A health savings account, commonly known as an HSA, is a way to save money tax-free for current and future healthcare expenses, as well as for long-term care and insurance. To take advantage of an HSA, you must have a high-deductible health plan (HDHP). High-deductible health insurance plans generally cost less than traditional ones, and usually do not cover the first several thousand dollars of healthcare expenses. Since HDHPs are less expensive, however, you can place the resulting savings into your HSA account to pay for medical expenses not covered by your HDHP.

HSAs have several advantages. They can help you lower the amount you're spending on health insurance premiums. And once you deposit money into an HSA, it's yours to spend as you see fit—as long as you spend the money on allowable medical expenses. You also can invest money from an HSA, decide where you're going invest the money, and choose the institution that holds the account. The money you place in your HSA also is tax deductible. Any money earned through investment of HSA dollars is tax-free, as are withdrawals for medical expenses. HSAs also provide a great deal of flexibility because they are portable—if you change jobs, become unemployed, move to another state, or change your insurance coverage, the money is still considered yours.

How do you sign up for an HSA? Many employers and insurance companies offer them in conjunction with HDHPs. Insurance agents and brokers can also point you in the right direction. Banks, credit unions, insurance companies, and other financial institutions are usually custodians or trustees for these accounts. If you do sign up, you'll want to visit the HSA section on the U.S. Department of the Treasury Web site. Each year, you'll have to report your HSA distributions on Tax Form 8889. And before you spend any money, you'll want to make sure you're spending your HSA dollars on allowable medical expenses, which are outlined in IRS Publication 502.