social distancing requirements – will make some industries come back slower than others.
So why do we need an emergency medical fund, too?
It’s not just about Coronavirus. The Federal Reserve reported (p. 23) that in 2018 one-fifth of adults faced unexpected medical expenses with a median cost between $1,000 and $5,000. By late 2019, 40% still had unpaid debt from those bills. And one-quarter of adults went without some form of medical care because of the cost.
At times, it’s not the ability to pay, but rather the availability of cash. For example, while markets were down earlier this year, no one would want to withdraw funds for medical treatment by selling stocks at a loss.
So, how many people actually have an emergency fund dedicated to unexpected illnesses or last-minute prescriptions? A “RetailMeNot” survey in late November 2019 said only 31% did.
How can an HSA solve the problem?
A Health Savings Account (or HSA) has to be attached to a High-Deductible Health Plan (HDHP). It’s a tax-advantaged account for individuals to save for out-of-pocket medical expenses not covered by the HDHP.
HDHPs are most attractive to healthy people, who are less likely to use their health insurance each year. They are also handy for affluent families who benefit from the tax advantages and can afford the risk of higher deductibles.
But even if you only select an HDHP during your younger, healthy years, the accompanying HSA is an ideal way to build an emergency medical fund.
Money goes into such an account “pre-tax,” or tax-deductible. Funds are invested, and the earnings and interest grow tax-free. And, as long as funds are withdrawn for qualified medical expenses, they remain tax-free.
Premiums for the HDHP policy are lowered by having the high deductible. And the funds you put into the account each year are available to help cover the deductible if needed that year. If not, the funds can be rolled over and left in the account to grow. It’s a win-win.
And HSAs are portable. They follow you from job to job and into retirement. Funds can be used tax-free not just for your medical expenses, but for those of your spouse and tax dependents.
How has the CARES Act affected HSA accounts?
The CARES Act expanded how HSAs could be used. But, most important, because the IRS extended the federal income tax filing deadline to July 15 from April 15, 2020, HSA account holders have 90 extra days to fund their 2019 accounts.
The contribution limit for an individual in 2019 is $3,500 and for a family, $7,000. (An over-55 contributor can make an extra $1,000 contribution each year as a “catch-up.”)
How can an HSA serve you in retirement?
If you’re retired, and on Medicare, you will no longer have a traditional healthcare policy. But, if you had an HSA account and accumulated contributions over the years, you have your ready-made emergency medical fund.
Funds withdrawn at any age for other than medical expenses are subject to income tax, plus a 20% tax penalty. If you are age 65 or older, the 20% penalty for non-medical use disappears, but the income tax burden remains. But if spent on qualified medical expenses at whatever age, they are entirely tax-free.
And qualified medical expenses include the monthly premiums for Medicare Part B (medical insurance) and Part D (drug coverage), but not those for Medicare Supplement (Medigap).
Whether HSAs are used to cover unplanned medical expenses in pre-retirement or the medical costs that come with aging, they provide a double benefit: not only are they valuable as an emergency medical fund, but the value is compounded by being tax-advantaged.
Final words…withdrawals from HSAs should be for an emergency. The real power of an HSA is compounding interest. The more it is left alone, the more the value of the HSA compounds. It is estimated that the average couple will need $285,000 in today’s dollars for medical expenses in retirement, excluding long-term care. According to the Fidelity Retiree Health Care Cost Estimate, an average retired couple age 65 in 2019 may need approximately $285,000 saved (after tax) to cover health care expenses in retirement. To help fill a gap in saving for health care expenses, consider increasing contributions to your tax-advantaged accounts, especially HSAs (if you have one), which enable tax-free spending on health care in retirement.
