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Cut Your Medical Costs Through Lower Taxes

9 things to know about health savings accounts

En español | If you're like most Americans, you're fighting a rising tide of health care costs. To make matters worse, the continuing battle over health care reform is ratcheting up the tension higher than ever.

Sign up for AARP's Money Newsletter.

However, health savings accounts (HSAs) let you pay for health care and save money at the same time, by lowering your taxes.

Here are nine questions answered about HSAs.

1. What is an HSA?

It's a federally approved account designed to help you save for qualified medical expenses on a tax-free basis.

How HSAs can save you money, piggy bank.

Keep more of your money in the piggy bank with a health savings account. — Photo by Dave Bradley/Getty Images(2

2. How does it lower my health care costs?

It reduces your federal income and FICA tax, and possibly your state tax, too. Whatever you deposit into the account up to tax deadline day in April becomes an "above the line" tax deduction for your previous year's tax return. That means you get the deduction even if you take the standard deduction on your tax return and don't itemize.

If your employer makes a contribution to your HSA, that money is also not counted as income for you and is not subject to income or FICA tax.

3. How do I set up and use an HSA?

  • First you purchase a low-cost, high-deductible health insurance policy available through a growing number of providers. The policy must be one that's been approved for the HSA program.
  • Then you open a dedicated savings account in which you make the tax-deductible deposits to pay for your medical care. Each year, you may deposit up to the amount of the deductible on your insurance policy.
  • You're now set to use the money to pay for your medical care. Once your expenses reach the deductible's level — if they do — the insurance policy kicks in to begin paying benefits.
  • You choose your own doctors. You may spend HSA funds on qualified medical expenses at any time — the list of those expenses is extensive and can be found on the policy. However, as of early 2011 over-the-counter medications cannot be bought with HSA dollars without a doctor's prescription.

4. Is there a limit on how much I can deposit?

Yes. It depends on such things as type of policy and number of days you were eligible during a year. But the absolute maximums are $3,050 a year for individuals and $6,150 for families. These numbers are subject to change each year.

People older than 55 are eligible to deposit an additional $1,000 under what is called the "catch-up" rule. The idea is to allow more money for medical care as a person ages.

Next: Funds in an HSA account can roll over if not spent. >>

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