Draw from HSA rather than Roth?

[Out-to-Lunch]

I'm not sure what you mean by one-tenth in the second sentence of yours I quoted above. I believe that non-qualified HSA disbursements after death are merely taxable; I don't believe there is a 10% penalty on top. Perhaps I misunderstood your meaning.

I'm not Phroig, but I assumed s/he was speaking about the need to drain an inherited tIRA within 10 years.

 

[SecondCor521]

I'm not Phroig, but I assumed s/he was speaking about the need to drain an inherited tIRA within 10 years.

Ah, that makes sense.

...

As an aside, another member here sent me some info via PM about my assertion on this thread about reimbursing for those receipts after death. I found their argument persuasive, checked the law, and it agrees with them. I was wrong on that point.

I asked them to correct me publicly so all can learn; hopefully they will do so.

 

[MBSC]

As an aside, another member here sent me some info via PM about my assertion on this thread about reimbursing for those receipts after death. I found their argument persuasive, checked the law, and it agrees with them. I was wrong on that point.

I asked them to correct me publicly so all can learn; hopefully they will do so.

I'm glad you were able to confirm my suspicions. I'm not a tax expert but found a slight difference in IRS language. Publication 969 includes both "pay" and "reimburse" when the account holder is alive and can take distributions. It only states "paid" by the beneficiary after the account holder is deceased and it stops being an HSA. No mention of being reimbursed for previously paid qualifying expenses.

Distributions From an HSA

You can receive tax-free distributions from your HSA to pay or be reimbursed for qualified medical expenses you incur after you establish the HSA.
TIP: If you are no longer an eligible individual, you can still receive tax-free distributions to pay or reimburse your qualified medical expenses.

Death of HSA Holder
Spouse isn’t the designated beneficiary.
The account stops being an HSA.
TIP: The amount taxable to a beneficiary other than the estate is reduced by any qualified medical expenses for the decedent that are paid by the beneficiary within 1 year after the date of death.

IRS Form 8889 Instructions
If the designated beneficiary is not the account beneficiary's surviving
spouse, or there is no designated beneficiary, the account ceases to be
an HSA as of the date of death.
On Part II, line 15, for a beneficiary other than the estate, enter qualified
medical expenses incurred by the account holder before the date of
death that the beneficiary paid within 1 year after the date of death.
https://www.irs.gov/pub/irs-pdf/i8889.pdf

HSA Death Distribution Request
Part B: Non-Spousal Beneficiary
Liquidate the decedent’s HSA investments, if applicable, close the account, and send the remaining HSA funds, less fees and expenses, to me at the address listed above. I understand that any amount distributed to me may be included in my gross income. I also understand that the amount to be included in my gross income may be reduced by any amount used to pay for eligible medical expenses that were incurred by the decedent before death and paid by me within one year.

Source: https://www.optum.com/content/dam/optumfinancial/CYC_HSA_Death_Distribution_Request_Form.pdf

FWIW, Fidelity requires a Medallion signature guarantee if the HSA non-spouse/estate payout is over $100k.

Non-spouse (page 5): https://www.fidelity.com/bin-public...e/HSA_non-spouse-beneficiary-distribution.pdf

Estates (page 8): https://www.fidelity.com/bin-public...A_distribution-estate-entity-requirements.pdf

 

[SecondCor521]

And here's the law:

https://www.law.cornell.edu/uscode/text/26/223

You can search for "Treatment after death of account beneficiary" there.

 

[RunningBum]

Thanks for digging into this. That does look clear that your heirs can't use your saved receipts for reimbursement. More incentive to start drawing from the HSA fairly early.

I ran some scenarios for draining the HSA. Future medical expenses are so hard to predict other than the eligible Medicare premiums. My last 10 years have been all over the place, but figuring something in the $3000-4000 range I should be ok with holding the HSA to use tactically in my 60s. Of course this will be different for each individual. I'd say if you are above $100K it's worth taking a look.

 

[RunningBum]

Like some others here, I'd like to aim on the conservative side of not dying with an HSA balance. So I have a spreadsheet that projects forward balances, growth, contributions, and withdrawals.

I somewhat arbitrarily chose to empty my HSA around age 75, which means that I stop contributions after about two more years, and start draining it at 65. I plan to casually monitor the situation and adjust going forward, of course.

But I also assume withdrawals only for expenses I've already incurred or know I will incur such as Medicare premiums at 65 onward. Some here prefer to have more with the expectation that they'll have more expenses than can be counted on, which is reasonable but not my preference.

Having just gone through this myself (previous post), I'm curious if you've modeled making contributions every year (to get the taxable income reduction) and drawing all you can now (to rein in growth) rather than stopping contributions to control growth.

 

[Montecfo]

The money is still available to pay your medical expenses if withdrawn from the HSA and held in a taxable account, should you need it. If you don’t, your son won’t have to pay tax on it on top of one-tenth of your tax-deferred account balance. That’s what I’ve been wondering about. (Isn’t this one reason why so many here pay substantial taxes do IRA-Roth conversions?) My HSA is not as big as yours, but still low six figures. We have LTC insurance.

You can't beat free of tax. If I wanted taxable savings I would have avoided the HSA and had far less money to pay medical expenses.

And I still need more according to experts. And you do too. Average $300k plus for a couple in retirement excluding LTC. I'm hoping to pay or reimburse all of those from HSA.

And if I pull the funds into taxable then I have to pay taxes to sell stocks and use the funds to pay medical expenses. I do not see that as a benefit.

As far any any tax my son might owe, it is conjecture. I would forecast it to be zero.

But if we are healthier than average he will inherit some "found money" on which he will be glad to pay tax. Aside: There is no deferral over 10 years for HSA funds inherited by non-spouse.

 

[SecondCor521]

Having just gone through this myself (previous post), I'm curious if you've modeled making contributions every year (to get the taxable income reduction) and drawing all you can now (to rein in growth) rather than stopping contributions to control growth.

No, I haven't really.

It's a good idea to explore, but with my particular numbers it doesn't (yet) make sense for me.

I've only had an HSA for two years, and I've accumulated less than $1K in qualified medical expenses during that time. So drawing that out now wouldn't really do me much good compared with stopping contributions after two more years.

If I continued to contribute for much more than two more years, with my conservative assumptions and preference for avoiding dying with an HSA, then I'd risk facing a runaway HSA.

In retrospect it might have been smart to open an HSA with $1 when the first came out so I'd have more qualified medical expenses, but that ship has sailed for me.

...

Another thing I realized, is that my HSA contributions come from my taxable account, where I have to realize LTCG at about a 50% basis/LTCG ratio to get dollars.

That costs me LTCG and takes up AGI room that could be used for Roth conversions, so I'm not entirely convinced that overall I'm making the right move.

The contribution does turn around and give me that much more Roth conversion room for the same AGI.

 

[Phroig]

Having just gone through this myself (previous post), I'm curious if you've modeled making contributions every year (to get the taxable income reduction) and drawing all you can now (to rein in growth) rather than stopping contributions to control growth.

Rather than stopping contributions entirely, you could contribute the amount of your expense and withdraw it immediately. If you can contribute through payroll deduction, you save not only on income tax, but also SS (if you're under the SS max income) and Medicare taxes.

I'm still contributing the max, but starting this year am using current and past receipts to take equivalent distributions.

 

[Sue J]

Due to it's almost limitless possibilities the Roths are last. The HSA is next in line after various RMSA and RHSA are depleted. The latter two have employer contributions which my ex employer could claw back if they desired. Therefore we're hitting them hard with all annual Medicare Part B, Part D as well as Medigap plan G premiums withdrawn monthly.

You can use an HSA to reimburse for Medicare Part B or Part D but not for a Medicare supplement (Medigap). From Publication 969 - Health Savings Accounts and Other Tax Favored Health Plans, Page 9 - https://www.irs.gov/pub/irs-pdf/p969.pdf

Insurance premiums.You can’t treat insurance pre-
miums as qualified medical expenses unless the premi-
ums are for any of the following.
1.Long-term care insurance.
2.Health care continuation coverage (such as coverage
under COBRA).
3.Health care coverage while receiving unemployment
compensation under federal or state law.
4.Medicare and other health care coverage if you were
65 or older (other than premiums for a Medicare sup-
plemental policy, such as Medigap).

 

[sengsational]

Sigh. You all have made me realize I should start modeling this....something I haven't done.

I have a folder with receipts and I have a notebook with a report for each year. I did my first HSA pull last year and I moved the receipts and report to the folder for 2021 taxes (an idea I got from a thread here on ER.org). I probably should put a large-font note in that documentation that anything found here is still available for a pull.

Disappointing for the consensus to be converging on pulls after death not being legit. Doesn't that put another thing to worry about at bad time? "Oh, Dad's just been rushed to the hospital, let's log on and pull out the HSA funds before he croaks!"

ETA: I wonder if you could put a future-dated transfer in, and as long as you were healthy-enough and had cognition enough to log in and advance the date, it wouldn't transfer. But as soon as something prevented you from doing that, it would transfer.

 

[RunningBum]

ETA: I wonder if you could put a future-dated transfer in, and as long as you were healthy-enough and had cognition enough to log in and advance the date, it wouldn't transfer. But as soon as something prevented you from doing that, it would transfer.

Great idea! Unfortunately, Fidelity doesn't seem to have a future transfer out of the HSA option. Also, you can only transfer out money held in cash, not invested. If you aren't going to invest it to grow, you might as well withdraw now.

 

[SecondCor521]

Disappointing for the consensus to be converging on pulls after death not being legit. Doesn't that put another thing to worry about at bad time? "Oh, Dad's just been rushed to the hospital, let's log on and pull out the HSA funds before he croaks!"

ETA: I wonder if you could put a future-dated transfer in, and as long as you were healthy-enough and had cognition enough to log in and advance the date, it wouldn't transfer. But as soon as something prevented you from doing that, it would transfer.

The above complications, in addition to the taxation, are part of why I'm aiming to drain mine by 75. I won't get the maximal tax benefits, but I also hope to avoid the above issues.

 

[tulak]

In my case I use the HSA for all current medical expenses. I’m in a high tax bracket (32%+) and the way I look at it, I’m saving more now by using the HSA account instead of after tax dollars.

This seems like a reasonable strategy to me, but when I read threads like this, I feel like I’m missing something.

Unless you have access to cheap money now for medical expenses, why not use the HSA?

 

[Done]

This HSA custodian seems to be saying that past eligible expenses can be reimbursed after the death of the account holder.

Can my heirs pay my eligible expenses from my account after I die?

Yes. Your heirs can reimburse tax-free any eligible expenses that you incurred prior to your passing. The estate has up to one year from the date of your death to make these distributions. This strategy of paying your final bills may make sense when the beneficiary isn’t your surviving spouse and therefore the beneficiary faces a tax consequence upon receipt of
the proceeds from your account. If your surviving spouse is your beneficiary, it may be more advantageous for them to reimburse your final expenses with estate funds and keep your account balances under the tax protection of their new HSA.

Another custodian is more explicit:

The money in your account may be used tax-free for up to one year after you die for any eligible medical expenses you incurred after you opened the account, as long as you kept the receipts and the expenses hadn’t already been reimbursed by the HSA.

 

[RunningBum]

In my case I use the HSA for all current medical expenses. I’m in a high tax bracket (32%+) and the way I look at it, I’m saving more now by using the HSA account instead of after tax dollars.

This seems like a reasonable strategy to me, but when I read threads like this, I feel like I’m missing something.

Unless you have access to cheap money now for medical expenses, why not use the HSA?

I'm not sure what you mean by having "cheap money" available. You've already paid the income tax on your regular earnings. Now it's just money. The tax you paid to get it is now history, and not a factor in this decision.

If you pay from your after tax account, you can let the HSA money grow tax free. If you pay from the HSA, your after tax money can grow, but unless you donate it or die with it you'll eventually pay a tax on it, and you'll also pay tax on any dividends it generates.

If you'd have to sell some funds and incur taxable capital gains, that may be a different story. But if you're in the 32% bracket, it seems like you must have a lot of cash available unless you spend it all on other stuff. I wouldn't be reinvesting in your after tax account if it makes you pay medical bills out of your HSA.

 

[Montecfo]

The above complications, in addition to the taxation, are part of why I'm aiming to drain mine by 75. I won't get the maximal tax benefits, but I also hope to avoid the above issues.

But instead of drain it, don't you mean keep expense draws current?

I can always use extra money.

It had been an interesting discussion.

 

[SecondCor521]

But instead of drain it, don't you mean keep expense draws current?

My plan (I'm 52 now):

Continue to accumulate receipts.
Contribute another $7.3K or so in the next few years.
Reimburse myself for accumulated receipts at 65.
Start using it for Medicare premiums at 65.

The above plan means that the account will hit it's highest value when I'm 65 and be completely zeroed out when I'm about 75. So it'll go from about $9K now to about $53K at age 65 to $0 at age 75.

So I'll be current in the sense that I won't have any outstanding unreimbursed expenses starting at age 65, but it'll take another 10 years of Medicare premiums to drain the amount that has accumulated.

(If one concedes my preference to drain my HSA by age 75, then I don't see any advantage in continuing to contribute more. If someone else does I'd be interested in discussing that logic/strategy - maybe there's something I'm missing.)

The plan, of course, is subject to revisions, updates, and investment returns.

 

[RunningBum]

(If one concedes my preference to drain my HSA by age 75, then I don't see any advantage in continuing to contribute more. If someone else does I'd be interested in discussing that logic/strategy - maybe there's something I'm missing.)

Let me make up a scenario, and you can see if it holds up for your situation.

It's a few years down the line when you've reached the point you think you no longer want to contribute, but you are still eligible. You have (at least) $5K in your HSA and also have medical receipts for reimbursement, and you have the option to contribute $5K. You don't want to both contribute and keep the existing money in to avoid having HSA money after age 75. So your choice is to do nothing, or withdraw $5K and turn around and contribute $5K. No need to raise money through selling funds with capital gains as you posted earlier.

Choice 1, no contribution nor withdrawal: You've got that $5K still growing in the HSA tax free, and no change to your taxable account, and no change to your taxable income.

Choice 2, withdraw $5K and then contribute $5K: All you did was take $5K out and put it back in, so you've still got $5K growing in your HSA tax free (minus the few days you had it out) and no net change to your taxable account. BUT, you get a $5K taxable income reduction, which reduces your MAGI for ACA, IRMAA, and perhaps FAFSA purposes, and lowers your tax bill.

Choice 2 is a clear winner.

Let's throw in the complexity that you don't have $5K in the HSA yet to withdraw and you'll have to sell funds and take LT cap gains to make the contribution. You'll be taxed at favorable LTCG rates on only the gains (not the full $5K), which is more than offset by the $5K reduction on regular income you get with the HSA contribution. You will still come out with lower MAGI and lower taxes.

One more thought regarding asset placement that probably applies to everyone that has an HSA and a Roth. If there's a choice to be made, keep your higher growth investments in the Roth and lower growth in the HSA. There's issue with the Roth growing as much as it can; but if the HSA outgrows your reimbursable medical expenses, the amount over that is no longer withdrawn tax free.

 

[SecondCor521]

^ I was hoping for some explanation like that, so thanks.

Let's suppose that I have exactly $5K in receipts in my HSA folder that I haven't reimbursed myself for. Let's further suppose that my HSA balance is exactly where I want it and any more contributions would leave me with "too much" in my HSA. And let's finally continue with my preference to drain it by age 75.

For tracking purposes, let's color $5K of my HSA dollars purple, and the remaining HSA dollars can be the regular green color.

With Choice 1, the $5K of HSA receipts stay in my HSA folder, the $5K of purple dollars stay in my HSA and produce more green dollars, and my HSA remains just below the "too much" level.

With Choice 2, the $5K of HSA receipts get moved from my HSA folder, the $5K of purple dollars come out of my HSA, and my HSA consists entirely of green dollars (the $5K I put back in are now regular green dollars). My HSA is now about "$5K plus growth" too big.

So while I see your point about Choice 2 being a clear winner for a given tax year X, it does seem to create a future problem in terms of contributing to a runaway HSA because I've had to use up that $5K of receipts in the distribute/contribute round trip in Choice 2.

...

As far as the complexity goes, that might work for situations where taxable income is high enough, I'll have to puzzle on that some more.

...

On asset placement, my HSA, Roth, and taxable are 100% stock (and my HSA plan/spreadsheet assumes such). My only small bond allocation is in my traditional IRA per the standard Bogleheads asset placement strategy.

 

[RunningBum]

I knew it was too easy. I missed that $5K removal of expenses factor.

 

[Phroig]

^ I was hoping for some explanation like that, so thanks.

Let's suppose that I have exactly $5K in receipts in my HSA folder that I haven't reimbursed myself for. Let's further suppose that my HSA balance is exactly where I want it and any more contributions would leave me with "too much" in my HSA. And let's finally continue with my preference to drain it by age 75.

For tracking purposes, let's color $5K of my HSA dollars purple, and the remaining HSA dollars can be the regular green color.

With Choice 1, the $5K of HSA receipts stay in my HSA folder, the $5K of purple dollars stay in my HSA and produce more green dollars, and my HSA remains just below the "too much" level.

With Choice 2, the $5K of HSA receipts get moved from my HSA folder, the $5K of purple dollars come out of my HSA, and my HSA consists entirely of green dollars (the $5K I put back in are now regular green dollars). My HSA is now about "$5K plus growth" too big.

So while I see your point about Choice 2 being a clear winner for a given tax year X, it does seem to create a future problem in terms of contributing to a runaway HSA because I've had to use up that $5K of receipts in the distribute/contribute round trip in Choice 2.

...

As far as the complexity goes, that might work for situations where taxable income is high enough, I'll have to puzzle on that some more.

...

On asset placement, my HSA, Roth, and taxable are 100% stock (and my HSA plan/spreadsheet assumes such). My only small bond allocation is in my traditional IRA per the standard Bogleheads asset placement strategy.

This might not resolve any of the issues above, but after 65, you could withdraw your money penalty-free to pay for non-medical expenses. You still owe taxes. Is a comparison of tax savings now with the present value of the tax owed on future taxable withdrawals relevant? (Could you pretend you're making additional IRA contributions??

 

[SecondCor521]

This might not resolve any of the issues above, but after 65, you could withdraw your money penalty-free to pay for non-medical expenses. You still owe taxes. Is a comparison of tax savings now with the present value of the tax owed on future taxable withdrawals relevant? (Could you pretend you're making additional IRA contributions??

In my case, I have no excess taxable income (I only create income either because I am spending it or as tax arbitrage via Roth conversions), so any HSA contributions are ultimately coming from my taxable account.

If I do the HSA contribution, the dollars grow tax free, and I could withdraw them penalty free, but I'd owe ordinary income taxes on those withdrawals for non-medical expenses.

If I leave the dollars in my taxable account, they grow also essentially tax free (my taxable is VTSAX, and my income is low so the <2% qualified dividends are essentially taxed at 0% federally and 6.5% state, so that's a tax drag of 2% * 6.5%, which is almost zero). They can be withdrawn penalty free before 65, and I'd only owe cap gains on a portion of the proceeds.

It still seems like a better idea to me to leave excess dollars in taxable (or Roth) than in the HSA.

I sincerely appreciate the discussion and the various points raised because it makes me clarify my thinking and helps ensure I'm executing strategy as well as I can. And if I'm still missing something or seem to be, please anyone feel free to point it/them out!

I do think HSAs are awesome for medical expenses, but after looking at it, it sure looks to me that overfunding has risks. I know all the cool YouTube kids are saying "triple tax free" and I like that I don't need earned income to contribute, but for me it doesn't pencil out as far as I can tell in my situation - again, just for excess dollars.

 

[RunningBum]

I do think HSAs are awesome for medical expenses, but after looking at it, it sure looks to me that overfunding has risks. I know all the cool YouTube kids are saying "triple tax free" and I like that I don't need earned income to contribute, but for me it doesn't pencil out as far as I can tell in my situation - again, just for excess dollars.

It sounds like you are going to contribute for a few years, and then stop, right? You'll have more info in a few years. If you're still healthy and medical expenses are still low, then it probably does make sense to stop contributing. If you do start having more medical expenses, and especially if it's a chronic condition, you might see that it makes sense to continue contributing. Since you don't have to make the decision now, your options are open. Hopefully you'll find it's best not to contribute!

 

[SecondCor521]

Yes, that is exactly what I plan to do. I also do stuff to try to improve my odds of being healthy.