How to Make an Emergency Fund With Your Health Savings Account

March 10th, 2014 by 

If you're looking for a place to put your emergency fund, your search has come to an end: the oft-overlooked Health Savings Account.  Today we discuss the idea of the health savings account retirement fund, and explain the IRS rule which makes it all possible.

Keeping Something in Reserve

A common refrain heard from the Personal Finance proletariat is that a person should keep 3 (or 6 or 12) months of expenses in a so-called “emergency fund” to insure oneself against unplanned eventualities, such as job loss and refrigerator repair.

We were once in that camp, although years of near-zero interest rates (which are taxed!) have soured us on the whole concept. Experience, too, has lead us to question the scenarios which authors commonly list as cause for emergency fund hoarding: medical expenses are generally covered by medical insurance, disability and dismemberment insurance are covered by their respective insurances and the risk of job loss can be covered by unemployment insurance and the (possible) promise of a severance.  We have other reasons the emergency fund is overrated, but they won't all go here.

Let's say you believe you have some chance of unplanned expenses: your car just came off warranty or the lemon law expired, or your dog is crazy enough that ligament tears might be in his future. Or, yes, you have some medical expense which isn't covered by insurance. What then?

Let DQYDJ be your guide – we won't blindly parrot the unsophisticated advice given by other Personal Finance sites. Here's your gateway to a DQYDJ-approved backdoor health savings account emergency fund.  The payoff isn't immediate, but it's worth the work!

Enter the Health Savings Account Emergency Fund, Stage Right!

A health savings account emergency fund article needs a picture of a refrigerator... right?

Future Emergency Spending!

One of the effects of the Affordable Care Act has been to cause more people to join High Deductible Health Plans, the definition of which is set by the Government (and changes every year). The main benefit of that insurance is the ability to pair it with a Health Savings Account, which has the following features:

  • $3,350 deposit limit for a single in 2016 ($6750 for a family)
  • Deposits are pre-income tax, and if part of a work “cafeteria plan” even exempt from Social Security and Medicaid
  • Withdrawals are untaxed, so long as they go for qualified medical expenses
  • Medical expenses can be reimbursed in any year, so long as they occur after the HSA was opened.
  • HSAs exist from year to year, and depending on the plan administrator even have investment options open to grow money.

How Does That Relate to Emergency Funds?

Well, the obvious way is... with a maxed out HSA, you've got your medical emergencies covered right there. That's not the best reason, however.

Look up at bullet point 4. You can reimburse yourself for medical expenses in any year, so long as you have a record of spending money on a qualified expense and haven't written the expense off on your taxes. See where we're going with this?

That means you can open an account in 2016 and pay for medical expenses out of your normal accounts – not the HSA. The HSA you leave untouched, keeping track of every receipt which you pay for in this way.

When a non-medical emergency occurs which you can't cover from cash flow, you find receipts equal or greater than the amount you need to cover the emergency, write a check to yourself from the HSA, and record the fact that those receipts have now been reimbursed.

Sound like a loophole?

Nope, it's by design – since the HSA may not be fully funded in the beginning, it only makes sense to be able to defer expenses to when the HSA can make the owner whole. If you don't believe us, here it is straight from the IRS (question 39).  Even the IRS is implying you can use a health savings account as an emergency fund - or, at least, a regular saving account.

Health Savings Account Arbitrage

So, there you have it – a way to (slowly, hopefully!) build a health savings account emergency fund and remove the 'tax' downfall along with the medical emergency angle. If you do go down this road, you'll also be slowly accruing liabilities to yourself – tax free IOUs, if you will – to eventually cash in for real emergencies.

Or you know, everyday spending in case the emergencies don't pan out.

Do you use this Health Savings Account Emergency Fund strategy? Is there an HSA available to you? If you answered “no; yes”, well... what are you waiting for? Do you think it's a good idea to use a health savings account as an emergency fund?

Want more taxable account tricks? See our Roth IRA/401(k) over-contribution loophole!



PK started DQYDJ in 2009 to research and discuss finance and investing and help answer financial questions. He's expanded DQYDJ to build visualizations, calculators, and interactive tools.

PK lives in New Hampshire with his wife, kids, and dog.

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