$360,000 in the bank may not be enough to pay medical expenses in retirement 😱

The hottest trend in health benefits is the high deductible health plan or as optimists like to say, consumer driven health care which translates to; better have $2500 lying around to pay your deductible.

Typically accompanying the HDHP is a Health Savings Account or HSA. Here you have yet another way to save on a tax-free basis, this time not for retirement income or college costs, but your health care expenses. Don’t you feel lucky? You can’t have a HSA without having a qualified HDHP because the IRC says so and the IRS won’t like you if you try that.

For 2014 if you have a HSA you can save up to $3,300 for an individual and $6,550 for a family. If you are age 55 and older you get to save an extra $1,000. Contributions are 100% tax-deductible from gross income.

Seriously; serious savings gets you serious money … as long as you can pay all your health care expenses out-of-pocket with after tax out-of-pocket cash you have lying around.

2014 marks the 10-year anniversary of the introduction of health savings accounts (HSAs), created by Congress in 2003. HSAs provide account owners a triple tax preference. Contributions to an HSA reduce taxable income. Earnings on the assets in the HSA build up tax-free, and distributions from the HSA for qualified expenses are not subject to taxation.

A person contributing for 40 years to an HSA could save up to $360,000 if the rate of return was 2.5 percent, $600,000 if the rate of return was 5 percent, and nearly $1.1 million if the rate of return was 7.5 percent, and if there were no withdrawals.

In order to maximize the savings in an HSA to cover health care expenses in retirement, HSA owners will need to pay the medical expenses they incur prior to retirement on an after-tax basis using money not contributed to their HSA. Many individuals may not have the means to both save in an HSA and pay their out-of-pocket health care expenses. Also, HSA balances may not be sufficient to pay all medical expenses in retirement even if maximum contributions are made for 40 years.

“Lifetime Accumulations and Tax Savings from HSA Contributions” and “IRA Withdrawals in 2012 and Longitudinal Results, 2010–2012” July 2014, Vol. 35, No. 7 Employee Benefit Research Institute, 2014

It appears there are three saving priorities for most Americans; retirement, college expenses and health care expenses. So, where do you place your money first?