Why HSAs Are Underused
Behavioral barriers may be stopping workers from taking full advantage of the benefits of health savings accounts.
The growth of the health savings account, or HSA, available only to those with a high deductible health plan, or HDHP, has been remarkable. In 2002, only 2% of large employers offered HDHPs. By 2014, this number had exploded to 75%, with many of these employers offering HDHPs as the only health-care plan option. But how much do we really know about how workers are using their HSAs? Are their benefits being used effectively? To answer this question, HelloWallet analyzed more than 400,000 account-level records from one of the largest HSA administrators in the country.
After analyzing this rich dataset, we concluded that account holders largely fail to take full advantage of HSAs. We discovered two areas in which many account holders do not optimally use their HSAs. First, very few account holders invest their HSA funds, allowing their health-care buying power to be eroded by inflation and missing an opportunity to grow their savings tax-free via market returns. Second, very few account holders contributed the statutory maximum to their HSAs, hampering their abilities to accrue large health savings balances and increasing the risk that they will have to cover large medical expenditures that bump up against their plan's out-of-pocket maximum.
A Failure to Invest
We found that only 4% of workers in the sample invested any portion of their HSA balance. One of the largest differentiators of HSAs lies in the ability for account holders to invest their balances and accrue tax-free capital gains. A wealth-maximizing strategy is for workers to invest at least some portion of their HSA balances and to leave that invested portion relatively untouched, if possible, to take advantage of compounding investment returns. However, very few workers are employing this strategy, instead allowing their buying power to be eaten away by inflation.
Indeed, after 20 years, an account holder's HSA balance will be worth about 17% less in real terms if they choose to keep their funds in a non-interest-bearing account, assuming inflation of 2% per year. In comparison, an account holder who invests will enjoy a balance that is more than 100% larger in real terms, assuming a return of 4% annually, and they both continuously contribute the identical amount.
Many workers do not contribute the statutory maximum allowable by the IRS, reducing their tax benefits, hampering their abilities to pay for large medical expenditures with their HSAs and also compromising their prospects of accruing large balances over the course of their careers. Only 5% of the sample we studied contributed the maximum amount, which for the study period was $3,250 for single coverage, $6,500 for family coverage, with an additional $1,000 in catchup contributions for account holders over age 55.
Though HSAs help employees offset health-care expenses incurred while participating in HDHPs through tax savings, it is imperative for employees to manage their accounts wisely. This requires them to contribute a sufficient amount of money to cover large medical expenses. High-deductible health plans, by definition, demand a higher deductible than traditional health-care plans and are most often accompanied by a higher out-of-pocket maximum. Employees then assume greater financial risk when faced with mid- and large-sized medical expenditures. The highest allowable out-of-pocket maximums for HDHPs are $6,450 for single coverage and $12,900 for family plans, though some plans offer lower out-of-pocket maximums.
Among those who made contributions during the study period, the mean deferral was nearly $1,600 and the median deferral was just $700. This behavior is tax-inefficient, reduces buying power for health care, is potentially dangerous if the account holder faces large medical bills, and it may force account holders to finance their medical bills in an sub-optimal way, such as with a credit card or with a loan from their 401(k).
Behavioral barriers may be preventing workers from maximizing the benefits offered by their HSAs. First, workers may be under-contributing toward their HSAs because saving for health care lacks saliency. Second, the task of projecting one's out-of-pocket health-care expenditures is unfamiliar for many employees.
With respect to investing, many HSA administrators do not allow first-dollar investing. Rather, account holders must have accumulated a balance ($1,000, for example) before they are eligible to invest their HSA funds. This additional bit of friction all but ensures that account holders who are not particularly engaged with their finances will not open a brokerage account within their HSAs and that only the most engaged and financially savvy account holders will elect to invest some portion of their balances. And some fund lineups offered by HSA administrators to their account holders may leave something to be desired, discouraging potential investors.
Despite the lack of use of HSAs, there is reason for optimism. HSAs are still a relatively new instrument, first legislated in 2002 but only recently gaining widespread adoption among employers. Perhaps as these accounts become a fixture in workers' benefits packages, much like 401(k)s, adoption and use will improve over time.
This article originally appeared in the December/January 2016 issue of Morningstar magazine. To subscribe, please call 1-800-384-4000.