Can I Withdraw Money from my HSA?
The short answer is yes, but obviously, it’s more complicated than that.
The fact is you can withdraw money from your HSA for any reason, but you may not want to.
That’s because HSAs are tax-advantaged accounts that receive special treatment from the IRS.
If you drift too far from Uncle Sam’s plans for this money you could face some stiff penalties that would make a withdrawal somewhat painful.
In this post, we’ve listed all the ways we can think of to withdraw money from your HSA and the potential tax implications of each one.
What is an HSA?
If you already know what a health savings account (HSA) is, feel free to jump down to the next section about qualified withdrawals.
For those who would like a little context, an HSA is a tax-advantaged account that allows account owners to save and invest funds for qualified medical expenses on a tax-free basis.
And by “tax-free” we mean contributions, earnings, and withdrawals are all completely tax-free.
There is no other tax-advantaged savings account that provides this level of tax shelter.
Really, HSAs are an unrivaled saving and investing option from a tax avoidance standpoint. They’re a pretty big deal.
With that said, HSAs are not for everyone.
To be eligible to contribute to an HSA you must be covered by a high deductible health plan (HDHP) which means you will carry a higher degree of risk for the first dollars you spend each year for medical services or products.
The good news is that HDHPs have lower premiums.
The bad news, of course, is that you’re on the hook for a higher deductible, so if you have a need for medical care the HDHP could cost you more than a PPO.
If you enjoy good health, however, HSAs are hard to beat.
Once funds are in your HSA account, they are available for tax-free payment for any qualified medical expenses you may have, usually through the use of a debit card connected to your account.
I’m not going to publish an exhaustive list of qualified medical expenses because the rules are altered from time to time, but for the most part, any medical or dental services are covered, as well as medications and medical equipment required for treatment.
Now, the really great thing about HSAs is the ability to save and invest within the account. This means money in the account that you don’t immediately need for medical expenses can grow in the same tax-free manner indefinitely.
Unlike flex spending accounts that require you to “use it or lose it” each calendar year, HSA contributions and earnings stay in the account where they can grow for years and years.
Also, if you happen to have an HSA through your employer, the account and all the money within goes with you if you change jobs or retire. You never lose it.
By combining triple tax-free treatment with the uncapped potential for growth, HSAs are a potent savings option.
Finally, if you happen to reach age 65 with more money in the account than you can use for medical expenses, you can withdraw the money on a tax-deferred basis for any reason.
In this case, the withdrawn amounts would be subject to regular income tax which makes them identical to a Traditional IRA or 401(k) from a tax treatment standpoint.
We have more about HSAs in our post titled “What is an HSA?”.
Feel free to check it out for even more details about HSAs.
Withdrawals For Qualified Medical Expenses
The most straightforward and tax-efficient way to make a withdrawal from an HSA is for a qualified medical expense.
In this case, you’d simply use your HSA debit card to pay for medical costs or pay out of pocket and seek reimbursement from the account later. (More about reimbursement in a bit.)
By far, this is the most common use of HSAs. In 2022, 92.8% of HSA accounts were used exclusively for medical expenses, forgoing the option to invest the funds for future use.
The average HSA balance at the end of 2021 was $4,318, which is between the HDHP maximum individual deductible ($1,500 in 2023) and the maximum individual out-of-pocket ($7,500).
Considering this data and everything else we know about consumer behavior regarding HSAs, the bottom line is that most Americans keep enough in the account to cover immediate medical costs but do not appear to be highly focused on building up the account values for long-term investing.
While I am a happy advocate for leveraging the tax-saving potential of HSAs as an investment vehicle, just using them as a clearing account for medical costs will shelter quite a bit of cash from the tax man.
For every dollar used to cover a medical expense, you’ll save federal income tax, social security tax*, Medicare tax*, worker’s compensation insurance*, state income tax*, and any applicable municipal taxes*.
To super-size the effectiveness of your HSA, you should consider using the investment option. If you only spend your contributions, you’ll get a tax break on that but you won’t be taking advantage of tax avoidance on the earnings.
Along those lines, many HSA account holders use a strategy to pay for medical expenses out of pocket, then hold onto receipts for years only to seek reimbursement far into the future.
People do this because there’s no time limit on seeking reimbursement for HSA expenses. You can allow the account to grow so your earnings pay for those expenses later.
It is an unquestionably more efficient way to use an HSA, but you must keep detailed records of those expenses as well as any documentation to support your request for reimbursement.
In summary, HSAs were meant for medical expenses, so this is the best way to use the money.
(*Assuming you contribute to an employer-sponsored HSA and your state and local governments aren’t a bunch of tax-hungry goobers that won’t give you a break.)
Withdrawals For Non-Qualified Expenses
You can also withdraw money from your HSA for basically anything else.
Really. No one will stop you.
But…
If you use the funds for any reason other than a qualified medical expense, you’ll owe a 20% penalty and any applicable income tax on the withdrawal.
This is higher than the early withdrawal penalty for basically any other retirement account I can think of.
IRAs, 403s, and 401(k)s all have a 10% penalty for early withdrawals.
And in case you’re wondering, there are no exceptions to the qualified medical expense rules, nor are there any exceptions for hardships.
The government really, really wants you to save this money for medical expenses alone.
Well, until you turn 65 anyway.
Withdrawals After Age 65 For Non-Qualified Expenses
If you are age 65 or older, you can withdraw funds from an HSA, penalty-free.
Withdrawals at this age for any reason other than a qualified medical expense are subject to regular income taxes.
This is exactly how traditional IRA or 401(k) balances are taxed after you turn 59.5.
So, you’ll have to wait 5.5 more years, but in so doing you have provided some tax-efficient flexibility for medical expenses and, if you contributed through an employer, you may also have avoided taxes for Social Security, Medicare, and unemployment insurance.
It’s a good thing this flexibility exists too.
If you could only ever use the funds for medical expenses it would make it very difficult to continue saving after the account had amassed significant value.
Since there is at least some point at which you can make withdrawals penalty-free, you can treat an HSA like an extra retirement account.
Rolling an HSA Over to a 401(k) or IRA
Yeah, that would be great if you could do that, but you can’t.
So why did I bring it up? Because people ask this question quite often, though I have to admit, I don’t know why.
I don’t really see any advantage to rolling an HSA to an IRA even if you could, with the possible exception of leaving it to your heirs or earlier retirement.
Withdrawals by Your Heirs
So, why might someone want to roll their HSA over to an IRA before they leave it to their heirs?
Because, truthfully, HSAs are not the best way to receive an inheritance. They’re not really even a remotely good way.
You’ll want to use them up before you die if you can.
The issue with HSAs as an inheritance is that the entire amount of the inherited HSA must be liquidated and would subject the heirs to income tax for the whole balance in the same tax year.
So, the higher the balance in the HSA, the more will be subject to income tax.
At least with traditional IRAs, beneficiaries have up to 10 years to liquidate the account giving them a much higher level of control over their tax situation.
The good news is widowed spouses are completely exempt from this requirement and can continue to use the HSA as if it is their own until they pass away or exhaust the account.
Conclusion
There are many ways to access HSA funds, but only a couple that are worthwhile.
If you think you might ever need unrestricted access to your HSA money, you’d probably be better off contributing just enough to cover those qualified medical expenses and saving the rest in a more accessible, less penalizing place.
However, if you have a fully funded emergency fund, HSAs are one of the best wealth building tools available.
