Should I Contribute to My HSA or My 401(k) First?

When deciding whether to contribute to your Health Savings Account (HSA) or 401(k) first, it’s important to understand the benefits of each. Both offer tax advantages, but depending on your situation, one might be more beneficial than the other.

Health Savings Account (HSA)

An HSA is a tax-advantaged account designed to help cover medical expenses. It has a triple tax benefit:

1. Contributions are tax-deductible: You can reduce your taxable income by the amount you contribute.

2. Growth is tax-free: Any investment growth or interest within the HSA isn’t taxed.

3. Withdrawals are tax-free: As long as the money is used for qualified medical expenses, you won’t owe taxes when you take it out.

For 2024, the contribution limits for HSAs are:

• $4,150 for individuals, and

• $8,300 for families.

Additionally, if you’re 55 or older, you can contribute an extra $1,000. The money in your HSA rolls over year to year, so you can build a sizable balance for future medical costs or even use it in retirement.

401(k) Retirement Plan

A 401(k) is a tax-advantaged retirement account where you contribute pre-tax income, reducing your taxable income now. Your contributions grow tax-deferred, meaning you won’t pay taxes until you withdraw the money in retirement. For 2024, the contribution limit is:

• $23,000 for those under 50, and

• $30,500 for those 50 or older.

Some employers offer matching contributions to your 401(k), which is essentially free money. If your employer offers a match, it’s a good idea to contribute enough to get the full match before prioritizing any other savings.

Which Should You Prioritize?

1. Employer match first: If your employer offers a 401(k) match, contribute enough to get the match first. This is free money you don’t want to leave on the table.

2. Max out your HSA next: After you’ve secured your 401(k) match, focus on maxing out your HSA contributions. The triple tax benefits (tax-deductible contributions, tax-free growth, and tax-free withdrawals for medical expenses) make it an excellent long-term savings tool. In retirement, you can also withdraw HSA funds for non-medical expenses after age 65, but you’ll pay income tax on those withdrawals—similar to a 401(k).

3. Return to your 401(k): Once your HSA is maxed out, go back to contributing to your 401(k) to maximize your retirement savings.

Example:

If your employer offers a 50% match on up to 6% of your salary, and your salary is $50,000, that’s $1,500 in free money if you contribute $3,000. Once you’ve captured that match, you could prioritize contributing to your HSA to take advantage of the tax savings, especially if you expect medical expenses now or in the future.

Summary

• Start with your 401(k) match to capture any free money from your employer.

• Max out your HSA for its triple tax benefits, especially if you expect future medical expenses.

• Return to your 401(k) once your HSA is maxed out to boost your retirement savings.

Both accounts are great for long-term savings, but talking to your accountant can help you decide which one to prioritize based on your personal financial goals and needs.