There’s only one financial product that offers three tax benefits, but very few Americans are using it to maximize their savings: health savings accounts.
HSAs are perhaps the most-favored investment vehicle under U.S. tax code, as long as you use them to save for future medical expenses. In fact, their benefits even outweigh what’s offered by a 401(k), a traditional individual retirement account, a Roth IRA, or a 529 plan, says Leo Acheson, a senior analyst for Morningstar.
That’s because first, investors can deduct their contributions from their income taxes. Second, any growth in their investments is tax exempt. And third, withdrawals are tax-free, too, as long as they’re spent on qualified medical expenditures. Financial planners call this the ” triple tax benefit.”
These accounts have now been around 15 years, but still, so few Americans are reaping the full benefits of the plans. An estimated 7.3 million people who are enrolled in HSA-eligible health plans have not opened an HSA, a 2016 survey by the Employee Benefits Research Institute finds. Among those who did open an HSA, only 48 percent actually contributed to it and just a sliver — about 4 percent — invested funds in assets other than cash.
[Read: HSAs Offer Benefits for Older Investors.]
“It seems that even among investors that have HSAs, there’s only a small percentage of them that invest in something other than a money market account,” says Maria Bruno, a senior investment strategist with Vanguard. “Individuals may have the plan and they might not be tapping into it, but they also may not be investing it. And that means they’re missing out on that tax-free growth.”
If you have one of these plans and want to use it as a long-term savings vehicle — rather than just a short-term account for covering immediate medical expenses — there are the two key features to look for in an HSA provider: low fees and a diverse menu of investment options.
But first, realize this. There’s a common misconception out there. If you enroll in an HSA through your employer, you’re not necessarily stuck with just that provider. HSAs are portable. You can shop around and transfer an existing account to a custodian with lower fees or better investment options.
“It’s really a matter of doing your homework as an investor,” Bruno says. “Make sure you’re not restricted to the plan your employer chooses. Search around to understand the investment options and costs.”
Find a low-fee HSA. In a Morningstar report published earlier this year, Acheson assessed 10 of the largest HSA providers and found fees are lurking in several places. Annual maintenance fees can range from $0 with The HSA Authority, to $54 with Bank of America, and investment fees — which investors pay to access a certain lineup of mutual funds — can add additional costs.
These maintenance fees can take an outsized bite out of small balances, in particular.
“Costs matter. It’s important for investors, regardless of how they’re investing, to think about these costs,” Bruno says.
Then, when it comes time to invest your HSA funds, there are the expenses associated with the underlying investment options.
[See: 7 Investment Fees You Might Not Realize You’re Paying.]
Acheson looked at average expense ratios of each plan’s funds in four broad asset classes: large-cap, small-cap, foreign large-cap and intermediate-term bonds. The expense ratios across those groups ranged from 0.05 percent to 0.99 percent, with the plan offered by HealthEquity on the low end of that range, and the plan from HSA Bank on the high side. HealthEquity’s underlying fund fees were unusually cheap because that plan strictly uses Vanguard index funds in four core asset classes.
Once Acheson added the maintenance and investment fees to the mix, he found HSA plans from SelectAccount, HSA Authority and Bank of America offered the lowest combined fees, ranging from 0.2 percent to 0.36 percent on a $15,000 balance.
Look for a diverse menu of investment options. Next, it’s also important to evaluate the types of investment options that are open to you in an HSA plan.
As opposed to an IRA — which you can invest in almost any stock, bond, REIT, commodity, etc. — HSAs will have fewer investment options, which sometimes entail higher costs, says Jason Kirsch, the founder of Grow, a financial planning firm based in Santa Monica, California.
“I first ensure the plan provides some decent options,” he says.
The best plans will offer a diverse range of options for investors who want to build their own portfolios, Acheson says, including building blocks in the following core asset classes: large-cap equities, small or midcap equities, international developed equities, U.S. diversified bonds and either a cash-equivalent or short-term bond strategy.
“It’s ideal to have options in all the core asset classes that you need, while also having limited overlap in options,” he says. “You wouldn’t want to have a plan that has an overwhelming range of options.”
At the end of the day, Acheson’s analysis gave four HSA plans a positive rating for use as an investment vehicle. They included plans from Bank of America, HealthEquity, Optum and The HSA Authority.
[See: 10 Tips to Boost Your IRA Balance.]
“From an investment perspective, we think all four of them are good options, but if we had to give a nod to one of them, the HealthEquity program is the most appealing,” he says, pointing to that plan’s high marks for menu design, investment quality, price and performance.
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Look for These 2 Key Features in Your HSA originally appeared on usnews.com
