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HSA vs. HRA

As Americans pay more for medical costs, many seek new ways to save in case of emergencies. Some may not even know they have access to health savings accounts (HSAs) and health reimbursement accounts (HRAs). But smart consumers who are prudent about their physical and financial health would do well to consider the HSA vs. HRA decision. So which one should you get? The answer depends on your individual needs. But we will explore each in detail. We’ll also analyze the pros and cons of each.

What is an HSA?

An HSA helps individuals save for future medical expenses. Plus, an HSA offers three distinct tax benefits. First, you fund them with “pre-tax” dollars, often directly taken from your paycheck. This means the account gets funded before your paycheck gets taxed. As a result, you lower your taxable income. In other words, you end up getting taxed as if you made less money. And with rules set by the Trump Tax plan, you may even find yourself falling into a less burdensome tax bracket.

Second, your money grows tax-free. You can open an HSA through participating employers or a financial institution such as a bank or mutual fund company. Uncle Sam will not tax any interest, dividends from stocks or capital gains your money generates. This stands as a very rare benefit. Brokerage accounts, for example, get taxed.

Finally, the IRS won’t tax withdrawals you make for qualified medical expenses. These include procedures and services that your own health insurance plan may not even cover. But here’s the catch: in order to open an HSA, you must pair it with a high deductible health plan (HDHP). Generally speaking, these types of health insurance plans most benefit young and healthy people who don’t expect much medical costs throughout the year.

Below, we explore some HSA pros and cons.

HSA Pros

  • Triple tax benefits
  • Tax-deductible contributions
  • Money rolls over into next year
  • Covers wide range of medical expenses, including ones your insurance plan may not cover
  • Sometimes linked to convenient debit cards

HSA Cons

  • Need to pair it with an HDHP
  • Not the best choice for everyone
  • You may need long-term care, for which a low-deductible health plan may be a better choice

What Is an HRA?

Sometimes called a health reimbursement arrangement, an HRA works a bit differently than an HSA. First of all, employers solely fund this type of account. So if yours offers one, you’re in luck. Second, you don’t necessarily withdraw funds from HRAs to cover medical costs. Instead, you must incur these expenses first. Your employer will then reimburse you for qualified medical expenses.

However, the IRS considers a wide range of services for which you can get reimbursed. In addition, your employer decides how much to contribute toward employees’ HRAs each year. And you can’t contribute your own money into the account.

HRA Pros

  • Entirely employer-funded
  • Covers a wide range of medical expenses
  • Don’t need a particular health insurance plan to open an HRA

HRA Cons

  • Can’t contribute your own money
  • Employer sets annual contribution limits and most of the rules behind your plan
  • Plan doesn’t come with you if you leave your company or get fired

Who Should Get an HSA?

You may be asking yourself, who do HSAs make sense for? Generally speaking, you should open an HSA account if you’re comfortable with having an HDHP. These plans have high deductibles. So it may be harder to pay it off before your insurance kicks in. However, these plans typically carry lower monthly premiums. This serves as a plus for both you and your employer.

With that said, HSAs tend to suit people better who don’t expect many health expenses. In this case, HSAs can be extremely beneficial. You will save money for healthcare costs over time and when you get sick, you can make tax-free withdrawals for qualified medical expenses. And when you’re thinking about what can you deduct at tax time, you’d be ahead of the game. You can deduct your contributions from your federal taxable income. On the upside, you have until April 15 of the following year to contribute toward the maximum and claim it as a deduction.

The HSA maximum contribution for 2018 stands at $3,450 for individual coverage and $6,900 for family coverage. That increases in 2019 to $3,500 for single coverage and $7,00 for family coverage. And if you’re age 55 or older, you can make additional contributions of $1,000 per year. In fact, many experts suggest using HSAs as part of your holistic retirement planning strategy.

However, HSAs may not make sense if you expect frequent medical attention due to something like chronic illness. In this case, a low-deductible health plan may be a better choice. Your premiums would be higher. But you’d meet your deductible and therefore insurance benefits sooner.

Of course, you can’t open an HSA if you have a low-deductible health plan. Nonetheless, you can always open a flexible spending account (FSA) if your employer offers one. These function similarly to HSAs. You contribute money on a pre-tax basis. And you can make tax-free withdrawals to cover qualified medical expenses. However, your money won’t generate interest. And you can’t roll over your account balance into the following year. You must use your funds within the year or they disappear.

Who Should Get an HRA?

HSA vs HRA

If your employer offers an HRA, you should definitely consider opening an account. These are entirely employer-funded. So you don’t have to shed a dime off your paycheck. And you’d have a medical emergency fund at your disposal in case something happens.

You may not get any tax benefits yourself. In fact, your employer ends up getting the tax break. But this arrangement encourages more employers to offer these accounts to their employees. And it’s one of those rare examples of free money in the workplace. The only other one that comes close is whether your employer offers a company match on its 401(k) plan.

And even though you don’t need to pair an HRA with an HDHP, you still have to link it with a group health plan as determined by your employer.

Can You Have an HSA And an HRA?

Yes, you can. But you must follow a few rules. We’ll explain them in detail. First, make sure you have an eligible HDHP. The IRS determines the criteria for HDHPs. For 2019, an HDHP must have a minimum deductible of of $1,350 for single coverage and $2,700 for family coverage. The out-of-pocket maximum also can’t exceed $6,750 for single coverage and $13,500 for family coverage.

However, it must meet other stipulations as well. For example, you can’t open an HSA if your HDHP covers non-preventive-care services before you meet your deductible. The best way to figure out if you’re covered by an eligible health insurance plan is to speak with someone in your employer’s benefits department. If you’re eligible and your employer doesn’t offer one, you can always open one through several banks. In addition, you can’t have any other health insurance plan that’s not high-deductible to qualify. But if you meet these conditions, you can open an HSA as well as an HRA. However, your options get limited to the following.

Limited Purpose HRA: This type of plan covers certain medical services, including dental and vision procedures. However, your expenses won’t reduce your deductible.

Post-Deductible HRA: Covers qualified medical expenses after you pay off your deductible.

Retirement HRA: These cover qualified medical expenses after retirement. However, you can use your HSA up until that point in time before you lose eligibility for an HSA. At this point, you can use your HRA.

The Takeaway

HSAs and HRAs offer several benefits including tax breaks. You also get the peace of mind that comes with having access to an emergency medical fund in case you need it and your health insurance won’t cover certain services. However, these are not the best for everyone. HSAs typically benefit healthy people who don’t speculate needing much medical attention throughout the year. If you suffer from a chronic condition, a flexible spending account with a low-deductible health insurance plan may be best for you. Not everyone has access to HRAs. But you should definitely consider one if your employer offers one. In fact, these are entirely employer-funded. It’s basically free money for your medical expenses.

So there you have it. Are you satisfied with any of these? If so, you can seek your employer’s benefits department to see if you have access to an HSA, an HRA or both.

Tips

HSA vs HRA

  • You may have a qualified HDHP. But what if your employer doesn’t offer HSAs as part of its benefits package? Don’t sweat it. You can open an HSA these days through most major banks. To help narrow your choices, we published a report on the best banks in the United States.
  • Investing in HSAs can be as beneficial as it is complicated. You have to follow certain rules to enjoy all the tax breaks and avoid penalties. If you need some guidance, you can use our SmartAsset financial advisor matching tool. It asks you some simple questions before linking you with up to three local advisors. Each specializes in areas such as retirement planning and saving for healthcare costs.

Photo credit: ©iStock.com/malamus-UK, ©iStock.com/cnythzl, ©iStock.com/Rawpixel

Javier Simon, CEPF® Javier Simon is a banking, investing and retirement expert for SmartAsset. The personal finance writer's work has been featured in Investopedia, PLANADVISER and iGrad. Javier is a member of the Society for Advancing Business Editing and Writing. He has a degree in journalism from SUNY Plattsburgh. Javier is passionate about helping others beyond their personal finances. He has volunteered and raised funds for charities including Fight Cancer Together, Children's Miracle Network Hospitals and the National Center for Missing and Exploited Children.
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