When - and How - Can You Invest Your HSA Balances to Grow Your Funds over Time?

This column is an excerpt (Question 144) from a book to be published later this year to help guide account owners, employers, benefits managers, and administrators understand Health Savings Account compliance issues. The format consists of a common question, an explanation in easy-to-understand English (often with an appropriate example), and a citation from government documents to support the answer. The book is designed to inform. It is not a legal document, and the contents should not be construed as legal advice.

Question: When can I invest my Health Savings Account balances, and what investment options are available?

Answer: A small (less than 15%) but growing number of Health Savings Account owners invest a portion of their balances rather than retain the full amount in cash.

Your agreement with your account provider determines the minimum account balance needed before you can begin to invest your balances. If you participate in your employer’s program, the company may set the cash threshold – often between $1,000 and $2,500 – after which you can begin to invest additional balances.

Account providers typically offer a menu of between two dozen and four dozen mutual funds. The wide range of options span company size (large, medium, and small) and level of investment aggressiveness (growth, blend, and value). Choices include international, bond, and money-market investments. More account providers now offer target funds that adjust the ratio of stocks and bonds as you get closer to a designated year (typically when you plan to retire). These funds, common in 401(k) plans, are further evidence of the use of Health Savings Accounts as retirement wealth-accumulation vehicles.

Many account providers allow you to invest all balances above the threshold automatically. You can set your account so that once you reach the investment threshold, all new contributions are automatically swept into mutual funds that you choose in the proportion that you designate. This sweep feature allows you to put your investing on auto-pilot instead of having to remember to transfer funds regularly from your cash balance to investments. You may be able to set up a periodic rebalancing of your investments to maintain your target allotment among funds or asset classes.

 Example: Your employer requires a minimum cash balance of $1,000 before you can invest additional contributions. You indicate that you want 50% of your contributions to go into a specific large-cap growth fund, 25% to a small-cap value fund, and 25% to an international index fund. You build your cash balance to $1,000. All subsequent contributions are automatically invested 50%-25%-25%. If your cash balance dips below $1,000 because of a distribution, your account provider may automatically liquidate investments in that same 50%-25%-25% split to build the balance up to the cash threshold.

Some account providers’ investment menus include common stocks. This expanded list is an attractive feature if you’re a more sophisticated investor. And some providers that offer both Health Savings Accounts and retirement accounts can adjust your company's (if you fund your account through your employer) Health Savings Account investment menu to mirror the retirement-plan options.

Remember, investing in equities offers not only the potential for growth that far exceeds interest earned on cash balances (many providers offer interest rates of 0.25% or less on low balances), but also the risk of loss. Retirement investors assume this risk in their 401(k) plans or Individual Retirement Arrangements because these accounts are long-term investments. They understand, either explicitly or intuitively, Benjamin Graham’s maxim that the market is a voting machine in the short run (responding to daily political and economic events) and a weighing machine in the long run (evaluating companies based on their projected stream of profits). Retirement account owners invest for the long haul and don’t fret over temporary dips in the market that reduce their balances.

In contrast, you can tap Health Savings Account funds today or in the future to reimburse qualified expenses tax-free. A short-term market correction can substantially reduce your balance available for immediate reimbursement. Your account provider’s requirement that you hold a portion of your balance in a cash account protects you from the immediate financial – if not the emotional – consequences of a market correction and the need to liquidate depressed equity investments to reimburse a qualified expense.

 Tips

Many small account providers, often local savings banks and credit unions, offer Health Savings Accounts that are little more than tax-advantaged checking accounts, with no investment options. These accounts may be attractive initially when they’re offered by your financial institution or you’re using your account primarily to reimburse current qualified expenses, because they typically have no or very low account fees. But as your balances grow and you understand the long-term wealth-building opportunity that Health Savings Accounts offer, you may want an account with investment options.

Remember that you can move some of or all your balances as often as you wish by executing trustee-to-trustee transfers (see Question 128). If your company continues to work with a small provider that doesn’t offer any (or, in your opinion, not a sufficiently robust menu of) investment options, you can make regular trustee-to-trustee transfers to move your balances into a more suitable account that you open on your own. If your employer doesn’t have a Health Savings Account partner, you choose one that works best for you.

 IRS Notice 2004-50:

 Q-65. What are permissible investments for HSAs?

A-65. HSA funds may be invested in investments approved for IRAs (e.g., bank accounts, annuities, certificates of deposit, stocks, mutual funds, or bonds). HSAs may not invest in life insurance contracts, or in collectibles (e.g., any work of art, antique, metal, gem, stamp, coin, alcoholic beverage, or other tangible personal property specified in IRS guidance under section 408(m)). HSAs may, however, invest in certain types of bullion or coins, as described in section 408(m)(3). The HSA trust or custodial agreement may restrict investments to certain types of permissible investments (e.g., particular investment funds).

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The content of this column is informational only. It is not intended, nor should the reader construe the content, as legal advice. Please consult your personal legal, tax, or financial counsel for information about how this information applies to you or your entity.

HSA Question of the Week is published every week, alternating every other Wednesday with HSA Wednesday Wisdom and every other Monday with HSA Monday Mythbuster.