“These figures – the additional $30 billion of deposits more than withdrawals and the average of more than $300 per account annually – represent medical equity. That term refers to tax-advantaged balances that owners can spend tax-free for eligible services and items in the future. This is a powerful asset that can fuel a more comfortable retirement or satisfy an unexpected future medical need.”
William G. (Bill) Stuart
Director of Strategy and Compliance
April 1, 2021
The semi-annual Devenir report on Health Savings Accounts is as anticipated by industry followers as is opening day of the major league baseball season (which, coincidentally, is today). Each year, this broad industry survey provides better information both as a result of a longer time frame and fresh looks at the data. Below I’ve highlighted some of the important information contained in the 2020 Year-End Devenir HSA Report Executive Summary.
Total Accounts Growth Slows
The total number of Health Savings Accounts grew only modestly in 2020 – up 7% from the end of 2019. During the prior three years, the total grew between 11% and 13%. The five-year compound annual growth rate (CAGR) is 6.4%. This slower growth may reflect a market saturation under current rules. It may also reflect employers’ not making any changes to employee benefits plans, including introducing a Health Savings Account program, during a pandemic.
Accelerants: Here are some potential catalysts for greater future growth:
- Congress can create a Health Savings Account option in the Medicare Advantage program. The current Medical Savings Account program is a poor substitute for a robust opportunity to stretch retirement dollars when retirees spend an average of more than $5,500 annually on medical coverage and care.
- Congress can decouple Health Savings Accounts from HSA-qualified plans to help all Americans, regardless of coverage to manage their rising out-of-pocket costs more effectively
- Congress can allow HSA-qualified plans to cover certain care for chronic conditions below the deductible.
- Employers can position HSA-qualified plans more favorably than they do now through a combination of reduced payroll deductions for premiums and larger employer contributions.
- Employers can commit to year-round education on the financial benefits of Health Savings Accounts, beginning four months or more before the medical plan open enrollment.
Total Balances Are Growing
Total balances grew at nearly a 22% five-year CAGR and by 25% during 2020. This 25% increase – the largest during the previous five years – may reflect the increased savings rate that we’ve seen during the pandemic as people haven’t had opportunities to spend (nixing vacations, for example) and have built emergency funds. And many account owners curbed their spending as non-urgent medical, dental, and vision services were cancelled (or rescheduled for 2021) and physician visits often shifted to a virtual environment and were covered in full by many medical plans.
Accelerants: Coming out of the pandemic, here are some potential catalysts for balance growth:
- Employees realize that they could incur medical costs at any time, even if they consciously maintain their good health, and increase their contributions.
- Employers adopt a matching program that requires employees to contribute to collect the full employer contribution, rather than companies’ contributing with no strings attached. Most employers offer matching programs for retirement programs to build balances. Health Savings Accounts are no different.
Investment Balances Are Soaring
The big news is the explosion in balances that are invested for long-term growth. This figure has experienced more than 41% compound annual growth during the last five years and increased by 52% in 2020. The S&P 500 increased by an average of 15.2% annually during that same five-year period and by 18.4% in 2020. Thus, market gains alone don’t explain the growth.
Several factors are most likely at play. First, account owners accumulate balances over time as their annual contributions exceed distributions. The longer they own their accounts, the larger their balances and therefore the more funds they can invest as they leave a sufficient cash balance to meet immediate needs.
Second, the investment ecosystem has changed dramatically from five years ago. More Health Savings Account providers offer a wider range of investment options and offer programs that automatically “sweep” payroll deductions into investment options chosen by the account owner. The popular press publishes a growing number of articles touting the tax advantages of saving and investing for retirement in a Health Savings Account. And a growing number of financial and retirement advisors know enough about the account to encourage their clients to incorporate a Health Savings Account into their plans.
All these factors will drive strong growth of investment balances in the future.
Accelerants: Account providers can continue to fuel this growth with some simple actions:
- Communicate regularly with account owners. When sending a monthly e-mail with a link to their latest account statement, include links about investing that present multimedia (written word, quick verbal update, a short animated presentation) on the importance and mechanics of investing.
- Expand investment options to satisfy sophisticated investors.
- Publicize the sweep option so that owners can put their investment strategy on auto-pilot while maintaining the ability to change funds and allocation percentages as their needs change.
- Introduce or publicize target funds like those offered by retirement accounts, which allow owners to project a retirement date and then select a single fund that adjusts the percentages of equities and fixed-income assets in the fund mix to reflect a gradual reduction in risk.
Record Contributions Were Retained in 2020
An important measure of these accounts is to look at aggregate contributions and distributions in a year. In 2020, account owners and their employers contributed $41.7 billion and withdrew $30.1 billion. The difference – $11.6 billion – remained in their accounts to grow tax-free and reimburse future eligible expenses tax-free. The corresponding figures for the prior four years are $5.7 billion, $5.0 billion, $8.0 billion, and $9.5 billion. That’s a total of $30.3 billion more in contributions than distributions during the past five years alone.
The average account (and yes, it may be misleading to rely on averages that can be skewed by a small percentage of super-contributors) has seen contributions exceed distributions by at least $300 (and usually $400) during the past 10 years reflected in the report. These figures – the additional $30 billion of deposits more than withdrawals and the average of more than $300 per account annually – represent medical equity. That term refers to tax-advantaged balances that owners can spend tax-free for eligible services and items in the future. This is a powerful asset that can fuel a more comfortable retirement or satisfy an unexpected future medical need.
If the balance growth described above is a partial result of deferred care (non-time-sensitive care postponed during the height of the pandemic in 2020 that’s still needed), we may see the 2021 surplus shrink below 2020s $11.6 billion. It’s unlikely to revert to a negative number (more money spent than contributed, which hasn’t happened in the 10 years reflected in the report).
Accelerants: Account providers and employers can continue to educate employees on the favorable tax benefits of retirement savings in a Health Savings Account versus a traditional or Roth 401(k) plan. A growing number of account owners realize that paying small bills with personal funds during their peak earning years and retaining balances to grow tax-free will help them stretch their medical dollars in retirement.
One-fifth of Accounts Are Reported as Having a Zero Balance
This number is frightening at first glance. Is it possible that 20% of account owners aren’t enjoying the tax benefits associated with a Health Savings Account? Maybe – but not necessarily likely. The report defines an account with a zero balance at the end of 2020.
Imagine this common scenario: A Health FSA owner elects $2,000 in 2020. She spends her full election, leaving her with a zero balance at the end of the plan year. Has she not gained a financial benefit by running $2,000 of eligible expenses through her account and saving about $550 to $750 in federal payroll and income taxes and state taxes (except in California and New Jersey, the two states that don’t exclude Health Savings Account contributions from taxable income)?
Health Savings Accounts provide the same tax advantages (with some added benefits, such as no time limits, flexibility in adjusting contributions, and investment opportunities). Someone with no balance at the end of the year may have paid out-of-pocket costs for three monthly prescriptions, six physician visits, an emergency department visit, and monthly orthodontic charges from her account, leaving her with no balance at the end of the year.
It would be helpful if the researchers can determine how many of these unfunded accounts weren’t funded at all during the year. If that number is high, it reflects poorly on account providers’, brokers’, employers’, and financial advisors’ efforts to educate Health Savings Account owners about the benefits of this financial opportunity. Some people who don’t fund an account probably can’t because they have disqualifying coverage including enrollment in Medicare or a direct-primary care relationship, or coverage under federal tax law through a spouse’s general Health FSA.
But these examples of disqualifying coverage probably don’t represent the typical never-funded account because most people who know they’re disqualified enroll in other coverage if it’s available. A high number of owners who are eligible to fund a Health Savings Account but don’t is a bad sign, particularly because they are likely to skew toward lower-income and lower education – precisely the people who need the most help managing their out-of-pocket costs.
Accelerant: To the extent that accounts aren’t funded at all, companies should consider turning their no-strings-attached employer contributions into matching contributions (or an initial lump-sum and the remainder earned through periodic matching deposits). As with retirement plans, employers can encourage employees to fund their accounts by offering an instant return of 50%, 100%, or even 200% on every employee dollar deposited up to a certain annual limit. Today, about 70% of all contributions through a Cafeteria plan are employee payroll deductions (59% of the 85% of contributions that flow through a Cafeteria Plan) and 30% (26% of 85%) are employer contributions. Those percentages might not change much with matching contributions, but the pie (total contributions) would become much larger – especially for those who’ve never funded an account. The current average contribution is $870 employer and $2,054 employee in plans in which employers and employees contribute.
The Devenir report contains other nuggets as well, such as the growth in balances as accounts age (understandable, since average contributions exceed average distributions annually), the distribution of total accounts and total balances by year opened (unsurprisingly and the percentage of total accounts that have been opened during the past three years and the percent of total Health Savings Assets that they hold.
All in all, it’s a very positive story, as these accounts deliver financial benefits to all owners. With the right policy prescriptions, employer education strategies, and educational programs for account owners, the success story can continue.
What We’re Reading
Readers of this column know that Health Savings Accounts are the only workplace savings plan whose contributions are excluded from payroll taxes. But employers must do more to publicize the savings, as both they and their contributing employees benefit.
What’s working and what’s not in employee tax-advantaged benefits? The executive director of the industry’s trade organization, a colleague and friend of mine, provides insight here.
You’re probably aware by now that Congress passed and President Biden signed a law that offers a 100% COBRA subsidy for up to six months. Here are the details.