What Is a Medical Savings Account?
A medical savings account (MSA) is a tax-advantaged account designed to help individuals save and pay for qualified medical expenses. It falls under the broader category of personal finance and specifically within healthcare finance. MSAs are typically paired with a high-deductible health plan (HDHP), allowing individuals to use the funds in the account to cover healthcare costs before their insurance deductible is met. The money contributed to an MSA grows tax-free, and withdrawals for eligible medical expenses are also tax-free, offering a triple tax benefit in some cases.
History and Origin
The concept of medical savings accounts emerged in the early 1990s, with several states initially introducing MSA legislation. This approach to healthcare financing gained traction among lawmakers who sought to empower consumers to make more informed choices about their healthcare spending.87 In 1996, Congress established a federal pilot program for MSAs as part of the Health Insurance Portability and Accountability Act (HIPAA).86 These accounts were known as Archer Medical Savings Accounts (Archer MSAs), named after Representative Bill Archer, who sponsored the amendment.85
The Archer MSA program was initially limited to self-employed individuals and employees of small businesses (those with 50 or fewer employees) and was subject to a cap on the number of accounts.82, 83, 84 Despite the potential tax advantages, their complexity and restrictions meant only a fraction of the allowed accounts were opened.81 The intention was to test the concept of consumer-directed healthcare.80 The landscape of medical savings accounts significantly changed in 2003 with the passage of the Medicare Prescription Drug, Improvement, and Modernization Act, which introduced Health Savings Accounts (HSAs) as a more widely available successor.78, 79 While new Archer MSAs are generally no longer opened, existing ones can remain active.77 Furthermore, Medicare Advantage Medical Savings Accounts (MSAs) were made permanent in 2003, offering a similar structure for Medicare beneficiaries.75, 76
Key Takeaways
- Medical savings accounts (MSAs) are tax-advantaged accounts used for healthcare expenses, typically linked to a high-deductible health plan.
- The original Archer MSAs were a pilot program established in 1996 for self-employed individuals and small businesses, largely superseded by HSAs in 2003.
- Contributions to an MSA can be tax-deductible, earnings grow tax-free, and qualified withdrawals are tax-free.
- Funds in an MSA generally roll over from year to year, providing a long-term savings vehicle for healthcare costs.
- Medicare Advantage MSAs are still available today as a type of Medicare Advantage plan.
Interpreting the Medical Savings Account
Understanding a medical savings account involves recognizing its role as a component of a comprehensive healthcare plan. An MSA is primarily designed to cover the initial, out-of-pocket healthcare expenses that fall within the deductible of an associated high-deductible health plan. For instance, if an HDHP has a deductible of $3,000, the funds in the MSA would be used to pay for medical services, prescriptions, and other qualified expenses until that $3,000 threshold is met. After the deductible is satisfied, the HDHP begins to cover subsequent eligible costs, often through copayments or coinsurance.
The attractiveness of an MSA lies in its tax benefits. Contributions reduce an individual's taxable income, and the funds can be invested, allowing for asset accumulation over time without being subject to capital gains taxes. This makes the MSA not just a spending account for current medical needs but also a potential long-term savings vehicle, particularly for future medical expenses in retirement.
Hypothetical Example
Consider Sarah, a self-employed graphic designer, who has an Archer Medical Savings Account linked to her high-deductible health plan. Her plan has an annual deductible of $2,500. At the beginning of the year, she contributes the maximum allowable amount to her MSA.
In March, Sarah visits her doctor for a routine check-up, which costs $150. She pays this directly from her MSA.
Later in the year, she needs a minor surgical procedure, costing $2,000. She also pays this from her MSA.
Her total expenses paid from her MSA so far are $150 + $2,000 = $2,150.
Since her deductible is $2,500 and she has only spent $2,150 from her MSA, she still has $350 remaining to meet her deductible, plus any remaining funds in her MSA. Any further qualified medical expenses up to the $2,500 deductible would be paid from her MSA. Once her total qualified medical expenses exceed $2,500, her high-deductible health plan would begin to cover costs according to its terms, often involving copayments or coinsurance. Any money left in her MSA at the end of the year would roll over for her to use in future years.
Practical Applications
Medical savings accounts, particularly in their current form as Medicare Advantage MSAs, serve as a significant tool within the realm of consumer-driven healthcare. They are designed for Medicare beneficiaries who prefer more control over their healthcare spending.72, 73, 74 Here's how they are practically applied:
- Direct Payment of Expenses: Account holders can use MSA funds to pay for a wide range of qualified medical expenses, including doctor visits, prescription drugs, dental care, and vision care, even costs not covered by Original Medicare.69, 70, 71 This gives individuals flexibility in choosing their providers, as Medicare Advantage MSA plans generally allow beneficiaries to see any provider that accepts Medicare.68
- Cost Management: By combining an MSA with a high-deductible health plan, individuals take on a greater initial financial responsibility for their healthcare. This encourages them to be more mindful of costs and potentially shop around for services, promoting efficiency in healthcare spending.66, 67
- Long-Term Savings: Unlike some other healthcare accounts, the funds in an MSA roll over year after year.64, 65 This feature allows for potential investment growth within the account, creating a substantial pool of money for future healthcare needs, especially during retirement planning.63
- Tax Benefits: Contributions to an MSA are made by the health plan provider (funded by Medicare), and these amounts are not considered taxable income.60, 61, 62 Interest earned on the MSA balance is also tax-free, and withdrawals for qualified medical expenses are exempt from federal income tax.57, 58, 59 The IRS provides detailed guidance on these accounts in publications such as IRS Publication 969.56
Limitations and Criticisms
Despite their advantages, medical savings accounts, particularly in their earlier Archer MSA form and more broadly, have faced several limitations and criticisms.
One significant limitation of the original Archer MSAs was their restrictive eligibility, primarily limited to self-employed individuals and small business employees, which prevented widespread adoption.54, 55 This narrow scope contrasted with the broader availability of their successors, Health Savings Accounts. Furthermore, early iterations of MSAs sometimes lacked the full tax benefits seen in HSAs, with deposits potentially being subject to income and payroll taxes, and unused funds not always rolling over with tax-free interest.52, 53
Critics have also raised concerns that medical savings accounts, and by extension HSAs, might disproportionately benefit wealthier and healthier individuals who are better positioned to afford the associated high deductibles and to save substantial amounts.48, 49, 50, 51 There's a concern that such accounts could lead to adverse selection, where healthier individuals opt for these plans, leaving sicker individuals in traditional insurance pools, potentially driving up premiums for the latter.46, 47
Another criticism is that these accounts might incentivize individuals to forgo necessary or preventive care to preserve funds in their accounts, although some studies suggest this is not always the case, with savings often coming from reduced use of optional services.45 There are also arguments that by reducing the effective rate of out-of-pocket costs, these accounts could inadvertently encourage more healthcare spending rather than more efficient care, especially since research suggests a significant portion of HSA funds are spent rather than saved or invested.44
Medical Savings Account vs. Healthcare Savings Account (HSA)
While often confused, Medical Savings Accounts (MSAs) and Healthcare Savings Accounts (HSA) have distinct differences, though HSAs were largely modeled after and superseded the original Archer MSAs. The fundamental purpose of both is to provide a tax-advantaged way to save for healthcare expenses when paired with a high-deductible health plan.
| Feature | Medical Savings Account (MSA) | Healthcare Savings Account (HSA) |
|---|---|---|
| Creation Date | Federal pilot program (Archer MSA) created in 1996; Medicare Advantage MSAs made permanent in 2003.42, 43 | Created in 2003 by the Medicare Prescription Drug, Improvement, and Modernization Act.40, 41 |
| Eligibility | Archer MSAs primarily for self-employed and small business employees (generally no new ones since 2007). Medicare Advantage MSAs for Medicare beneficiaries.38, 39 | Broader eligibility; generally available to anyone enrolled in a qualifying high-deductible health plan (HDHP) and not enrolled in Medicare.37 |
| Contribution | For Archer MSAs, contributions could come from the individual or employer, but not both in the same year. Medicare Advantage MSAs are funded by Medicare.35, 36 | Contributions can come from the individual, an employer, or both.34 |
| Tax Benefits | Contributions (if individual), earnings, and qualified withdrawals are generally tax-free.32, 33 | Often referred to as having a "triple tax advantage": tax-deductible contributions, tax-free growth, and tax-free withdrawals for qualified medical expenses.28, 29, 30, 31 |
| Fund Rollover | Funds generally roll over year-to-year.27 | Funds roll over year-to-year and accumulate.25, 26 |
| Portability | Generally portable; owned by the individual.24 | Portable; owned by the individual, even if changing employers or retiring.23 |
While Archer MSAs paved the way, HSAs expanded the concept significantly, offering wider access and robust tax benefits that have made them a popular choice for managing healthcare costs.
FAQs
Can I still open a Medical Savings Account (MSA)?
Generally, no new Archer Medical Savings Accounts can be opened, as the program was largely phased out and replaced by Health Savings Accounts (HSAs) in 2003.22 However, if you are a Medicare beneficiary, you may be able to enroll in a Medicare Advantage Medical Savings Account (MSA) plan.19, 20, 21
What kind of expenses can I pay for with an MSA?
You can use funds from an MSA to pay for a wide range of qualified medical expenses. These include costs like deductibles, copayments, and coinsurance, as well as services not typically covered by health insurance, such as dental care, vision care, and prescription drugs.15, 16, 17, 18 For a comprehensive list, consult IRS Publication 969.14
Do unused MSA funds roll over to the next year?
Yes, a key benefit of medical savings accounts is that any unused money in your account generally rolls over from year to year.12, 13 This allows funds to accumulate and be used for future qualified medical expenses, making it a long-term savings tool.
Are contributions to an MSA tax-deductible?
For Archer MSAs, contributions made by the individual were tax-deductible.10, 11 For Medicare Advantage MSAs, Medicare deposits a set amount of money into your account each year, and this money is not considered taxable income to you.7, 8, 9 Additionally, the interest earned on MSA funds is tax-free, and withdrawals for qualified medical expenses are also tax-free.4, 5, 6
What happens to my MSA if I change health plans or retire?
The funds in your medical savings account are yours, similar to a personal bank account.2, 3 This means that if you change health plans, change employers, or retire, the money in your MSA remains with you and can continue to be used for qualified medical expenses.1 However, your eligibility to contribute new funds to an MSA may change based on your new health coverage or Medicare status.