2018 Year-end opportunity
The end of the year presents a unique opportunity to look at your overall personal financial situation. With factors like tax reform, life changes or just working towards your goals, end of year is an especially important time to review things. Weaving together your prior planning, subsequent changes and revised goals helps you stay on course. Following are some things you consider before the year ends.
Income Tax Planning –Ensure you are implementing tax reduction strategies like maximizing your retirement plan contributions, tax loss harvesting in portfolios and making charitable contributions can all help reduce current and future tax bills. It is also good to review your current year tax projection based on your income and deductions year to date and how that may be different from before.
Estate Planning – Examine your current estate plan to visualize what would happen to each of your assets and how the current estate tax law will impact you. Be sure that your estate planning documents are up to date – not just your will, but also your power of attorney, health care documents, and any trust agreements and beneficiary designations are in line with your desires. If you have recently been through a significant life event such as marriage, divorce or the death of a spouse, this is especially important right now.
Investment Strategy– The recent market volatility has some people feeling uncomfortable. Market declines are a natural part of investing, and understanding the importance of maintaining discipline during these times is imperative. Regular portfolio rebalancing will allow you to maintain the appropriate amount of risk in your portfolio. And, if you are retired and living off your portfolio, you also want to maintain an appropriate cash reserve to cover living expenses for a certain period of time so that you do not have to sell equities in a down market.
Charitable Giving – There are many ways to be tax efficient when making charitable gifts. For example, donating appreciated stock could make sense in order to avoid paying capital gains taxes. Further, you may want to consider bunching charitable deductions by deferring donations to next year or making your planned 2019 donations ahead of time. If the numbers are large enough, you might even consider a private foundation or donor advised fund for your charitable giving. If you are at least 70.5 you may want to consider Qualified Charitable Distributions (QCD) from your IRA.
Retirement Planning –Think about your future when working becomes optional. Whether you expect a typical full retirement or a career change to something different, determining an appropriate balance between spending and saving, both now and in the future is important. There are many options available for saving for retirement, and we can help you understand which option is best for you. If you are at least 70.5 you should be sure your 2018 Required Minimum Distributions (RMD) from your IRAs are paid before year-end. Qualified Charitable Contributions, up to $100,000, will be treated as part of your RMD but not taxed.
Cash Flow Planning – Review your 2018 spending and plan ahead for next year. Understanding your cash flow needs is an important aspect of determining if you have sufficient assets to meet your goals. If you are retired, it is particularly important to maintain a tax efficient withdrawal strategy to cover your spending needs. If you have not yet reached age 70.5, it is prudent to ensure you are making tax-efficient withdrawal decisions. If you are over age 70.5 make sure you are taking your RMDs because the penalties are significant if you don’t.
Risk Management – It is always a good idea to periodically review your insurance coverages in various areas. Recent catastrophic events like hurricanes serve as a powerful reminder to make sure your property insurance coverage is right for your needs. If you are in a Federal disaster area, there are additional steps necessary to recover what you can and explore the tax treatment of casualty losses. Other areas of risk management that may need to be revisited include life and disability insurance.
Education Funding – Funding education costs for children or grandchildren is important to many people. While the increase in college costs have slowed some lately, this is still a major expense for most families. It is important to know the many different ways you can save for education to determine the optimal strategy. Often, funding a 529 plan comes with tax benefits, so making contributions before the end of the year is key. With the added flexibility of funding k-12 years (set at a $10,000 limit), 529 accounts become even more advantageous.
Elder Planning – There are many financial planning elements to consider as you age, and it is important to consider these things before it’s too late. Having a plan in place for who will handle your financial affairs should you suffer cognitive decline is critical. Making sure your spouse and/or family understands your plans will help reduce future family conflicts and ensure your wishes are considered.
The decisions you make each year with your personal finances will have a lasting impact. I hope this has begun to generate some insight to areas of your personal finance that need attention. Please contact me if you have any comments or questions.
2019 retirement account limits announced by IRS
The limit on 401(k) contribution are increased to $19,000, $25,000 for those that are are 50 or older.
The limit on IRA contribution are increased to $6,000, $7,000 for those that are 50 or older.
IRA Adjusted Gross Income deduction phase- will start at $103,000 fir joint returns and $64,000 for single and head of household filers.
IRS Link: COLA Increases for Dollar Limitations on Benefits and Contributions
The above apply for contributions made for 2019 not for 2018 contributions made in 2019
Revised 2018 Optional Standard Rates
The changes apply for years beginning after 2017.
The recent tax legislation suspended (2018-2025) the deduction for miscellaneous itemized deduction subject to the 2% of adjusted gross income. Among the items that are not deductible during the suspension period are unreimbursed employee travel expenses and moving expenses. The notice states that the standard business mileage rate (54.5 cents per business mile) does not apply during the suspension period. The standard business mileage rate will only apply to deductions in determining adjusted gross income.
The maximum standard automobile cost for computing the allowance under a fixed and variable rate plan are $50,000 for passenger automobiles (including trucks and vans) placed in service after December 31, 2017.
The changes can be found in Notice 2018-42
Changing Market: Municipal Bonds After Tax Reform
January is typically a strong month for the municipal bond market, but 2018 began with the worst January performance since 1981, driven by rising interest rates and uncertainty over changes in the Tax Cuts and Jobs Act (TCJA).1 The muni market stabilized through April 2018, but uncertainty remains.2 The tax law changed the playing field for these investments, which could affect supply and demand.
When considering these dynamics, keep in mind that bond prices and yields have an inverse relationship, so increased demand generally drives bond prices higher and yields lower, and vice versa. Any such changes directly affect the secondary market for bonds and might also influence new-issue bonds. If you hold bonds to maturity, you should receive the principal and interest unless the bond issuer defaults.
Tax rates and deduction limits
Municipal bonds are issued by state and local governments to help fund ongoing expenses and finance public projects such as roads, water systems, schools, and stadiums. The primary appeal of these bonds is that the interest is generally exempt from federal income tax, as well as from state and local taxes if you live in the state where the bond was issued. Because of this tax advantage, a muni with a lower yield might offer greater value than a taxable bond with a higher yield, especially for investors in higher tax brackets.
The lower federal income tax rates established by the new tax law would cut into this added value, but the difference is relatively small and unlikely to affect demand. Many taxpayers, especially in high-tax states, may find munis even more appealing to help replace deductions lost to other TCJA provisions, including the $10,000 cap for deductions of state and local taxes.3 Tax-free muni interest can help lower taxable income regardless of whether you itemize deductions.
The large corporate tax reduction from a top rate of 35% to 21% is likely to have a more significant effect on demand for munis. Corporations, which own a little less than 30% of the muni market, may hold on to bonds they currently own but become more selective in purchasing future bonds.4
A tightening market
The supply of new municipal bonds dropped after the fiscal crisis as local governments became more cautious about borrowing. The TCJA further tightened the market by eliminating “advanced refunding” bonds, issued to replace older bonds at lower interest rates, which have accounted for about 15% of new issues.5
This is expected to reduce the supply of bonds for the next three years or so, but the long-term effects are unclear. If interest rates continue to climb, there is less to gain by replacing older bonds, but local governments may issue taxable bonds if they see an opportunity to reduce interest payments. There may also be changes to the structure of future muni issues.6
Risk and rising interest rates
Munis are considered less risky than corporate bonds and less sensitive to changing interest rates than Treasuries, making them an appealing middle ground for many investors. For the period 2007 to 2016, which includes the recession, the five-year default rate for municipal bonds was 0.15%, compared with 6.92% for corporate bonds. Most of those defaults were related to severe fiscal situations such as those in Detroit and Puerto Rico. The five-year default rate for investment-grade bonds (rated AAA to BBB/Baa) was just 0.05%.7
Treasuries, which are backed by the full faith and credit of the U.S. government as to the timely payment of principal and interest, are considered the most stable fixed-income investment, and rising Treasury yields, as occurred in early 2018, tend to put downward pressure on munis.8 However, Treasuries are more sensitive to interest rate changes, and stock market volatility makes both Treasuries and munis appealing to investors looking for stability.
Bond funds
The most convenient way to add municipal bonds to your portfolio is through mutual funds, which also provide diversification that can be difficult to create with individual bonds. Diversification is a method used to help manage investment risk; it does not guarantee a profit or protect against investment loss.
Muni funds focused on a single state offer the added value of tax deductibility for residents of those states, but smaller state funds may not offer the level of diversification found in larger states. It’s also important to consider the holdings and credit risks of any bond fund, including those dedicated to a specific state. For example, in October 2017, many state funds still held Puerto Rico bonds, which are generally exempt from state income tax but carry high credit risk.9
If a bond was issued by a municipality outside the state in which you reside, the interest may be subject to state and local income taxes. If you sell a municipal bond at a profit, you could incur capital gains taxes. Some municipal bond interest may be subject to the alternative minimum tax.
The return and principal value of bonds and bond fund shares fluctuate with changes in market conditions. When redeemed, they may be worth more or less than their original cost. Bond funds are subject to the same inflation, interest rate, and credit risks associated with their underlying bonds. As interest rates rise, bond prices typically fall, which can adversely affect a bond fund’s performance. Investments offering the potential for higher rates of return involve a higher degree of risk.
Mutual funds are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.
1, 8) CNBC, February 28, 2018
2) Bloomberg, 2018 (Bloomberg Barclays U.S. Municipal Index for the period 1/1/2018 to 4/16/2018)
3-4, 6) The Bond Buyer, February 12, 2018
5) The New York Times, February 23, 2018
7) Moody’s Investors Service, 2017
9) CNBC, October 10, 2017
Federal Income Tax Returns Due for Most Individuals
The federal income tax filing deadline for most individuals is Tuesday, April 17, 2018. That’s because April 15 falls on a Sunday, and Emancipation Day, a legal holiday in Washington, D.C., falls on Monday, April 16, this year.
Need more time?
If you’re not able to file your federal income tax return by the due date, you can file for an extension using IRS Form 4868, Application for Automatic Extension of Time to File U.S. Individual Income Tax Return. You should file Form 4868 by the due date of your return. Filing this extension gives you an additional six months (until October 15, 2018) to file your federal income tax return. You can also file for an automatic six-month extension electronically; details on how to do so can be found in the Form 4868 instructions, as well as on the IRS website.
Note: Special rules apply if you’re living outside the country, or serving in the military outside the country, on the regular due date of your federal income tax return.
Pay what you owe
One of the biggest mistakes you can make is not filing your return because you owe money. If the bottom line on your return shows that you owe tax, file and pay the amount due in full by the due date if at all possible. If you absolutely cannot pay what you owe, file the return and pay as much as you can afford. You’ll owe interest and possibly penalties on the unpaid tax, but you will limit the penalties assessed by filing your return on time, and you may be able to work with the IRS to pay the unpaid balance (options available may include the ability to enter into an installment agreement).
It’s important to understand that filing for an automatic extension to file your return does not provide any additional time to pay your tax. When you file for an extension, you have to estimate the amount of tax you will owe; you should pay this amount by the April 17 due date. If you don’t, you will owe interest, and you may owe penalties as well. If the IRS believes that your estimate of taxes was not reasonable, it may void your extension.
You should consult with your tax adviser to see if there are any factors in your situation that should be considered before filing an extension.
Still Time to Contribute to an IRA for 2017
There’s still time to make a regular IRA contribution for 2017! You have until your tax return due date (not including extensions) to contribute up to $5,500 for 2017 ($6,500 if you were age 50 by December 31, 2017). For most taxpayers, the contribution deadline for 2017 is April 17, 2018.
You can contribute to a traditional IRA, a Roth IRA, or both, as long as your total contributions don’t exceed the annual limit (or, if less, 100% of your earned income). You may also be able to contribute to an IRA for your spouse for 2017, even if your spouse didn’t have any 2017 income.
Traditional IRA
You can contribute to a traditional IRA for 2017 if you had taxable compensation and you were not age 70½ by December 31, 2017. However, if you or your spouse was covered by an employer-sponsored retirement plan in 2017, then your ability to deduct your contributions may be limited or eliminated depending on your filing status and your modified adjusted gross income (MAGI) (see table below). Even if you can’t deduct your traditional IRA contribution, you can always make nondeductible (after-tax) contributions to a traditional IRA, regardless of your income level. However, in most cases, if you’re eligible, you’ll be better off contributing to a Roth IRA instead of making nondeductible contributions to a traditional IRA.
| 2017 income phaseout ranges for determining deductibility of traditional IRA contributions: | ||
| 1. Covered by an employer-sponsored plan and filing as: | Your IRA deduction is reduced if your MAGI is: | Your IRA deduction is eliminated if your MAGI is: |
| Single/Head of household | $62,000 to $72,000 | $72,000 or more |
| Married filing jointly | $99,000 to $119,000 | $119,000 or more |
| Married filing separately | $0 to $10,000 | $10,000 or more |
| 2. Not covered by an employer-sponsored retirement plan, but filing joint return with a spouse who is covered by a plan | $186,000 to $196,000 | $196,000 or more |
Roth IRA
You can contribute to a Roth IRA if your MAGI is within certain dollar limits (even if you’re 70½ or older). For 2017, if you file your federal tax return as single or head of household, you can make a full Roth contribution if your income is $118,000 or less. Your maximum contribution is phased out if your income is between $118,000 and $133,000, and you can’t contribute at all if your income is $133,000 or more. Similarly, if you’re married and file a joint federal tax return, you can make a full Roth contribution if your income is $186,000 or less. Your contribution is phased out if your income is between $186,000 and $196,000, and you can’t contribute at all if your income is $196,000 or more. And if you’re married filing separately, your contribution phases out with any income over $0, and you can’t contribute at all if your income is $10,000 or more.
| 2017 income phaseout ranges for determining ability to contribute to a Roth IRA: | ||
| Your ability to contribute to a Roth IRA is reduced if your MAGI is: | Your ability to contribute to a Roth IRA is eliminated if your MAGI is: | |
| Single/Head of household | $118,000 to $133,000 | $133,000 or more |
| Married filing jointly | $186,000 to $196,000 | $196,000 or more |
| Married filing separately | $0 to $10,000 | $10,000 or more |
Even if you can’t make an annual contribution to a Roth IRA because of the income limits, there’s an easy workaround. If you haven’t yet reached age 70½, you can simply make a nondeductible contribution to a traditional IRA, and then immediately convert that traditional IRA to a Roth IRA. Keep in mind, however, that you’ll need to aggregate all traditional IRAs and SEP/SIMPLE IRAs you own — other than IRAs you’ve inherited — when you calculate the taxable portion of your conversion. (This is sometimes called a “back-door” Roth IRA.)
Finally, keep in mind that if you make a contribution to a Roth IRA for 2017 — no matter how small — by your tax return due date, and this is your first Roth IRA contribution, your five-year holding period for identifying qualified distributions from all your Roth IRAs (other than inherited accounts) will start on January 1, 2017.
You should consult with your own advisor to see if there are other considerations or factors that you should consider before making contributions to any IRA.
2018 Standard Mileage Rates
The IRS has announced the 2018 optional standard mileage rates for computing the deductible costs of operating a passenger automobile for business, charitable, medical, or moving expense purposes.
Effective January 1, 2018, the standard mileage rates are as follows:
– Business use of auto: 54.5 cents per mile may be deducted if an auto is used for business purposes
– Charitable use of auto: 14 cents per mile may be deducted if an auto is used to provide services to a charitable organization
– Medical use of auto: 18 cents per mile may be deducted if an auto is used to obtain medical care (or for other deductible medical reasons)
– Moving expense: 18 cents per mile may be deducted if an auto is used to move to a new home in connection with the start of work at a new job location
You can read IRS Notice 2018-03 here.
2017 Year-End Charitable Giving
There still is time for 2017 tax planning. It is also a time when charitable giving often comes to mind. The tax benefits associated with charitable giving could potentially enhance your ability to give and should be considered as part of your year-end tax planning.
Example(s): Assume you are considering making a charitable gift of $1,000. One way to potentially enhance the gift might be if you increase it by the amount of any income taxes you save with the charitable deduction for the gift. With a 28% tax rate, you might be able to give $1,389 to charity ($1,389 x 28% = $389 taxes saved). On the other hand, with a 35% tax rate, you might be able to give $1,538 to charity ($1,538 x 35% = $538 taxes saved).
A word of caution
Be sure to deal with recognized charities and be wary of charities with similar sounding names. It is common for scam artists to impersonate charities using bogus websites and through contact involving email, telephone, social media, and in-person solicitations. Check out the charity on the IRS website, irs.gov, using the Exempt Organizations Select Check search tool. And don’t send cash; contribute by check or credit card.
Tax deduction for charitable gifts
If you itemize deductions on your federal income tax return, you can generally deduct your gifts to qualified charities. However, the amount of your deduction may be limited to certain percentages of your adjusted gross income (AGI). For example, your deduction for gifts of cash to public charities is generally limited to 50% of your AGI for the year, and other gifts to charity may be limited to 30% or 20% of your AGI. Charitable deductions that exceed the AGI limits may generally be carried over and deducted over the next five years, subject to the income percentage limits in those years. Your overall itemized deductions may also be limited based on your AGI.
Make sure you retain proper substantiation of your charitable contribution for your deduction. In order to claim a charitable deduction for any contribution of cash, a check, or other monetary gift, you must maintain a record of such contributions through a bank record (such as a cancelled check, a bank or credit union statement, or a credit card statement) or a written communication (such as a receipt or letter) from the charity showing the name of the charity, the date of the contribution, and the amount of the contribution. If you claim a charitable deduction for any contribution of $250 or more, you must substantiate the contribution with a contemporaneous written acknowledgment of the contribution from the charity. If you make any noncash contributions, there are additional requirements.
Year-end tax planning
When making charitable gifts at the end of a year, it is generally useful to include them as part of your year-end tax planning. Typically, you have a certain amount of control over the timing of income and expenses. You generally want to time your recognition of income so that it will be taxed at the lowest rate possible, and time your deductible expenses so they can be claimed in years when you are in a higher tax bracket.
For example, if you expect that you will be in a higher tax bracket next year, it may make sense to wait and make the charitable contribution in January so that you can take the deduction next year when the deduction results in a greater tax benefit. Or you might shift the charitable contribution, along with other deductions, into a year when your itemized deductions would be greater than the standard deduction amount. And if the income percentage limits above are a concern in one year, you might consider ways to shift income into that year or shift deductions out of that year, so that a larger charitable deduction is available for that year. A tax professional can help you evaluate your individual tax situation.
The existence of tax changes or what they would be is unknown at this time. You may want to consider if the proposed increase in the standard deduction eliminates the tax benefit of itemizing your deductions. You may want to consider making your 2018 contributions in 2017 if you think the that change will be made in 2018.
IRA and Retirement Plan Limits for 2018
IRA contribution limits
The maximum amount you can contribute to a traditional IRA or a Roth IRA in 2018 is $5,500 (or 100% of your earned income, if less), unchanged from 2017. The maximum catch-up contribution for those age 50 or older remains at $1,000. You can contribute to both a traditional IRA and a Roth IRA in 2018, but your total contributions can’t exceed these annual limits.
Traditional IRA income limits
The income limits for determining the deductibility of traditional IRA contributions in 2018 have increased. If your filing status is single or head of household, you can fully deduct your IRA contribution up to $5,500 in 2018 if your modified adjusted gross income (MAGI) is $63,000 or less (up from $62,000 in 2017). If you’re married and filing a joint return, you can fully deduct up to $5,500 in 2018 if your MAGI is $101,000 or less (up from $99,000 in 2017). Note that these figures assume you are covered by a retirement plan at work.
| If your 2018 federal income tax filing status is: | Your IRA deduction is limited if your MAGI is between: | Your deduction is eliminated if your MAGI is: |
|---|---|---|
| Single or head of household | $63,000 and $73,000 | $73,000 or more |
| Married filing jointly or qualifying widow(er) | $101,000 and $121,000 (combined) | $121,000 or more (combined) |
| Married filing separately | $0 and $10,000 | $10,000 or more |
If you’re not covered by an employer plan but your spouse is, and you file a joint return, your deduction is limited if your MAGI is $189,000 to $199,000 (up from $186,000 to $196,000 in 2017), and eliminated if your MAGI exceeds $199,000. Single filers, head-of-household filers, and married joint filers who are not covered by an employer plan can deduct the full amount of their contributions.
Roth IRA income limits
The income limits for determining how much you can contribute to a Roth IRA have also increased for 2018. If your filing status is single or head of household, you can contribute the full $5,500 to a Roth IRA if your MAGI is $120,000 or less (up from $118,000 in 2017). And if you’re married and filing a joint return, you can make a full contribution if your MAGI is $189,000 or less (up from $186,000 in 2017). (Again, contributions can’t exceed 100% of your earned income.)
| If your 2018 federal income tax filing status is: | Your Roth IRA contribution is limited if your MAGI is: | You cannot contribute to a Roth IRA if your MAGI is: |
|---|---|---|
| Single or head of household | More than $120,000 but under $135,000 | $135,000 or more |
| Married filing jointly or qualifying widow(er) | More than $189,000 but under $199,000 (combined) | $199,000 or more (combined) |
| Married filing separately | More than $0 but under $10,000 | $10,000 or more |
Employer retirement plans
Most of the significant employer retirement plan limits for 2018 have also increased. The maximum amount you can contribute (your “elective deferrals”) to a 401(k) plan is $18,500, up from $18,000 in 2017. This limit also applies to 403(b) and 457(b) plans, as well as the Federal Thrift Plan. If you’re age 50 or older, you can also make catch-up contributions of up to $6,000 to these plans in 2018. (Special catch-up limits apply to certain participants in 403(b) and 457(b) plans.)
If you participate in more than one retirement plan, your total elective deferrals can’t exceed the annual limit ($18,500 in 2018 plus any applicable catch-up contributions). Deferrals to 401(k) plans, 403(b) plans, and SIMPLE plans are included in this aggregate limit, but deferrals to Section 457(b) plans are not. For example, if you participate in both a 403(b) plan and a 457(b) plan, you can defer the full dollar limit to each plan — a total of $37,000 in 2018 (plus any catch-up contributions).
The amount you can contribute to a SIMPLE IRA or SIMPLE 401(k) plan remains unchanged at $12,500, and the catch-up limit for those age 50 or older remains at $3,000.
| Plan type: | Annual dollar limit: | Catch-up limit: |
|---|---|---|
| 401(k), 403(b), governmental 457(b), Federal Thrift Plan | $18,500 | $6,000 |
| SIMPLE plans | $12,500 | $3,000 |
Note: Contributions can’t exceed 100% of your income.
The maximum amount that can be allocated to your account in a defined contribution plan (for example, a 401(k) plan or profit-sharing plan) in 2018 is $55,000, up from $54,000 in 2017, plus age 50 catch-up contributions. (This includes both your contributions and your employer’s contributions. Special rules apply if your employer sponsors more than one retirement plan.)
Finally, the maximum amount of compensation that can be taken into account in determining benefits for most plans in 2018 is $275,000 (up from $270,000 in 2017), and the dollar threshold for determining highly compensated employees (when 2018 is the look-back year) remains unchanged at $120,000.
Health Savings Accounts: Are They Just What the Doctor Ordered?
Are health insurance premiums taking too big of a bite out of your budget? Do you wish you had better control over how you spend your health-care dollars? If so, you may be interested in an alternative to traditional health insurance called a health savings account (HSA).
How does this health-care option work?
An HSA is a tax-advantaged account that’s paired with a high-deductible health plan (HDHP). Let’s look at how an HSA works with an HDHP to enable you to cover your current health-care costs and also save for your future needs.
Before opening an HSA, you must first enroll in an HDHP, either on your own or through your employer. An HDHP is “catastrophic” health coverage that pays benefits only after you’ve satisfied a high annual deductible. (Some preventative care, such as routine physicals, may be covered without being subject to the deductible). For 2017, the annual deductible for an HSA-qualified HDHP must be at least $1,300 for individual coverage and $2,600 for family coverage. However, your deductible may be higher, depending on the plan.
Once you’ve satisfied your deductible, the HDHP will provide comprehensive coverage for your medical expenses (though you may continue to owe co-payments or coinsurance costs until you reach your plan’s annual out-of-pocket limit). A qualifying HDHP must limit annual out-of-pocket expenses (including the deductible) to no more than $6,550 for individual coverage and $13,100 for family coverage for 2017. Once this limit is reached, the HDHP will cover 100% of your costs, as outlined in your policy.
Because you’re shouldering a greater portion of your health-care costs, you’ll usually pay a much lower premium for an HDHP than for traditional health insurance, allowing you to contribute the premium dollars you’re saving to your HSA. Your employer may also contribute to your HSA, or pay part of your HDHP premium. Then, when you need medical care, you can withdraw HSA funds to cover your expenses, or opt to pay your costs out-of-pocket if you want to save your account funds.
An HSA can be a powerful savings tool. Because there’s no “use it or lose it” provision, funds roll over from year to year. And the account is yours, so you can keep it even if you change employers or lose your job. If your health expenses are relatively low, you may be able to build up a significant balance in your HSA over time. You can even let your money grow until retirement, when your health expenses are likely to be substantial. However, HSAs aren’t foolproof. If you have relatively high health expenses (especially within the first year or two of opening your account, before you’ve built up a balance), you could deplete your HSA or even face a shortfall.
How can an HSA help you save on taxes?
HSAs offer several valuable tax benefits:
- You may be able to make pretax contributions via payroll deduction through your employer, reducing your current income tax.
- If you make contributions on your own using after-tax dollars, they’re deductible from your federal income tax (and perhaps from your state income tax) whether you itemize or not. You can also deduct contributions made on your behalf by family members.
- Contributions to your HSA, and any interest or earnings, grow tax deferred.
- Contributions and any earnings you withdraw will be tax free if they’re used to pay qualified medical expenses.
Consult a tax professional if you have questions about the tax advantages offered by an HSA.
Can anyone open an HSA?
Any individual with qualifying HDHP coverage can open an HSA. However, you won’t be eligible to open an HSA if you’re already covered by another health plan (although some specialized health plans are exempt from this provision). You’re also out of luck if you’re 65 and enrolled in Medicare or if you can be claimed as a dependent on someone else’s tax return.
How much can you contribute to an HSA?
For 2017, you can contribute up to $3,400 for individual coverage and $6,750 for family coverage. This annual limit applies to all contributions, whether they’re made by you, your employer, or your family members. You can make contributions up to April 15th of the following year (i.e., you can make 2016 contributions up to April 15, 2017). If you’re 55 or older, you may also be eligible to make “catch-up contributions” to your HSA, but you can’t contribute anything once you reach age 65 and enroll in Medicare.
Can you invest your HSA funds?
HSAs typically offer several savings and investment options. These may include interest-earning savings, checking, and money market accounts, or investments such as stocks, bonds, and mutual funds that offer the potential to earn higher returns but carry more risk (including the risk of loss of principal). Make sure that you carefully consider the investment objectives, risks, charges, and expenses associated with each option before investing. A financial professional can help you decide which savings or investment options are appropriate.
How can you use your HSA funds?
You can use your HSA funds for many types of health-care expenses, including prescription drugs, eyeglasses, deductibles, and co-payments. Although you can’t use funds to pay regular health insurance premiums, you can withdraw money to pay for specialized types of insurance such as long-term care insurance. IRS Publication 502 contains a list of allowable expenses.
There’s no rule against using your HSA funds for expenses that aren’t health-care related, but watch out–you’ll pay a 20% penalty if you withdraw money and use it for nonqualified expenses, and you’ll owe income taxes as well. Once you reach age 65, however, this penalty no longer applies, though you’ll owe income taxes on any money you withdraw that isn’t used for qualified medical expenses.
Questions to consider
- How much will you save on your health insurance premium by enrolling in an HDHP? If you’re currently paying a high premium for individual health insurance (perhaps because you’re self-employed), your savings will be greater than if you currently have group coverage and your employer is paying a substantial portion of the premium.
- What will your annual out-of-pocket costs be under the HDHP you’re considering? Estimate these based on your current health expenses. The lower your costs, the easier it may be to accumulate HSA funds.
- How much can you afford to contribute to your HSA every year? Contributing as much as you can on a regular basis is key to building up a cushion against future expenses.
- Will your employer contribute to your HSA? Employer contributions can help offset the increased financial risk that you’re assuming by enrolling in an HDHP rather than traditional employer-sponsored health insurance.
- Are you willing to take on more responsibility for your own health care? For example, to achieve the maximum cost savings, you may need to research costs and negotiate fees with health providers when paying out-of-pocket.
- How does the coverage provided by the HDHP compare with your current health plan? Don’t sacrifice coverage to save money. Read all plan materials to make sure you understand benefits, exclusions, and all costs.
- What tax savings might you expect? Tax savings will be greatest for individuals in higher income tax brackets. Ask your tax advisor or financial professional for help in determining how HSA contributions will impact your taxes.
Most HSAs allow you to contribute through automatic transfers from a bank account or, if you’re employed, through an automatic payroll deduction plan.
REV.20170828
