Health Savings Accounts are a relatively recent bank account option, having been created in late 2003 and available to US residents beginning in 2004. The purpose of a Health Savings Account, also referred to as an HSA, is to allow for tax-deferred savings that is intended to be used for current and future medical expenses. Individuals and families may open an HSA, or Health Savings Accounts may be offered as part of a workplace benefits package. In either case, the rules, contribution limits and eligibility requirements are the same.

Who Can Open An HSA?

HSAs are not available to everyone; eligibility depends on the type of health insurance plan you currently have.

There are different types of health insurance plans available in the US, ranging from plans that cover every doctor’s visit, procedure, hospital stay, prescription and surgery, to those that provide coverage only for significant medical expenses. The former type of plan understandably costs quite a bit more in monthly insurance premiums, but the insured knows they will be financially covered for most of their medical needs. The latter is typically less expensive and also has a higher deductible, which the insured must pay annually before the insurance will pay for covered medical expenses. HSA’s are not available to individuals and families covered by the first type of plan; only to those who have opted for the high-deductible insurance plan option. An HSA is a way for high deductible insurance plan holders to save money to use toward their health plan deductibles, and also for health-related expenses that are not covered by their specific plan. The theory behind these accounts is that people who are more in control of the money that is being spent on health care will be more discriminating in the health services they seek, and will shop more for better prices for the services they need. In this way, the government is hopeful that the cost of medical care may not rise as quickly or as dramatically as it historically has, given the more competitive nature of the industry when consumers are responsible for expenses out of their own pockets.

In addition to being a high-deductible health insurance plan customer, the individual who wishes to open an HSA must not be a dependent on anyone else’s tax return, and also must not be covered under any additional health insurance plan. There are a few exceptions to the coverage rule; it is OK to have coverage such as dental, vision or extended-care facility insurance.

How Does An HSA Work?

HSAs have similarities to both regular savings accounts and to certain types of retirement accounts, but they work quite differently from both. With a regular savings account, there are no limits to the amount of money that can be deposited annually. And although banks may have penalties for the number or amount of withdrawals made within a given time period in some savings accounts, what you do with the money you withdraw from a regular savings account is completely your decision. The money you place in a regular savings account is taxed as income, as is the interest earned on that account. With an HSA account, money deposited into the account is not taxed as income, and although you may earn interest in your HSA, the interest is also not taxable if it remains in the account, or if it is used to pay for qualified medical expenses. Unlike a savings account, there are limits to the amount of money that can be deposited into an HSA each year. The total amount that can be deposited changes annually based on inflation and other factors. It has gradually risen from $2,600 annually for an individual in 2004 to $3,100 annually for an individual in 2012.For family accounts, the annual limits in 2004 and 2012 were $5,150 and $6,250 respectively. In addition, those over the age of 55 may deposit an addition tax-deferred $1,000 annually.

With most investment or retirement accounts, the goal is to save for the future. Like an HSA, there are annual limits to the amount of money that can be deposited, tax-free, into an IRA or 401K account. With those types of accounts, there are generally penalties for withdrawing money prematurely, before retirement age. At the very least, money withdrawn from an IRA or 401K will immediately become taxable as income in the year it was withdrawn. An HSA works very differently. Because its goal is to save money for use when needed for medical expenses, funds may be withdrawn at any time with no tax liability as long as the withdrawn money is used to pay for “qualified medical expenses”. Most HSA accounts provide a debit card, checks or both to their HSA accountholders so the money is easily accessible when needed. Account holders do need to keep good records about their purchases, so they can document each purchase as a qualified medical expense. This is important, as there are large penalties when money from an HSA is used for expenses other than what is considered qualified. That money would be taxable and a 20% penalty would be imposed upon the account holder.

Are HSA Popular?

The numberof HSAs in the US has been steadily increasing since 2004. For example, in 2006, according to surveys done by the Employee Benefit Research Institute, there were 1.2 million HSA accounts. In 2008, the number had risen to 4.2 million accounts, and by 2011, that number had increased to a total of 6.8 million accounts nationwide.

With the tax savings available through these accounts, as well as the ease of using them, there is no reason to believe the number of HSA accounts will not continue to grow in the coming years.