
Every year, nearly 200 million people face one of the most challenging mathematical algorithms in all of personal finance, as we are forced to participate in the terminology-rich and concept-laden obstacle course that we call open enrollment. During this uniquely bizarre annual ritual, our human resource departments ask us (force us?) to navigate the Bermuda triangle of the American healthcare system, the US tax code, and our personal financial planning goals.
Nowhere in the open enrollment process do we face a more complex decision than whether to enroll in a High Deductible Health Plan (HDHP) and contribute to the companionate Health Savings Account (HSA) or to elect the more familiar non-HDHP and contribute to its companion the Flexible Spending Account (FSA).
A well-known and highly regarded financial advisor was recently asked how much he would charge to do this analysis as a standalone service each year, and he said, “$10,000, and neither of us would probably get our money’s worth.”
That may sound ridiculous, but after wading through this for myself and with clients, I understand the sentiment. I have heard the complexities of this choice described as three-dimensional chess, which aligns with my personal experience for my family that has a special needs child and for my clients at large who struggle to understand the myriad variables that go into this decision.
My goal today is to share my approach to this annual calculus exam in hopes of making the decision a little less complicated for a few of you.
Before the Math Begins
Before I launch into a nerdy math-based analysis, let me first offer a few non-numerical considerations and observations.
- Josh Katzowitz wants me to write shorter columns, so I’m going to skip over the 2,000 words I want to write next to orient everyone to this conversation. Therefore, this is not an “Intro to HSAs” article. This is not HSAs 101 for beginners. If you don’t understand the next sentence, please read this, this, this, and this first. OK, here's a quick sentence on HSAs. An HSA is a triple tax-protected account that can act as a Stealth IRA and is thus considered by many financial professionals to be the most tax-efficient retirement account available to high earners when used optimally over decades (optimally = maxing out annually, not withdrawing the money for annual healthcare costs, investing aggressively, saving your healthcare receipts, etc.).
- There is data to suggest worse health outcomes for those on HDHPs, because they delay seeking medical care compared to those on non-HDHPs. If you die at 45 with colon cancer, no one cares about your triple tax savings. If you can’t trust yourself to go to the doctor when you have a concerning symptom because it will cost you a few hundred bucks and, thus, you miss out on the most tax-efficient account in the land by going with a non-HDHP, that is fine. It is a bummer from a financial optimization perspective, but please choose life over tax efficiency.
- HSAs are amazing, but you don’t need to use them to reach goals. This is not mandatory. You should start your decision tree by determining which health insurance is best for your family (carriers, convenience, staying with your doctors, etc). If the HDHP/HSA is reasonable through that lens, please read on.
The Math
I approach the question of, “Is an HSA right for me next year?” with a six-part mathematical analysis.
Part A – What Are the After-Tax Premiums for All Plans?
If the non-HDHP is $10,000 a year and the HDHP is $6,000, that is a $4,000 PRE-tax difference. With a 40% marginal tax rate, the after-tax difference is $2,400 in saved premiums. This highlights the point that it is critical to know your premiums. An HDHP should have lower premiums because you are paying more costs up front (therefore saving the insurance company money). However, that is not always the case, and sometimes the HDHP premiums are inexplicably large—which means that it is less likely the math will come out in your favor.
Part B – How Much Does the Employer Contribute to the HSA?
Assuming the premiums on the HDHP are lower, the employer is incentivized to have employees choose the HDHP because they save money on the portion of the premiums they are paying for you. Thus, it is common to see employers make contributions to the HSA to entice employees to use it. This is “free money,” just like a 401(k) match that functionally raises one’s compensation. I often see $500-$2,500 put in annually by an employer. For our example, let’s say the employer puts in $1,500.
Part C – What Are the Tax Savings from Maxing Out the HSA?
The 2025 limit for a family is $8,550, which includes employer contributions. [2025 — visit our annual numbers page to get the most up-to-date figures.] In our example, that leaves $7,050 for the family to contribute and deduct at their 40% marginal tax rate. This saves the family $2,820 in taxes.
Part D – HSA and FSA Contributions
HSA and FSA contributions are not just exempt from income taxes but also from payroll taxes if contributions are made via payroll withholdings and not “manually.”
Since the HSA contribution limit ($8,550) is larger than the FSA contribution limit ($3,300), that’s ($8,550 – $3,300 = $5,250) $5,250 x 7.65% = $402 additional savings in favor of the HDHP*.
[AUTHOR'S NOTE: *S-Corp shareholders with 2% or greater ownership are not exempt from FICA taxes for HSA contributions. However, there appears to be a workaround discussed by WCI Forum user guru spiritrider.]
Now, add up Parts A, B, C, and D to get a ($2,400 + $1,500 +$ 2,820 + 402) = $7,122 “head start” for the HDHP/HSA. That’s a heck of a head start, and it’s critical to remember this when you find yourself frustrated at the pediatrician's office paying the entire $400 bill for taking the baby in with strep throat under your HDHP instead of the $30 co-pay on the non-HDHP.
But the analysis is not complete yet. What are our costs with potentially higher deductibles on the HDHP or the missed opportunities with no FSA contributions?
Part E – What's the Difference in Family Deductibles?
You have to figure out the difference between the non-HDHP family deductible (or out-of-pocket max, whichever you prefer to compare based on projected healthcare usage) and the HDHP family deductible. If the non-HDHP has a deductible of $1,000 compared to $3,000 on the HDHP, that’s $2,000 in favor of the non-HDHP.
Part F – What Are the Tax Savings If an FSA Were Used Instead of an HSA?
In our example for 2025 with a $3,300 FSA limit and a 40% marginal tax rate, the answer is $1,320.
That means our net difference is $7,122 – $2,000 – $1,320 = $3,802 in favor of the HDHP/HSA in this example.
This is often what I see when I do these evaluations and why I disagree with the statement I hear thrown around a lot that “if you are chronically ill and continually exceed the out-of-pocket deductible of an HDHP, the choice is obvious. You don’t enroll in the HDHP.” That is absolutely not true for many of my people. I have several clients with a chronic illness (i.e., MS) who have really expensive medications that cause them to hit their deductible and out-of-pocket max in the first quarter of each year. But they still use an HDHP/HSA because this net math shows it’s the right choice.
More information here:
Social Security Is Not Going Away (But You Might Have to Adjust Your Plans)
Impact of Healthcare Spending
The analysis above is useful for understanding the general value of an HSA vs. a non-HSA in a given year, but the specific value can only really be understood in hindsight once we know how much our healthcare spending was for the year.
Depending on the details of your health plan, your income, your tax rates, and your spending, you may find that an HDHP is “worth it” only at certain levels of healthcare expenses.
For example, look at the chart below that represents our family’s specific situation for 2025. The X-axis represents how much healthcare we are billed, and the Y-axis represents our total after-tax out-of-pocket costs. You can see that at lower levels of healthcare spending (up to ~$8,000) and at high levels of healthcare spending (above ~$50,000), the HDHP “wins.” Also, for moderate levels of spending (~$8,000-$18,000), the plans are tied. As discussed in the next section of the post, the tie goes to the HDHP/HSA due to the power of tax-free growth and tax-free withdrawals.
This next graph uses a different set of details and circumstances in which the HDHP always wins, regardless of healthcare spending. This simply highlights the point that you must run the numbers for yourself to understand the nuances and details of your particular situation.
Value of Tax-Free Growth
But wait . . . there’s more!
The FSA is use-it-or-lose-it (you can carry over $660 of unused FSA money into the new year), and the HSA can be invested for 20-30 years with tax-free growth and tax-free withdrawals. How much is that worth?
Of course, no one knows because we don’t know what market returns will be, but the answer is “more than $0, probably a lot more than $0.”
Let's say that $8,550 is invested every year, increasing each year for inflation adjustments, increasing again for catch-up contributions at age 55, compounding tax-free over a 30-year period at ~7%. That's right around $1 million in the HSA that can be withdrawn tax-free if you save your receipts. Compare that to the non-tax-free growth in a taxable account using the same assumptions except for a 5% after-tax return. You get ~$700,000 that will be withdrawn at long-term capital gains rates (yes, I know there are many ways to avoid capital gains taxes, but again, I’m trying to keep this short). That ~$300,000 of additional growth in the HSA that can be taken out tax-free is a strong tie-breaker if the math outlined above is close in a given situation.
Also, once your adult kids gain tax independence, they can make their own $8,550 contribution until they turn 26, and then, they can be on pace for a million dollars in their HSA when they reach retirement age. That is a huge advantage in favor of the HDHP.
More information here:
Beware! An HSA Is Great But . . .
Should I Get an HDHP Just to Use an HSA?
TC; DR (Too Confusing; Didn’t Read)
- You knew this debate was complicated, but it’s probably more complicated than you realized. I have tremendous empathy for families who have to navigate this choice every year during open enrollment.
- Start by getting the health insurance that is best for your family and your peace of mind; let the math come after those critical considerations.
- Rule of thumb: There is no rule of thumb. You must know all the details of your various health insurance options and run the numbers. Gratefully, someone made a calculator that can help.
- If the net difference comes out close to $0 (maybe +/- $1,000), choose the HDHP and HSA. Tax-free growth and tax-free withdrawals will likely make up the difference over time.
- Venmo me my $10,000 at your convenience.
What do you think? Do you have the HDHP/HSA vs. non-HDHP debate every year? What has your decision been?
Thank you for this article! The DoctoredMoney calculator link is much appreciated and certainly better than my “back-of-the-envelope” approach! I hope they leave their calculator up even though they are apparently shuttering—this will really help those who struggle with this decision.
The calculator in the link at DoctoredMoney is an Excel Live form – you can download the underlying Excel workbook to keep your own copy. If you click the icon with “two windows” in the lower right corner to view full size workbook you will then have a full web-based Excel window, and you can go to File>Create a Copy>Download a Copy.
Thanks! With Tricare we don’t qualify, but will send to my kid on the off hand chance she’ll take the time to read and apply the principles. (She has an HSA, dunno rest of details, but young and no kids unlikely to max her deductibles etc.)
Good read with numbers to review. I planning on using my own numbers as well. Ive had an HSA since 2010 and have no plans to touch it. We also have an FSA also and one caveat we encountered if you have both: FSA funds can only be used for non medical expenses (ie braces, contacts, glasses..), with HSA money being used for Medical expenses. Had a sit down with HR about this a couple of years ago.
Ps. what is your venmo? (ha)
Oniel,
Thanks for reading and commenting.
Just for clarification – generally speaking, you are not allowed to have an FSA and HSA in the same year. The one exception to that, which sounds like is applicable for you, is with a Limited Purpose FSA. This account lets you use pre-tax money for eligible dental and vision care expenses that are out of pocket while also maintaining an HSA for your other medical expenses. This kind of FSA is different than most regular FSAs, because it’s limited only to dental and vision expenses only.
Nice article!
One question though, what if the over funded HSA contributions have been spent? Would it be okay to claim only the max contribution when filing taxes?
No, there’s still a contribution limit. If you overcontributed, you need to fix it.
One question though, what if the over funded HSA contributions have been spent? Would it be okay to claim only the max contribution when filing taxes?
Sorry, I was not very specific. Let say contribution limit was $4150 and I overcontributed the account by another $2000 (Totalling: $6150) and spent the whole $6150. Since, I can’t withdraw the amount I have already spent, therefore when filing taxes I should only claim $4150 & rest will be considered withdrawn (plus earnings on overfunded amount $2000 would be also need to be removed) Thank you
I agree it’s a mess to clean up, but I think the right answer is that yes, you do still have to clean it up. Yes, you can only deduct $4150, but I think you still probably need to withdraw $2K due to the overcontribution. I could be wrong, but that’s how I’d interpret it. Now whether anyone notices or not, I couldn’t say.
Someone here can clarify if something has changed. It’s my understand that an Adult child can go with a HDHP and until they are 26 they can be considered under the “Family” plan and allowed to contribute up to the MAX for the Family plan in their own HSA..
This may be benefit to someone…
Found the old WCI post that I did not see on this page.. forgive me if I missed it.
https://www.whitecoatinvestor.com/hsa-loophole-adult-child-family-contribution/
Nothing has changed. They have to be financially independent of you (50%+ of support) and only on a family HDHP to make a family HSA contribution.
Just adding some additional context to Jim’s comment about kids needing to be “financially independent of you” for purposes of opening their own HSA.
In order for an adult child to open an HSA, they cannot be claimed as a dependent on another’s tax return. Importantly, if the child’s parents don’t – but can – claim them as a dependent, they would still not be allowed to open an HSA. Which means that parents need to be aware of what actually makes a child a qualifying dependent (not just whether the parents are currently claiming the child as a dependent on their tax return).
There are 5 tests that must be met for a child to be considered a qualifying child for parents to claim them as a dependent. These tests, as described by the IRS (https://www.irs.gov/publications/p501) and listed below, must all be met for a child to be considered a qualifying child, and are based on relationship, age, residency, support, and joint return.
Relationship: The child must be the taxpayer’s biological or adopted son or daughter, foster child, or descendant of any of these people (they may also be a brother, sister, half-sibling, step-sibling, or a descendant of any of these people).
Age: As of December 31, the child must be younger than age 19, or younger than age 24 if they are a full-time student. They must also be younger than the taxpayer (and the taxpayer’s spouse, if married and filing jointly) who is claiming the dependent. There is no age limit if they are permanently and totally disabled.
Residency: Generally, the child must have lived with their parents for more than half the year (children who are away at college are considered temporarily absent and will still be considered to have lived with their parents while in school).
Support: The child may not have provided more than half their own support for the year; and
Filing Status: The child may not file a joint return unless the purpose is to claim a refund of withheld or estimated paid taxes.
Importantly, this means that just failing one of these tests will preclude the child from being considered a ‘qualifying child’ and therefore avoid dependent status for the purposes of HSA eligibility; this could be the age test (if they’re aged 24–26), or the residency test (if they don’t live with their parents for the requisite amount of time, not counting time away to attend school), or the Support test (at any age/time based on their own finances).
Furthermore, a taxpayer’s child who is not a qualifying child can still be considered a dependent if they can be considered a qualifying relative. The tests that must be met for parents to claim a child as a qualifying relative dependent when they cannot be considered a qualifying child include:
Gross Income Test: The child’s gross income must be less than a certain amount ($5,200 for 2025) for the year.
Support Test: Parents must provide more than half of the child’s total support during the year.
The determination of whether a child is a qualifying relative is primarily relevant when the child is at least 19 years old and not a full-time student (failing the age test, which means they cannot be a qualifying child) but may still be a dependent as a qualifying relative because they still depend on their parents for support (earning less than $5,200 annually).
“Nice article! I also consider these two HSA advantages when deciding between an HDHP/HSA and a non-HDHP/FSA:
The HSA eliminates the annoying end-of-year chore of asking, “Did I spend all the money in my use-it-or-lose-it account?”
I treat the HSA as a supplemental emergency fund. If something hits the fan in a few years, I can get reimbursed for many prior health expenses by saving the receipts.”
Dave,
Thanks for reading and taking the time to comment.
I agree that an HSA could be viewed as part of an emergency fund but I wouldn’t want people to forego a true emergency fund because they have an HSA (I don’t think you are suggesting this either, just wanting to say it out loud).
For those looking to reduce cash drag as it relates to a traditional emergency fund, I do think that once their taxable account reaches a large enough size that their bond holdings are sizable, it is then reasonable to view part your emergency fund as 3 months of cash in a high yield savings account and 3 months as bond funds in the taxable account (assuming a 6 month emergency fund).
I totally agree that avoiding the end of year rush to spend and reimburse FSA dollars is vote in favor of the HSA. I have had clients say that before working with me, they would occasionally forget to reimburse themselves and lose essentially all of their FSA dollars.
A timely article! I just started a new job and fully intended on getting the PPO plan with anticipated high health care usage for my family this next year, but when comparing plans, the HSA plan was a no brainer. The premiums are $9000 cheaper over the year, I get a $800 HSA contribution from my employer, and deductible is $3600 vs $3000 for the PPO. Will I be annoyed paying $200 per doctors visit instead of a $30 copay? Yes, but you can’t argue with the math!
JL,
I am glad the process outlined in the post was useful to you, thanks for sharing. It is super annoying to pay more than you are used to when you go to the doctor but I’m glad you will be able to take solace knowing the overall math is in your favor.
Sadly, we really need go through the steps each year as the variables are always changing but at least this gives us a structured way to think about it.
I’m wondering if utilizing a DPC practice would make sense in conjunction with a HDHP since you’d be paying that amount of the membership fee anyway for any normal doctors visits until the deductible is met. The only drawback that I see is that the DPC membership fees wouldn’t go towards the deductible.