If you paid more taxes in 2022 than you expected, you might want to explore strategies to reduce your bill in 2023. Retirement contributions and charitable donations might come to mind, but they're not the only ways you can lower your tax liability. Some might argue they're not even the best way to do so.
There's another account, available to many U.S. workers, that promises huge tax benefits you can enjoy now and in the future. But too often, people forget it even exists. Here's what you need to know about it.
Image source: Getty Images.
You can't beat a triple tax advantage
Traditional retirement accounts either give you a tax break when you make your contributions or when you withdraw your money in retirement. But health savings accounts (HSAs) offer both. Money you put into one of these accounts reduces your taxable income, just like contributions to a 401(k) or traditional IRA. And your earnings grow tax-free.
As an added bonus, you won't pay any taxes on your HSA withdrawals as long as you use the money for medical expenses. You can also use your funds for non-medical withdrawals, though you will pay taxes on these, plus a 20% penalty if you're under 65 at the time.
But for those who avoid early withdrawals, the account is essentially another retirement account with bonus features. In addition to tax-free medical withdrawals, you also won't have to worry about required minimum distributions (RMDs) with an HSA. These are mandatory annual withdrawals the government requires you to take from nearly all retirement accounts beginning in the year you turn 73. Since HSAs don't have them, you can leave your money alone until you're ready to use it.
But it's not open to everyone
HSAs are a great place to stash your extra savings, but you need to make sure you're eligible first. In 2023, that means having an individual health insurance plan with a deductible of $1,500 or more or a family plan with a deductible of $3,000 or more. If your health insurance doesn't fit this criteria, you'll have to stick to traditional retirement accounts for your savings.
Those who qualify may contribute up to $3,850 to an HSA in 2023 if they have an individual health insurance plan. Families may contribute up to $7,750 this year. And adults 55 and older can add another $1,000 to the aforementioned limits.
You can open an HSA with many banks and brokers if you don't already have one. It's best to choose a company that will enable you to invest your funds. Otherwise, you won't earn much on your money over time.
Do your best to avoid tapping your HSA funds if you plan to use them for retirement. Save for planned medical expenses in a high-yield savings account and keep money for unplanned expenses in an emergency fund where you can access it quickly when you need it.
You should also double-check HSA qualification requirements and contribution limits each year before you put money there. You could run into trouble with the IRS if you put money in an HSA when you're not eligible. And if you're unaware of rising contribution limits, you could miss out on the opportunity to stash even more money for your future.
