By Dan Miller, WCI Contributor
A Flexible Spending Account (FSA) can be an important tool to reduce the total amount that you pay for your medical expenses. With risings costs in medical insurance premiums, prescriptions, copays, and other expenses, you may be looking for ways to lower your out-of-pocket cost. An FSA is an employer-sponsored program that allows you to pay for medical and dental expenses with pre-tax dollars. Just be careful to not put too many funds in your FSA, since you lose any unspent money in your account at the end of the year.
What Is a Flexible Spending Account?
A Flexible Spending Account (FSA) is an account sponsored by your employer and is set up as part of your overall benefits package. All FSA plans work in different ways, so if you have questions about whether your employer offers one or how it works, you'll want to contact your HR department.
Typically, an FSA is offered by your employer when they also offer health insurance as part of your overall compensation. But you don't necessarily need to be on your employer's healthcare plan to participate in an FSA. The maximum contribution limits are set by the IRS and change each year. For 2022, you can contribute $2,850 per year per employer. If you're married, your spouse can also contribute $2,850 with their employer as well.
How Does a Flexible Spending Account Work?
Generally speaking, you set aside money to your FSA with each paycheck, and then that money is available for you throughout the year to cover certain medical and dental expenses. The money that you contribute is pre-tax money—this means that you won't pay income tax or payroll taxes on the money that you contribute to your Flexible Spending Account.
Flexible Spending Account Eligible Expenses
One important thing to note about how to use a Flexible Spending Account is that only certain types of medical and dental expenses are eligible to be paid with the money in your FSA. The IRS keeps a guideline of generally eligible expenses, which includes:
- Medical appointments, including annual physicals
- Contact lenses and eyeglasses
- Dental treatment
- Prescription medications
- Deductibles and copayments, but not insurance premiums
With most Flexible Spending Accounts, you'll receive a debit card that you can use to pay for your expenses. If you prefer, you can pay for your eligible medical and dental expenses out of your own pocket and have your FSA administrator reimburse you. Typically, you do not have to prove to anyone that your expenses were eligible unless you are audited. So, you'll want to keep your medical receipts just in case.
Do Flexible Spending Accounts Roll Over?
The other important thing to keep in mind about Flexible Spending Accounts is that the money inside them generally does not roll over from year to year. If you don't spend all of the money in your FSA by the end of the year, you may lose that money. That's one major difference between a Flexible Spending Account and a Health Savings Account (HSA), which allows you to roll over your money from one year to the next. Make sure that you don't put more money in your Flexible Spending Account than you plan on using by the end of the year.
Your employer is permitted to provide either a grace period of up to 2 ½ extra months to use the money in your FSA or t0 carry over up to $570 from year to year, but employers are not required to offer either. Some employers also contribute or match employee contributions to an FSA.
Who Is Eligible for a Flexible Spending Account?
Because a Flexible Spending Account is set up and administered by employers, they are the ones that set the rules on whether to offer an FSA. If you are a full-time employee that gets health insurance from an employer, you are likely eligible to participate in an FSA. If you're not sure if your employer offers Flexible Spending Accounts, check with your HR or Benefits department.
Health Savings Account vs. Flexible Spending Account
A Health Savings Account (HSA) is another way to pay for qualifying medical expenses with pre-tax dollars, but they differ from FSAs in a few key areas.
- The individual controls an HSA, while FSAs are controlled by the employer.
- Money in an FSA expires at the end of each calendar year, while money in an HSA can continue to stockpile.
- Money in an HSA can be invested but in an FSA, it generally remains in cash.
- Most employees will be eligible for an FSA if your employer offers it, but you need to be enrolled in a High Deductible Health Plan (HDHP) to be eligible to contribute to an HSA.
In one case, you can use an HSA and an FSA in the same year. With a Limited Expense Health Care FSA, you can use pre-tax money for eligible dental and vision care expenses that are out of pocket while also maintaining an HSA for your other medical expenses. This kind of FSA is different than most regular FSAs, because it's limited only to dental and vision expenses and because you're allowed to carry over as much as $570 from year to year. While Limited Expense FSAs and HSAs are compatible to use in the same year, a Limited Expense FSA and a regular FSA can not be used together.
What Is a Dependent Care Flexible Spending Account?
A dependent care flexible spending account is another type of benefit offered by some employers. It shares many of the same qualities as a Healthcare Flexible Spending Account (including the fact that you're using pre-tax dollars), except that it is for dependent care expenses instead of medical expenses. This can include childcare, preschool, summer camps, or care for dependent adults that live in your home.
Just like a Healthcare Flexible Spending Account, money put into a Dependent Care Flexible Spending Account must be used by the end of the year, or you risk losing it.
Is a Healthcare FSA Worth It?
A Healthcare Flexible Spending Account will likely be worth it for most people, as long as you're at least somewhat organized with your budget and medical expenses. Paying for medical expenses with your FSA can be a way to save 30% or more on these expenses, just from the fact that you won't have to pay taxes on that money. You just need to make sure that you're organized enough to remember to pay for your medical expenses with either your FSA debit card or to get reimbursed. Plus, you have to remember not to leave any money in your account at the end of the year. If that means buying a dozen cases of contact lens solution in mid-December to get rid of the money in your FSA, then so be it.
While an HSA, if you can get one, has strong tax efficiency and retirement-saving implications, an FSA is another good option. Paying for your medical expenses with pre-tax dollars is usually a winning combination.
If you need help with tax preparation or you’re looking for tips on the best tax strategies, hire a WCI-vetted professional to help you figure it out.
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