HSA + 401(k): Fuel your future

It’s fun to dream about your future and the lifestyle you want once you retire. But the real question is: How will you pay for it? Studies show that a couple can expect to spend $301,000 on health care in retirement, and those costs could put a dent in your retirement budget. Proactively saving for retirement health care expenses now could help you be prepared.

Planning for retirement: Two is better than one

To help you get your finances on track with your goals, consider a strategy of saving into not only one, but two tax advantaged accounts: A 401(k) account and a Health Savings Account (HSA).

An HSA and 401(k) both offer tax savings that allow the money you contribute to each account to grow tax-free to help increase your savings over time. But the key to this “two is better than one” strategy is understanding how these valuable benefits can work together to help your money go even further to support your retirement needs.

Tax free growth

Any interest or earnings on your account are tax free, which could add up to more dollars to use toward qualified health expenses. This is just one reason why utilizing the investing feature of your HSA account could be an important component of your long-term financial plan.

Understanding how to use each account

The strategy is simple. In retirement, use your HSA funds for health care expenses, so you can preserve your 401(k) for lifestyle and other expenses.

Healthcare icon

HSA

Tax-free withdrawals

Pay for qualified health care expenses

Retirement icon

401(k)

Taxable withdrawals

Preserve to support desired retirement lifestyle

 

If you were to take money out of your traditional 401(k) to cover your health care needs, you would be required to pay taxes on those distributions.

Let’s look at the numbers

To help you get a better idea of how this strategy can help you get the most from your retirement savings, consider this example: If you were to withdraw $301,000 from your traditional 401(k) to cover health care costs for you and your spouse during retirement, you could potentially owe about 20% of that amount in combined federal and state taxes. But if you were to withdraw funds from your HSA to pay for your qualified health care expenses, those distributions would not be subject to tax. In this example, it means you could potentially save more than $75,000 in taxes – money you could use instead to help fund your retirement dreams.

Calculation shows a comparison between the amount one would have to withdraw from a traditional 401(k) vs from an HSA to pay for health care costs in retirement. Assuming health care costs of $301,000 for an average 65-year old couple, one would need to withdraw a total of $376,250 from a 401(k), which includes $75,250 of taxes on the withdrawal. Taxes assume 25% combined federal and state tax rate. With an HSA, withdrawals are tax-free for qualified health care costs and only $301,000 would need to be taken out to cover the same costs.

Example is for illustrative purposes only. Assumes 20% combined federal and state tax rate in retirement. 401k distribution of $376,250 needed to cover taxes ($376,250 x 80% = $301,000). Bank of America and its affiliates do not provide legal, tax or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.

Take charge of your financial future

Understanding how your HSA and 401(k) work together can help you be proactive about saving money for your future. Start by taking a look at your overall savings strategy and then consider how you might take advantage of these two benefits. For your HSA, consider contributing up to the annual limit, or at least more than you plan to spend, to benefit from the tax savings and account growth opportunity. If your employer offers a 401(k), contribute at least enough to take advantage of any match they may offer, or up to the annual limit if you can.

  To learn more, view our Better Together webinar.

1 Employee Benefits Research Institute, Issue Brief, no. 481, May 16, 2019. A 65-year-old couple, both with median drug expenses needs $301,000 to have a 90% chance of having enough money to cover health care expenses (excluding long-term care) in retirement. Savings needed for Medigap Premiums, Medicare Part B Premiums, Medicare Part D Premiums and Out-of-Pocket Drug Expenses for Retirement at age 65 in 2019. A 65-year-old man needs $144,000 or a 65-year-old woman would need $163,000 to have a 90% chance of having enough money to cover health care expenses (excluding long-term care) in retirement.

2 Assumes 20% combined federal and state tax rate in retirement.