Your HSA is more than just a way to pay for near-term medical expenses. By investing a portion of your HSA balance into various market funds, you can accelerate financial growth, drive long-term savings and build out your retirement strategy. Here are some of the reasons for why HSAs are so versatile.
The average American couple will need $301,000 to cover out-of-pocket health care costs in retirement2.
HealthEquity does not apply a penalty to move invested dollars back to HSA cash to pay for qualified medical expenses.
Any investment gains in your HSA are tax-free1.
An HSA is yours to keep permanently, moving with you if you change employers.
If you begin to invest your HSA dollars and they generate returns over time, the power of compounding can start to take off. As you can see in the chart below, there is a distinct difference in the earnings potential of 0.10% in an HSA cash account and 7.0% in invested HSA dollars on an initial contribution of $3,500. It starts off slow, but over the course of 20 years, the growth could become significant.
| HSA | 401(k) / IRA | ROTH | |
| Pre-tax money in | |||
|---|---|---|---|
| Tax-free growth | |||
| Spend tax-free before retirement | On qualified medical expenses |
On original deposits only |
|
| Spend tax-free after retirement |
On qualified medical expenses |
| |
| Use after retirement for any expense3 |
Taxed as income |
Taxed as income |
Tax-free |
| No mandatory withdrawals |
HealthEquity has a proven track record as an HSA custodian dating back to 2002—managing 4.9 million HSAs (accounting for $8.1B in custodial assets) through 120 health plans, and recognized in 2017 by Kiplinger for Best HSA. And now, we’re making it easier for account holders to invest a part of their HSA into mutual funds.
Building and maintaining an HSA investment portfolio is like building and maintaining a house. A home takes time to construct before you can start living in it. Similarly, it takes time to build your investment portfolio. But like a house, once it’s built you can start enjoying the benefits of your investment portfolio as you maintain and care for it.
An important part of investing is understanding your own financial goals and risk tolerance. For instance, a specific fund may average an 8% return over 15 years. But from year to year, the returns will likely have swings, which could have a significant financial impact if your goals are shorter term.
If you’re more risk-averse, you may want to take a more conservative stance with your investment portfolio allocations, which may include fewer high-yielding, yet potentially more volatile asset classes.
For educational purposes only. HealthEquity does not provide investment advice.
On top of your initial investment, setting up automatic recurring contributions to your HSA investment portfolio can increase your growth potential. Moreover, regular maintenance of your investments allows you to effectively react to market changes.
For example, let’s say you plan to add $291.67 to your HSA investment balance each month ($291.67/month for 12 months will max out an individual’s HSA contribution limit of $3,500 for 2019). When the price of a mutual fund goes down, your monthly investment will purchase more shares of the fund. When the price of the same mutual fund goes up, your monthly investment will purchase fewer shares.
Let’s take this example one step further and add in the potential earnings from compound interest with the consistent investment of monthly contributions for 20 years. Using the following assumptions the growth potential would look something like what you see in the graph below:
Rebalancing is when the amount of money in each mutual fund within a portfolio is either equalized or returned to a predetermined percentage of the total portfolio. This is done by withdrawing money from the funds which performed best during the prior period, often one year, and investing it into the mutual funds which performed poorest over the prior year.
This part of rebalancing may seem counter-intuitive, but rather than buying low and selling high, rebalancing reverses that common mantra, encouraging you to sell high and buy low.
Rebalancing the various mutual funds in your investment portfolio does not guarantee improved performance 100% of the time. However, it does improve the outcome 70% of the time over rolling 20-year periods.
Investors with long term strategies must apply patience.
From 1926-2018, the long-term average annual return of a diversified portfolio (40% large U.S. stock, 30% small U.S. stock, and 20% bonds, 10% cash) was 9.52%. The fluctuation form year-to-year can be stressful, but patience pays off.
One of the risks of not being diversified is experiencing a decline in your account value. During downswings in the market, an investor’s patience is severely tested, and many fail by bailing out. A more diversified approach to investing also requires patience, but the ups and downs of the portfolio’s value can be less dramatic and easier to tolerate.
For decades, the two primary investment categories or asset classes that made up a “balanced” mutual fund portfolio were stocks and bonds. But what happens if the price for stocks and bonds drop during same period? A portfolio with only two ingredients is at a higher risk, while a diversified portfolio containing a broad variety of mutual funds will generally provide more stability during periods of turbulent market behavior.
For educational purposes only. HealthEquity does not provide investment advice.
There are wide varieties of asset classes that should be included when building a truly diversified portfolio. Below are the types of asset classes that many modern balanced portfolios include, which consists 12 asset classes instead of only two.
Over A 15-year period, a modern portfolio that uses 12 different mutual funds produced an average annual return of 8.46%, compared to 8.01% for the old school 2-fund “balanced” model. The performance difference between the two approaches amounted to almost $2,047 extra in the ending balance of the 12-fund portfolio after 15 years, assuming a starting lump sum amount of $10,000 in 2003 with no additional investments.
For educational purposes only. HealthEquity does not provide investment advice.
Achieving better balanced performance is not the result of skill, but simply the natural byproduct of meaningful diversification and systematic rebalancing.
Another example can be further illustrated by considering two different investors who invested $10,000 on January 1, 2008 (the year we experienced a recession):
Investor A
Investor B
As mentioned, rebalancing your portfolio is an important part of the investment process. Consider the following scenario. Your target portfolio at the beginning of the year is 50% stocks, 25% bonds and 25% alternatives. By mid-year the stock market has done well and the bond market has sold off. As a result, your stock value increased significantly while the value of the bonds in your portfolio decreased. This means your current allocation looks more like 70% stocks, 15% bonds, and 25% alternatives.
In order to rebalance you will want to sell some of the stocks and buy more bonds. This creates an opportunity to sell stocks while the price is high and buy bonds while the price is low in order to bring your portfolio back in line with your desired targets and risk.
The strategy for when you rebalance depends on the individual. In general, the simplest is to regularly rebalance based on a calendar schedule (every three months for example).
Another strategy is to rebalance whenever your portfolio moves outside of some specified range. For example, when your stock holdings move beyond 5% of your desired range.
Many investment portfolios are constructed using mutual funds and/or exchange traded funds (ETFs). Mutual funds and ETFs have an annual cost that is referred to as the expense ratio. Based on data derived from Morningstar, Inc. the average expense charged by a mutual fund (expense ratio) in the U.S. as of 2018 is roughly 1.00% or 100 basis points.
That means if a mutual fund with an annual expense ratio of 1% had a return of 12.5% in 2015, it would have had a return of 13.5% if it had no expense ratio. The expense ratio directly reduces the return of the mutual fund and lowers the amount of money available to you from your investment portfolio. However, every mutual fund comes with an expense ratio.
One of the main goals when building a diversified HSA investment portfolio using mutual funds is to have the lowest feasible expense ratio.
1HSAs are never taxed at the federal income tax level when used for qualified medical expenses. Also, most states recognize HSA funds as tax-free with very few exceptions. Please consult a tax advisor regarding your state’s specific rules.
2https://www.ebri.org/content/savings-medicare-beneficiaries-need-for-health-expenses-in-2019
3After age 65, if you withdraw funds for any purpose other than qualified medical expenses, you will be subject to income taxes. Funds withdrawn for qualified medical expenses will remain tax-free.
Investments are subject to risk, including the possible loss of the principal invested, and are not FDIC or NCUA insured, or guaranteed by HealthEquity, Inc. Investing through the HealthEquity investment platform is subject to the terms and conditions of the Health Savings Account Custodial Agreement and any applicable investment supplement. Investing may not be suitable for everyone and before making any investments, review the fund’s prospectus.
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