How Health Savings Accounts Work with High-Deductible Plans

How do Health Savings Accounts work with high-deductible health plans?

Health Savings Accounts (HSAs) are designed as a companion to high-deductible health plans (HDHPs). Because HSAs give triple tax advantages — pre-tax or tax-deductible contributions, tax-deferred growth, and tax-free distributions for qualified medical expenses — they can meaningfully lower the net cost of health care over time and act as a portable, long-term savings vehicle.

Below I walk through eligibility, tax treatment, practical strategy, recordkeeping, and common traps. Where appropriate I link to IRS guidance and FinHelp resources for deeper reading.

Who is eligible for an HSA?

• You must be covered by an HSA-eligible high-deductible health plan (HDHP). That plan must meet the IRS’s annual minimum deductible and maximum out-of-pocket rules for the year. Check the current thresholds at the IRS site (IRS Publication 969) because these amounts can change annually. (See: IRS Pub 969: Health Savings Accounts.)
• You cannot be covered by another non-HDHP health plan (with limited exceptions like certain permitted insurance).
• You cannot be enrolled in Medicare and still contribute to an HSA; you can, however, continue to use the funds after enrollment.
• You cannot be claimed as a dependent on someone else’s tax return and contribute to an HSA.

Practical note: employer plan descriptions will typically state whether the HDHP is HSA-eligible. If in doubt, verify plan details against IRS guidance or ask HR.

Contributions and limits (general rules)

• Individuals and employers may contribute to an HSA. Contributions made through payroll are typically pre-tax; if you contribute after-tax, you can claim a deduction on your tax return.
• There are annual contribution limits set by the IRS and a $1,000 catch-up contribution for those age 55 and older. Contribution limits and HDHP thresholds are indexed annually for inflation — confirm the current year limits at the IRS website before making planning decisions. (See: IRS Pub 969.)

Important recent numbers for context: For 2024 the HSA contribution limits were $4,150 for an individual and $8,300 for a family; the catch-up contribution remained $1,000. Use the IRS site for 2025 and beyond as these numbers change. (IRS Publication 969)

Qualified medical expenses and tax rules

• Qualified medical expenses generally include doctor visits, prescription drugs, many dental and vision services, and certain over-the-counter items when they meet IRS rules. Withdrawals used for qualified expenses are tax-free.
• Withdrawals for non-qualified expenses are taxable and, if taken before age 65, usually subject to a 20% penalty in addition to ordinary income tax. After age 65, withdrawals for non-medical expenses are taxed as ordinary income but not penalized — similar to an IRA.
• You must keep records (receipts, invoices) to substantiate tax-free withdrawals in case of an audit. Even if you don’t reimburse yourself immediately, you can keep receipts and take a tax-free distribution later for earlier qualified expenses.

Authoritative source: IRS Publication 969 and HealthCare.gov’s HSA page provide lists of qualified expenses and additional examples.

Ownership, portability, and rollover benefits

HSAs are owned by the individual — not the employer. That means:

• Your HSA stays with you if you change jobs or become self-employed.
• Unspent funds roll over indefinitely each year (unlike many FSAs), allowing compound growth and long-term accumulation.
• If you leave an employer that contributed funds, those contributions remain in your account.

Because of portability and rollover, many people treat HSAs as a supplemental retirement account for healthcare costs in later life.

See FinHelp’s article on using HSAs for retirement for advanced strategies: Using HSAs as a Retirement Tool: Advanced Strategies.

Investment options and building long-term balance

Many HSA administrators allow you to invest account balances in mutual funds, ETFs, or other investment vehicles once you meet a minimum cash balance. Treat this similarly to retirement investing:

• Keep a short-term buffer (cash) to cover current-year expected medical spending, and invest the remainder for long-term growth.
• Consider low-cost, broadly diversified funds and rebalance periodically.

For details about types of HSA investments and how to choose them, see: HSA Investment Options.

Tax reporting and paperwork

• Employers and the HSA trustee report contributions and distributions on forms such as Form 5498-SA (contributions) and Form 1099-SA (distributions). When you file taxes, Form 8889 documents HSA contributions, distributions, and any tax adjustments.
• Accurate recordkeeping will simplify Form 8889 and help if the IRS asks for proof that distributions were used for qualified medical expenses.

FinHelp primer on the tax forms: Form 8889 — Health Savings Accounts (HSAs).

Common mistakes and how to avoid them

• Treating the HSA like a checking account: frequent non-medical withdrawals erode tax benefits and can trigger penalties and tax reporting complexity. Keep non-medical withdrawals to a minimum before age 65.
• Assuming all over-the-counter items qualify: rules change (for example, some OTC items became qualified after 2020). Confirm eligibility for specific items in IRS guidance.
• Forgetting to track receipts: you can reimburse yourself later tax-free only if you have documentation proving the expense was qualified and incurred after the HSA was established.

Coordination with Medicare and other coverage

• You cannot contribute to an HSA once you enroll in Medicare Part A or Part B; however, you can use existing HSA funds to pay for qualified medical expenses (including some Medicare premiums, Medigap premiums in some instances, and long-term care insurance up to limits). Confirm allowed uses with the IRS.
• If you have an HSA and switch to a spouse’s employer HDHP mid-year, contribution limits and eligibility can shift — pro-rated contribution rules apply. Coordinate with payroll and tax advisors to avoid excess contributions.

Strategies I recommend (professional perspective)

From my 15+ years advising individuals and families, these approaches work well:

1. Fund the HSA early in the year when possible. If your plan allows a full-year contribution upon HSA eligibility, earlier contributions can earn more investment returns.
2. Use the HSA as an emergency medical fund: keep one to three months’ typical expected out-of-pocket costs in cash.
3. If you’re relatively healthy, consider paying small medical costs out of pocket, saving receipts, and letting the HSA balance grow invested for long-term tax-free growth. Then reimburse yourself later tax-free for qualified expenses you paid out of pocket (documented with receipts).
4. Maximize catch-up contributions at age 55+ to boost tax-advantaged savings for retirement healthcare costs.

Example scenarios

• Young, healthy single adult: An HDHP with an HSA can lower premiums and let the individual invest HSA funds over decades for future health and retirement costs.
• Self-employed worker: HSAs provide a triple-tax advantage that functions like a small tax-preferred retirement account for healthcare expenses, particularly useful if no employer plan exists.
• Couple approaching Medicare age: Use the HSA to pre-fund anticipated medical costs and coordinate timing of Medicare enrollment to avoid losing contribution eligibility.

When an HSA is not the best choice

• If you regularly face very high immediate medical costs above your ability to fund an HSA buffer, a lower-deductible plan with higher premiums may be preferable.
• If employer contribution programs or subsidies make a non-HDHP plan significantly cheaper after considering employer help, compare total employer-offered plan costs before assuming HSA is best.

For a side-by-side look at HSAs and FSAs, see FinHelp’s comparative guide: HSA vs. FSA.

Action checklist before opening or contributing to an HSA

• Confirm your health plan’s HSA eligibility with your benefits administrator.
• Verify the current year’s IRS contribution and HDHP threshold limits at IRS Publication 969 and HealthCare.gov.
• Decide how much to keep in cash versus invested in the HSA and review investment choices and fees.
• Keep receipts for any qualified medical expenses you might reimburse from the HSA later.
• Track employer contributions via payroll and forms (Form 5498-SA, Form 1099-SA) and file Form 8889 with your tax return.

Final notes and resources

HSAs are one of the few accounts that combine immediate tax savings with long-term tax-free growth for medical expenses. They work best when you treat them as part of a longer-term plan: maintain sufficient cash for expected near-term expenses, invest surplus when appropriate, and keep disciplined records.

Authoritative resources:

• IRS Publication 969, Health Savings Accounts (HSAs): https://www.irs.gov/pub/irs-pdf/p969.pdf
• HealthCare.gov — Health Savings Account (HSA) overview: https://www.healthcare.gov/glossary/health-savings-account-hsa/

This article is educational and not individualized tax or legal advice. Consult a qualified tax professional or financial planner before making contribution or investment decisions based on your personal circumstances.