Health savings accounts (HSAs) are becoming more common as businesses across the U.S. place more of the onus of health care costs on their employees. As a result employees are now faced with a problem of not only learning the health insurance side of these new accounts, but also the investment side of Health Savings Accounts. Read our article, Health Savings Account (HSA) Basics, if you aren’t already familiar with HSAs.
My company recently switched to an HSA plan, so I thought I would share some of what I have learned.
Some investors may welcome the switch to an HSA plan because it offers the potential to generate returns inside the account. Money going into the HSA account is pre-tax, and as long as the money is spent on medical expenses, the money (and any gains generated inside the account) is also tax-free when you spend it. Sounds pretty amazing, right?
HSA providers typically offer several investment options to account holders, ranging from a basic money market fund to several different types of index funds. The HSA account my company offers gives us the option to keep the funds in a money market to which we can charge medical expenses directly via a debit card, or to invest in one of 13 Vanguard index funds. Most investors would probably think this is a no-brainer, and the Vanguard funds are the way to go. That was certainly my first reaction, but then I started to think of some potential drawbacks.
The first potential pitfall of investing in the funds is the time and convenience factor. With the Vanguard option, you are not able to get a debit card, and to get reimbursed for any expenses you must prove the legitimacy of the claims with receipts and other paperwork. In addition, it will take time to sell out your positions and issue a reimbursement check.
The second issue is the volatility of index funds, which are not guaranteed and may lose value. In the long term, most investors accept this risk, because historically the market has trended up over time. However, what if you get in a major accident next month and the market just lost 15 percent of its value? Some health expenses are just unpredictable. If you have a healthy savings account on the side you may be able to overcome this potential hurdle, but if you are relying on your HSA funds, you must make sure they are there when you need them.
If you are like most Americans and don’t have much in the way of extra savings, then you are probably better off keeping your HSA investments in a money market fund or low-risk bond fund--at least until you get the balance of your account high enough to cover your deductible. If you have a cushion to fall back on, then it is probably safe to invest in those higher-risk funds.