HSA vs. 401(k): What's the Difference?

Health savings accounts (HSAs) and 401(k) accounts are both savings vehicles that offer substantial tax benefits for people planning for retirement. Beyond that, there are significant differences between the two. HSAs are narrowly focused on paying for costs related to healthcare. Funds in 401(k) accounts can be used for any purpose or cost a retiree may encounter. HSAs and 401(k)s are both used by many retirement savers, because of the different benefits they offer. A financial advisor can help you think through your choices when it comes to retirement planning.

What Is an HSA?

HSAs became legal in 2004 after the U.S. Congress passed enabling legislation the year before. HSAs were intended to give people who weren’t members of Medicare some of the same tax benefits provided by medical savings accounts (MSAs) for enrollees in high-deductible Medicare Advantage plans.

HSAs offer exceptional tax advantages. To begin with, funds deposited by HSA accountholders are deducted from income, reducing their taxes for that year. In addition, returns earned from investing the funds in the accounts accumulate tax-free. Finally, withdrawals from HSA accounts are not taxable, as long as they are used for qualified medical expenses.

HSAs vary widely in the amount of documentation required to verify that withdrawals are used to pay qualifying health expenses. Some accept the account holder’s assignment of costs without question. Others require copies of receipts. Retaining records pertaining to any costs paid with an HSA will make justification easier if questions come up.

Only members of high-deductible health insurance plans (HDHPs) can have HSAs – but not all employer-sponsored HDHPs have HSAs. The good news, though, is that any HDHP member can set up an HSA. The employer doesn’t need to offer one. HSAs can be opened at many banks.

What Is a 401(k)?

The tax code was amended in 1978 to enable 401(k) accounts. Since then, 401(k)s have become the most popular type of retirement account for private-sector employees. Other 401(k)-like accounts include 457 plans for public-sector workers and 403(b) plans for employees of nonprofits. Only members of HDHPs can have HSAs – but not all employer-sponsored HDHPs have HSAs. However, any HDHP member can set up an HSA. It’s not necessary for the employer to offer one. HSAs can be opened at many banks.

Tax deferral gives the 401(k) its appeal. Your contributions to the account are subtracted from your taxable income. In addition, earnings on investments made with funds in the account also escape taxation as current income.

Taxes only get levied when 401(k) account holders withdraw funds. This tax deferral can present significant savings, especially if the account holder’s income is lower, as is typical in retirement. However, if an account holder withdraws funds before age 59.5, taxes as well as a 50% penalty get charged.

IRS Rules for HSAs and 401(k)s

The main catch to HSAs is that they are only available to people enrolled in high-deductible health insurance plans (HDHPs). The IRS sets the requirements for qualifying HDHPs, adjusting them for inflation every year or two. For 2024, the minimum deductible to qualify as an HDHP is $1,600 for individuals and $3,200 for families.

The IRS also caps out-of-pocket expenses for qualifying HDHPs. Out-of-pocket expenses include deductibles, copayments and coinsurance, but don’t include out-of-network expenses. For 2024, the out-of-pocket cap is $8,050 for individuals and $16,100 for families.

In addition to specifying deductibles, the IRS limits the amount you can contribute to your HSA. This figure also adjusts for inflation every couple of years. For 2024, individuals can contribute $4,150 and families can contribute $8,300. HSA account holders who are at least 55 can put in another $1,000. Also, some employers make HSA contributions for employees and these employer contributions do not count against the cap.

One more HSA restriction involves qualifying medical expenses. The IRS defines qualifying medical expenses as anything that can be deducted as a medical expense on a tax return. These include many costs not covered by health insurance, including dental and vision. IRS Publication 502 has details on qualifying expenses.

For 401(k)s, the IRS limits the amount account holders can deposit. The caps are periodically adjusted to reflect inflation. For 2024, the maximum amount is $23,000. In 2023 the limit was $22,500. People over age 50 can contribute an additional $7,500 in 2024, which was the same in 2023.

Employers may choose to match employee contributions, typically only up to a certain limit. These employer contributions don’t count towards the annual 401(k) contribution cap.

Holders of a 401(k) must begin making withdrawals from their plans at age 70.5. The IRS specifies the amounts of these required minimum distributions (RMDs). Failing to take RMDs as required exposes a 401(k) account holder to penalties of up to 50% of the amount that should been withdrawn.

Comparing HSAs and 401(k)s

The triple-tax-free aspect of an HSA makes it better for tax management than a 401(k). However, since HSA withdrawals can only be used for healthcare costs, the 401(k) is a more flexible retirement savings tool.

The fact that an HSA has no RMD gives it more flexibility than a 401(k). However, only members of HDHPs can have HSAs. HDHP members pay lower premium costs, but having a high deductible may involve excessive risk, especially for people with chronic health conditions.

While only HDHP members can have HSAs, it doesn’t matter if the employer doesn’t include an HSA as a feature of the company’s health plan. On the other hand, 401(k) plans are only available to people whose employers offer 401(k)s.

Annual HSA contribution caps are much lower than 401(k) contribution. That makes 401(k) plans better for saving bigger amounts.

Bottom Line

HSAs and 401(k)s represent two different approaches to tax-advantage saving for retirement. However, both accounts can be used together as part of an overall retirement savings strategy. HSAs focus on health costs and funds in the accounts can be spent on qualifying health costs before or after retirement without incurring taxes or penalties. Rigid rules on 401(k) withdrawals mean funds deposited to these accounts are effectively locked up until age 59.5.

Tips on Retirement Planning

Combining 401(k) accounts with HSA accounts calls for careful evaluation of an individual’s financial, tax and health situation. This decision can benefit from the assistance of a financial advisor. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
If you are considering planning for retirement, SmartAsset’s retirement calculator can help you estimate how much you will need to retire comfortably.