The tax code is a monument to complexity and tedium. Occasionally, however, a few lines of text buried deep in a subchapter can produce a sleeper hit—an account type or planning strategy that assumes an important role in our financial lives.

The 401(k) plan is one example. Originating in 1978 as a tax-code curiosity, this deferred-compensation provision commands center stage in workplace retirement plans today.

The health savings account (HSA) may become another. In 2003, Congress created HSAs for use with high-deductible health plans (HDHPs) which typically charge lower premiums (the amount you pay every month) than traditional health plans, but impose higher deductibles and other costs (so you have to pay more out of pocket before your insurance starts to chip in).

The tax treatment of HSA contributions can help ease the potential burden of these higher out-of-pocket costs. Combined with the HSA’s flexibility, these tax breaks are attracting people interested not only in paying for health care, but also in saving for long-term goals such as retirement or a child’s education. Enrollment in HDHPs, and thus access to HSAs, is growing rapidly.*

A tax-break trifecta

With most tax-advantaged accounts, you pay taxes on contributions now (a Roth IRA) or later (a traditional IRA). The HSA gives you a third option: never.

With an HSA:

  • Contributions are tax-free. In 2017, the maximum contribution for an individual (including any employer contribution) is $3,400. For a family, it jumps to $6,750. If you’re 55 and older, you can contribute an additional $1,000.
  • Earnings are tax-free. You can keep HSA contributions in cash or invest them in longer-term assets like stock and bond funds. Unused contributions can roll over from year to year.
  • Withdrawals are tax-free, as long as you use the money for qualified medical expenses.

That last clause may sound restrictive. For most of us, it’s not. Even if we’re hale, hearty—and lucky!—enough to make it to retirement without ever setting foot in a doctor’s office, we can use the funds accumulated in an HSA to pay Medicare premiums or to pay for long-term-care insurance.

HSAs can boost long-term savings

In new Vanguard research, HSAs: An off-label prescription for retirement saving, we compare the growth of $1 of income saved in various accounts. The hypothetical example below shows that $1 of earnings invested in a traditional or Roth IRA (assuming a constant tax rate) will be worth $1.64 in 20 years. Put that same dollar in an HSA, and it grows to $2.19.

The favored tax status of HSAs can boost long-term savings

$1 of marginal income

Note: This hypothetical illustration does not represent the return on any particular investment, and the return rate is not guaranteed. Calculations assume a 4% annual real return, a 2% annual income return, a 25% income tax rate, and a 15% capital gains tax rate. Lower tax rates may make the taxable investment more favorable and the difference between taxable and tax-deferred less. Any future changes in the tax treatment of investment earnings or a rate of return that is lower than the assumed rate of return may further affect the comparison. Investors should consider their time horizon and current and expected future tax rates before making an investment decision.

Source: Vanguard calculations.

Contributions to an HSA can increase our ability to save. If you’re enrolled in an HDHP, and expect to incur out-of-pocket health care costs in the future, taxes saved on HSA contributions may free up cash to set aside for retirement, an emergency fund, or another savings goal.

Complexity and opportunity: How to use an HSA effectively

As with any creature of the tax code, the rules governing HSAs are complex. But this complexity rewards careful study.

Consider HSAs an addition to the tool kit we can use to meet a variety of goals. For some of us, the HSA may make sense as a checking account for current or future health care expenses. For others, it may be most valuable as a uniquely tax-advantaged long-term savings vehicle.

Whatever your reason for opening an HSA, one thing is clear: The versatility and power of the HSA has the makings of a hit.

*Fronstin, Paul. 2017. Trends in Health Savings Account Balances, Contributions, Distributions, and Investments, 2011-2016: Statistics from the EBRI HAS Database. Employee Benefit Research Institute Issue Brief No. 434.


  • All investing is subject to risk, including the possible loss of the money you invest.
  • We recommend that you consult a tax or financial advisor about your individual situation.