Should clients use the money in their health savings accounts for long-term investing?

Bolstered by a triple tax advantage (tax-free contributions and growth and tax-free withdrawal if used for qualified medical expenses), the allure of HSAs as a long-term investing vehicle is growing.

Over $8 billion in health savings accounts is now used for investments, representing 18% of total HSA assets, up from $1.7 billion, or 11% of total HSA assets, just five years ago, according to Devenir Research.

"Investments have become a big component of HSAs," says Devenir president Eric Remjeske. "Awareness that health savings accounts can be used for investing is growing, and our projections for this year and 2019 show that investment dollars will be an even larger percentage of HSA assets."

The long-running bull market is making it more tempting than ever for clients to try and realize long-term, tax-free earnings growth within HSA accounts. That strategy can often make sense, say financial professionals, but financial advisors should make sure clients fully understand their range of options.

"Clients will have varying goals, and it's extremely important to educate account holders about what HSAs can and can't do, because it can be confusing," says Remjeske.

To be sure, the starting point for any HSA discussion must be a client's particular circumstances.

"I'm very bullish on the potential of HSAs for investing, but each client has to be viewed on a case-by-case basis," says Jeff Birnbaum, a financial planner with On Point Financial in New York City. "I have a new client who is making a lot of money, has excess cash flow and minimal medical expenses. For him, it made sense to put the maximum amount into an HSA and invest the money as a tax-free complement to his other investments."

Birnbaum is careful to note HSAs have higher fees and less investment options than a tax-fee account like an IRA. Nonetheless, he says, "Generally the triple tax advantage outweighs the limitations of the accounts."

The case for using HSA accounts as a vehicle for retirement savings was bolstered by a recent Fidelity study showing that an average retired couple age 65 in 2018 would need approximately $280,000 in after-tax savings to cover healthcare expenses in retirement, says Jon Robb, senior vice president of research and technology for Devenir.

Advisors can remind clients that if they have enough cash flow, they can pay current medical expenses out of pocket, Robb says, and pay themselves back years later out of their HSA account if they keep the receipts.

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"Generally the triple tax advantage outweighs the limitations of the [HSA] accounts," says financial advisor Jeff Birnbaum.

Planner Peter Stahl, president of Bedrock Business Results, says he generally recommends using HSA accounts for retirement savings.

"This strategy requires some basic financial planning as a budget and emergency fund need to be in place to fund current medical expenditures without touching the HSA," Stahl says. "This then allows the HSA to be invested according to number of years to retirement and risk tolerance."

Financial planner Janet Stanzak, president of Financial Empowerment in Bloomington, Minnesota, describes her version of this strategy as "a five-year mantra."

"Don’t invest in the market if you’ll need the dollars within the next five years," says Stanzak, a former president of the Financial Planning Association. "Most market cycles are three to five years so this avoids having to sell when the market is down."

Clients who are in good health and still working are advised to use excess cash flow to cover current medical deductibles and needs so the HSA can be invested and grow, Stanzak says.

"We encourage clients, while working and in early retirement, to hold off as long as possible before they use their HSA since they’ll likely need every dollar of it for healthcare needs as they age," she explains.

Another option for clients is to have enough funds available in their HSA cash account to cover out-of-pocket expenses and their deductible, and then invest the additional savings, says Chad Wilkins, president of HSA Bank, a major health savings account plan provider.

"Once a safety net is in place, saving and investing in the HSA is the best value for clients since funds are contributed tax-free, earnings from investments are tax-free, and qualified healthcare expenses can be paid tax-free," Wilkins says. "Additionally, funds can be withdrawn for any purpose after 65 at the same tax rate as funds in a 401(k)."

Advisors can help clients determine "the amount needed for healthcare in retirement, how much clients should be investing, and what investment accounts clients should be prioritizing in order to meet their goals and future financial needs," Wilkins says.

Financial advisors can also let advisors know that if they don't like the saving and investment options in the HSA plan offered by their employer "they can transfer the funds as soon and as frequently as they desire," Stahl says.

"Be sure to ask about possible transfer fees to make prudent decisions on the frequency of transfers," he says. "It is also important to realize that an employer can change their HSA custodian and offer multiple HSA custodians to employees."

And of course, advisors need to remind clients that basic investment principles also apply to HSA accounts.

"You need to examine risk level, diversification and asset allocation," Birnbaum says. "An investment in an HSA account can lose money. It can be a negative just like any other type of investment account."

Charles Paikert

Charles Paikert

Charles Paikert is a senior editor at Financial Planning. Follow him on Twitter at @paikert.