Triple Tax Advantage

Steven (00:07):

Hello everyone and welcome to the next episode of the Retirement Tax Podcast, AKA the least boring tax podcast. I am one of your hosts, Steven Jarvis, CPA, and with me as always, the incredible, the illustrious, the legendary Benjamin Brandt.

Ben (00:21):

Pleasure to be of service, sir. Happy to be here.

Steven (00:22):

Ben. I don’t think it was that long ago we were together doing this, but just we’re getting into summer. We’re both doing fun things with our families. It seems like a lot of time has gone by. That’s why I felt like I needed to throw in a couple of extra compliments

Ben (00:32):

There. Well, thank you. I accept your compliments. Thank you.

Steven (00:35):

Perfect. Well, it’s also starting to be a busy time of year for clients reaching out with those out of filing season questions that tend to be, at least for me, and I’d be curious how it goes for you and your clients. It tends to be, Hey, I got this thing in the mail, or I heard my friend say this thing, or I saw this thing online, but there was a couple of themes recently I want to make sure we touched on the podcast today. One is Form 5498 and the other one is health savings accounts. These have both been coming up a lot from clients, so I just figured it’d be a good topic for our audience.

Ben (01:06):

Yeah, that’s great. Yeah, you finally get done with your taxes and you get this form from the IRS and your first thought is, oh, great. Or what did I do? What got missed? And a lot of times it’s much to do about nothing, but as a client and sometimes even me as an advisor, I don’t know until I look it up or look into it or give you a call. Is this something I should be freaked out about or is this just a whole bunch of nothing? And so that’s a great topic.

Steven (01:29):

Yeah, so the form 5498, just to take the suspense out of this, for all of you who have more important things to do than memorized tax forms, this is a form that gets sent out for qualified accounts, so this is going to come out for your 401k, your IRA, your Roth IRA, your HSA, when there’s activity during the year that may or may not have a tax implication. The reason I phrase it that way is because we’ve talked on the show many times about the Form 1099R that comes out when there is a taxable event or some kind of distribution or rollover, something like that, and that’s a form that we absolutely need for our tax filing. We need to make sure it gets included. The 5498, this tends to be the time of year they come out. They’re never timely. They almost are never helpful for the tax filing itself, but the great news is that it includes information that we can get from other places, and so most often the email I get from clients is, Hey, I just got this tax form. Do I need to amend something? And so if you’re sitting on some 5498s and thinking, oh no, what do I do? Most likely you don’t need to do anything. It’s great to keep those for your records. I really appreciate that my clients reach out and ask the question. I’d rather double-check than make an assumption and get it wrong. But that 5498, I look at it as more of a recap of what happened. It’s informational. It’s not something we need for the tax return.

Ben (02:44):

What sort of things you said it’s like a confirmation statement. What sort of things is it confirming like dates or numbers or contributions or distributions or what all could we expect to, what should we be looking for to make sure it’s right? 

Steven (02:59):

It’s going to be a combination of those things you’re listing. So again, the 1099R is going to focus on distributions. The 5498 is a little bit more comprehensive. It’s going to give you a fair market value of the account at December 31st of the prior year. It’s going to give you basis information. It’s going to give you rollover contribution or conversion information. And so this is going to show us some things that, to be honest, I would love it if this information was on the 1099R, just provide some clarity and confirmation, but the custodians aren’t required to have this out in February, and so most of them don’t. They wait until the summer to send it to us and give that moment of panic for a lot of people of, oh no, did I miss something?

Ben (03:37):

And is that because I can wait until April 14th at midnight to go and make a contribution for the prior year? Is that what they’re hedging? Is that, are they going to change right around tax time? Now

Steven (03:47):

You’re going into logic and reason. I would rather just complain about how the performances not timely. I forgotten not to do that as is the case with so many things, even as I complain about the 1099R, so often, a lot of the timing of this is based on the information they need and them being confident they’ve got the right information. So you are absolutely right. Since we can make these contributions up until the 11th hour, it would almost be irresponsible for the custodian to send these out prematurely. They might have to change or amend them later.

Ben (04:15):

That makes sense.

Steven (04:15):

Yeah, and I’m sure custodians everywhere appreciate you having their back on that one. Yeah. One of the accounts that a 5498 is going to come out for is a health savings account. And so that’s the other piece that I wanted to talk about because we’ve been getting a lot of questions from clients. We’ve got had a couple of questions come in from listeners on health savings accounts or HSAs. So we want to talk about a couple of specific things I’ve seen come up that might be something we haven’t talked about before. But Ben, when an HSA comes up with a new client or even an existing client that comes in and asks about an HSA, how are you framing this conversation?

Ben (04:46):

So all of our clients are retired and living off their savings or close to it. So usually they’re sort of towards the end or right at the end of their earning career. So when we have an HSA, what we want to find out from a client is are you using this in a pay-as-you-go fashion or are you using it like a Roth IRA? Because help dictate what our kind of next moves are. How are we planning to use it now and what are our plans for to the future?

Steven (05:09):

Yeah, that’s a great distinction to make because there’s value in the HSA, either way, whichever those routes you pick there is value. It’s just that we get an additional tax advantage from the HSA if we can use other cash flow in the short term to pay for health expenses. Because from a high level, the reason an HSA is such a powerful account is that we get a tax deduction going in. The funds in the account can grow tax-free and then we can use all of the funds as long as it’s for qualified medical expenses as we have those medical expenses, or we’ll talk about this more with a listener question, we can actually go back and use HSA funds for prior years if we decide in the future, Hey, I’m not sure I’m going to be able to use this for something else, so let’s go back and reimburse myself.

Ben (05:52):

As long as the HSA was open in advance of that. I talked about HSAs recently on the podcast and I got a couple that said, well, just as a point of clarification, do I have to have my HSA open? Could I open up an HSA today? And then remember 10 years ago that I got some dental work done and then turn in that receipt? My understanding is not, and I guess that’s an important distinction if we’re talking about using a multi-year approach on our distributions. 

Steven (06:15):

That’s a great distinction and you’re absolutely right that we can potentially go look in the rear view mirror and go backwards and say, Hey, I want to reimburse myself for something that happened in the past, but the HSA had to have been open during that year, so we can’t open it now and go backwards. There’s a couple of really important distinctions when it comes to HSAs. They might feel like ticky-tacky things, but they’re important that I see get missed on a fairly regular basis. And I’m sure these are things that are on your checklist you’re helping clients with, but since a lot of people get into an HSA because it got brought up as an employee benefit at work, they look at it as a savings account that there’s going to put money into and take money right back out of, so which you still get a tax deduction for the money going in. So still a benefit there, but we’re missing out on that tax-free growth. The other thing that goes along with that, if people are just looking at it as a savings account, they forget or don’t realize that they can invest those dollars that by default it’s probably going into some kind of savings account that’s earning little to no interest. But if you’re going to hold those dollars for the long term, there are investment options to say, Hey, can we capitalize on some more meaningful growth than just trying to keep pace with inflation?

Ben (07:21):

Absolutely. Yeah, and this is something I should probably look in for myself. I’m using my HSA as like a Roth IRA, so I pretty much have s and P500 index funds in there. But if a person is sort of in between too, think about maybe a high-yield savings account or a money market because it’s surprising how rates are four, five or plus percent for a money market. So you can still use it as a day-to-day savings account, but if you’ve got a few thousand or several thousand dollars in there at 5%, I mean it probably is worth your while to log into Fidelity or Charles Schwab or wherever your HSA is and get it out of the cash sweep account that’s paying nothing and get it into a money market or something like that that has very little risk, but we’ll actually pay you something.

(08:01):

So maybe even an intermediate step, but it is great. So with the HSA, we’ve got a lot of really great things combined. So like you mentioned, Steven, the deduction that I get from my 401k or my IRA and then the tax-free growth and then the tax-free distribution that I might get in my Roth. So I get to combine some of the fun things that we already have access to in financial planning and put it into one product called an HSA. So it’s great if you’re using the HSA for the deduction, it’s great if you are going like a pay-as-you-go, but if we want to supercharge it and invest it, I recognise not everybody’s in the position to do that, but if you can do it, it’s a pretty neat thing. 

Steven (08:36):

Absolutely. I’ve got a couple of things on my list here that are going to be relevant to people who already have HSAs, but I want to touch on just a couple of other clarifications for people who might not yet have an HSA because as we talk about this supercharged account, I don’t want everyone to rush out tomorrow and open up an HSA. There are some criteria that you need to meet to qualify for this specifically, you need to have a high-deductible health insurance plan. Most plans are really good about making this clear because it’s almost an incentive of you signed up for their plan is, oh, I can also have an HSA, but you can’t just go sign up for an HSA just because you want to. And then the amount you can contribute to an HSA each year is dependent on whether you have individual coverage or family coverage. And family coverage can be a spouse or a dependent child, but we got to make sure that we know what our contribution limit is and our eligibility is.

Ben (09:24):

So kind of a rule of thumb, this probably isn’t foolproof, but if you’re searching for health coverage on, unlike the Affordable Care Act site and your eyes are drawn to the lower premiums versus the higher premiums, those lower premium plans are almost always going to come with an HSA, because we have to remember that insurance is the transfer of risk. So if we want a low premium, we’re saying we’re going to bear a lot of that risk on ourselves. And an HSA is one of the ways that we can do that. It’s essentially an emergency fund for health. So good rule of thumb, if your premium is lower, you probably have access to an HSA, but it’s a good thing to double check because who wants the hassle of refining another plan because it wasn’t the one we’re looking for. 

Steven (10:00):

Yeah, absolutely. And there’s other things that go into this that are way beyond your and my expertise because depending on the medical situation of the individual or their family, it might make way more sense to have a high premium low deductible plan that’s going to cover everything from day one as opposed to mess around with an HSA. But if it makes sense for your life situation, if you qualify for one, it can be a powerful tool for 2024, the contribution limit for someone with family coverage is $8,300. Unless we’ve passed the age for the catch up contribution, then we get an extra thousand dollars per person for if we have family coverage. The caveat there is that similar to an IRA or a Roth, the HSA is an individual account, and so if you want to take advantage of the catch up contribution for two people, then you have to have two separate accounts so that catch up kicks in at the age of 55. So if we will fast forward several years for me, we’ll just say my wife and I are both over 55. If all along the HSA has been in my name, and this is the year we turned 55, I could contribute $8,300 to my HSA for my family coverage. I could contribute an extra thousand dollars for my catch up, but then my wife would have to create a separate HSA to capture her a thousand dollars catch up. So there’s some administrative things there we need to be aware of.

Ben (11:16):

And no, your HSA contributions are going to be above the line. Right? I’m trying to think of somebody that might be a thousand dollars away from the next IRMAA bracket. Would that be a possible grant of a stay of execution?

Steven (11:27):

Yeah, that’s a great point, Ben. The HSA deduction doesn’t go on Schedule A, it’s not part of our itemized deductions. It’s an adjustment to income, so it’s going to lower income before we get to AGI, which is what goes into Irma and several other thresholds. So yep, it’s an above the line deduction. You’re absolutely

Ben (11:44):

Right. One of the very, very few above the line that we get for IRMAA. Right. I mean, I can’t think of very many.

Steven (11:50):

QCD has come to mind, but you’re right, there are not many. Okay. Let’s talk about a specific situation that I’ve had come up a couple of times just in the last few weeks. So this is going to be more applicable to people who already have HSAs and you were just talking about IRMAA. Obviously it’s related to Medicare. So then the question that comes up is how does an HSA work in the year that I start Medicare? Because Medicare is not a high-deductible health insurance plan. You no longer qualify to contribute to an HSA once you have Medicare coverage. And there’s a couple of things we need to be really aware of, and Ben, I’d love your insight on this because that’s one of those times I hand off to an advisor. I’m not the one directly involved in helping someone sign up for Medicare, but what can happen when you sign up for Medicare is there’s the date we apply and then the date that it’s effective and that effective date can go backwards and so up to six months.

(12:36):

So one of the questions I got a client that is going to be, I’m trying to clarify with him is whether he’s applying on October 1st or it’s going to be effective on October 1st, this makes a difference because we get essentially a pro rata of share of the eligibility for the year. So if we no longer have high deductible coverage starting October 1st, we’d basically get three quarters of the contribution limit for the year. Where this gets a little bit more complicated because life is never simple. If I’m going to be eligible for Medicare this year, but my wife is not and she’s still going to have high deductible coverage, then we’ve got to look at this individually for what our total limit is going to be. And so in that case, we’d basically look at each of us as having single coverage. My single coverage would go through October 1st. Hers would go through the whole year and we would have the respective contribution limits.

Ben (13:24):

Yeah, once you’re on Medicare, no new money can come in, but we can still use our HSA for some things post Medicare post 65. It’s a formula and I’d have to look it up. But yeah, it can be pretty interesting when we’re trying to max out the HSA or max out as much as we can that year plus a spouse plus retirement plus Medicare. There’s lots of variables, so it can be pretty interesting calculation.

Steven (13:45):

Yeah, it’s definitely an area where we want to make sure that we’re not trying to get too cute with the IRS because I’ve had it suggested to me before of, okay, if I’m going to be eligible on October 1st, why don’t I just max fund it on September 30th for the whole year and all of my money will be in there and I’ll be set. It’s like, well, that is one way to look at it, but it’s not the way the IRS looks at it. And you’re still going to have over contributed. And if you end up in a situation where you’ve over contributed, you do want to correct that because if the IRS has this fun little thing they do when you over contribute to a qualified account, they call it an excess contribution and they charge you a 6% excise tax per year forever until you correct it. And so even if they don’t notice it right at first, if at some point they notice or when they do notice, they’re going to go back and say, how long was that in there? And we’re going to charge you 6% a year as an excise tax to basically penalize you for having not followed the rules correctly.

Ben (14:39):

6% a year could definitely add up, especially if you don’t catch the error for or they don’t catch the error for a long time. That’s interesting. With excess contributions, is there any kind of a basis that’s in your HSA or they don’t worry about that, they want you to correct it? 

Steven (14:52):

They’re only going to charge it on the excess portion of it. So if I’m going to use round numbers here, this math isn’t going to be right, but if I contributed the full 8,300 and I was only allowed to contribute 6,000, I don’t have to go back and pull out all 8,300. Just the difference, just the excess portion and that excess portion is the only portion they’re going to charge that excess tax on with the caveat of any growth on that 2300 would also be subject to the excise tax. It’s the excess plus any growth.

Ben (15:17):

Yeah, that sounds like a nightmare, especially if a few years have gone by and you’ve made other distributions and you’re growing it like Roth IRA style HSA. So yeah, that could be tricky. Let’s not do that.

Steven (15:28):

Specific clarification to make there is because again, I hear people trying to get cute with this. Sometimes if I over contribute by $2,300, that doesn’t mean I go find a bill to cover with that $2,300 to get it out of the account by reimbursing a bill, I need to go back and specifically work with the administrator to say, Hey, this is a distribution of an excess contribution. I need the money to be paid back to me. And then we’re going to on our tax return report, hey, this full amount was contributed. We took out the excess, and ideally we’re going to be proactive about this and never end in this situation. But if we correct this in the first year, it happens before that tax return is filed, we can actually correct it without any excise tax if we get it on that first tax return. So it pays to be proactive.

Ben (16:10):

Love it. Do we have time for a listener question?

Steven (16:12):

Let’s do a listener question. Yeah.

Ben (16:14):

Alright, listener, this is Franklin who writes in and says, I have recently heard the HSA podcast. You mentioned that you can use HSA funds for expenses decade old, but not sure if you mentioned the HSA was open decades ago. My understanding is that the HSA could be used for expenses accrued prior to HSA opening. My mom loaded up her HSA few years back and asked if she could take it all out. Her HSA balance is greater than her medical expenses. Since she opened the account or had an HSA was under the impression that she could not count those medical expenses prior to having an HSA account open. Is that right? So we kind of answered the listener question before we asked it, I guess, but in this case, the day that she started her HSA to today would be expensive that she could count. Now, if we’re still alive, we’re still accruing medical expenses. So if your balance of your HSA is 30,000 and you can only find 20,000 worth of expenses, we’ll just wait a while and then we’ll get that extra 10,000. So I dunno if your goal is to cash it all out in one year or just to exhaust what’s in there, but yeah, I guess we can’t go beyond the origin date of our HSA.

Steven (17:15):

Yeah, you’re spot on Ben. The other thing I’ll add in there is that even if we, let’s say we’re the picture of health until the day we die, which I wish that all the best on everyone. The other nice thing kind of silver lining about an HSA is if we grossly misjudge how much our medical expenses are going to be, we’re not suddenly in this terrible situation where we have this money locked up, we’re never going to be able to use because what the SA allows us to do is after the age of 65, we can essentially treat that as an IRA and we can use it for non-medical expenses and only pay our ordinary income tax, which ideally I’d rather have it tax-free, but paying ordinary income tax isn’t the worst thing in the world if it allows me to use those funds for other things to have the retirement that I want to have. I find it’s helpful to reinforce to people that there isn’t some outcome here where you’re out that money. That can be a fear in people’s mind of, well, if I put in for medical expenses, I can only use it for medical expenses, otherwise the money’s just gone.

Ben (18:11):

Yeah, that’s a great distinction. Yeah. So worst case scenario, if we’re talking about need to get this money out and I only have so many qualified distributions that I can find, it was just like an I distribution. We’re paying income tax on it. So as far as worst case scenarios go, that’s a pretty tame one. 

Steven (18:24):

Ben, this is a fun discussion as always Got a listener question there. We got to go through some great details on HSAs. So thanks everyone for listening in this week and until next time, remember to not let the tax man hit you where the good Lord split you.

Steven (Disclaimer) (18:36):

Hi everyone. Quick reminder before you go. While Ben and I feel very strongly about the information we’re sharing on this podcast, it is for educational purposes only and should not be taken as specific tax, investment or legal advice. You need to make sure that you are working with a professional to evaluate how these concepts apply to your specific situation before you take action.