Key Points
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HSAs make it easy to save for healthcare costs in a tax-friendly manner.
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Taking a non-medical HSA withdrawal can trigger a costly penalty.
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Once you reach a certain age, that penalty goes away.
If you’re nearing retirement with a huge balance in your health savings account (HSA), it should give you peace of mind. Healthcare can be a huge expense for seniors. And some of your costs may be unpredictable. The more money you have in your HSA, the easier it should be to cover those expenses.
But having a very large HSA could lead to a situation where your balances exceeds your anticipated medical costs. And in that case, you may not be thrilled to have an overage on your hands.
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Even though having more health-related savings than less is a good problem to have, you don’t want to get stuck getting penalized for non-medical withdrawals. And the good news is that thanks to one lesser-known rule, you may have a lot more flexibility with your HSA than you think.
HSAs open up at 65
HSAs offer a number of tax breaks. Contributions are made with pre-tax dollars, investment gains are tax-free, and withdrawals are tax-free provided they’re used to pay for qualifying medical expenses.
If you end up taking a non-medical HSA withdrawal, you’ll typically be taxed on the sum you remove and face a 20% penalty. But that penalty goes away completely once you turn 65.
At age 65, you’re allowed to withdraw from an HSA for any reason without penalty. So if you have extra money and want to use your HSA to pay for a vacation or furniture, that’s your call.
In that case, your withdrawal will be subject to taxes. But that’s no different than a withdrawal you might take from a traditional IRA or 401(k).
That’s why you really shouldn’t worry if you’re approaching retirement with a huge pile of money in your HSA. Even if you don’t end up needing your entire balance for healthcare expenses, that doesn’t mean you can’t put your remaining funds to good use.
Aim to spend your HSA in your lifetime
If you have extra money in your IRA or 401(k) at the end of your life, you can always leave it for your loved ones to inherit. HSAs are less tax-friendly, though, in an estate planning setting.
If you have a spouse who inherits your HSA, they’ll be able to use the funds tax-free for their own medical expenses. But non-spouse beneficiaries lose those privileges.
In fact, if you have a child who inherits an HSA from you, that account becomes taxable to them. So if you have excess HSA funds late in life, you may want to try to spend them rather than pass them down.
All told, HSAs have a lot of rules it pays to know. But if you’re sitting on a large balance, do recognize that you have options for using those funds without subjecting yourself to a costly penalty for non-medical withdrawals.
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