Hate Paying Taxes? Then Max Out This Account
by Maurie Backman | Originally posted on The Motley Fool
If there's one thing most Americans can agree on, it's that paying taxes is a drag. And also, we'd generally prefer to pay less of them than more.
Luckily, there are several steps you can take to lower your tax bill. For one thing, knowing what credits and deductions you're entitled to can lead to a nice amount of savings. And putting money into tax-advantaged savings plans is another way to shield more of your earnings from the IRS.
With regard to the latter, many people are familiar with IRAs and 401(k)s. These plans -- at least the traditional versions -- offer a tax break on contributions. But the drawback is that funding an IRA or 401(k) plan means tying up money you can't touch without penalty until you reach age 59 1/2. But there's another tax-advantaged account you can look at that will help you lower your IRS burden without giving up access to your money for what could be multiple decades.
The benefits of health savings accounts
Although health savings accounts, or HSAs, have been around for a while, many people still aren't familiar with them, or they confuse them with flexible spending accounts (FSAs). HSAs are sort of a hybrid savings and investment account whose funds are supposed to be earmarked for healthcare spending purposes. They work like FSAs in that you set money aside on a tax-free basis for medical expenses, and then take withdrawals tax-free from your account to pay those bills as needed.
Here's where HSAs differ, though -- and in a good way:
FSAs require you to spend down your balance every year, whereas HSAs let you carry your funds forward as long as you want to.
FSAs don't let you invest unused funds, whereas HSAs do, so you can grow your money into a larger sum.
Meanwhile, HSAs are triple tax-advantaged:
Contributions go in tax-free.
Investment gains are tax-free.
Withdrawals are tax-free, provided they're used to pay for qualified medical expenses.
So, getting back to tax reduction strategies. If you're eligible for an HSA (not everyone is, which we'll talk about in a minute), any funds you put into that account represent money the IRS can't tax you on. And since healthcare expenses are something you're apt to encounter at any age, you'll have a choice -- you can either withdraw funds as needed to pay your medical bills, or pay those bills out of pocket and leave your HSA funds alone so they can grow even more.
Do you qualify for an HSA?
To contribute to an HSA, you have to be enrolled in a high-deductible health insurance plan. Not every plan falls under that umbrella, so not everyone qualifies for this type of account.
For the current year, an individual deductible of $1,400 or more, or a family deductible of $2,800 or more, will render you eligible for an HSA. From there, your annual contributions max out as follows:
$3,650 if you're single and under 55
$4,650 if you're single and 55 or older
$7,300 if you're saving on behalf of a family and are under 55
$8,300 if you're saving on behalf of a family and are over 55
So, let's say you're single and 35 years old, and you decide to max out your HSA. That means the IRS won't tax you on $3,650 of your income. That's a pretty good deal.
There's no sense in paying the IRS more money than necessary. It pays to see if you're eligible for an HSA. It could lead to a world of savings, all the while helping ensure that you have money at your disposal to cover healthcare costs as they arise.