Flexible Spending Account (FSA)
A flexible spending account (FSA), is a tax advantage way to pay for eligible out-of-pocket health care expenses and work-related dependent day care expenses. An FSA allows you to pay for eligible expenses with “pre-tax” dollars, thereby lowering your taxable income.
- A healthcare spending account allows you to set aside money on a pre-tax basis to pay for qualifying out of pocket health care, dental, vision or hearing expenses. Out of pocket expenses are those that are not covered by your existing health insurance plan. Eligible expenses include deductibles, coinsurance and co-pays and certain over the counter (OTC) expenses.
- A dependent care spending account allows you to set aside money on a pre-tax basis to pay for child or adult day care expenses so that you and if married, your spouse can work. Expenses include day care, before and after school programs, nursery school or preschool, summer day camp and even adult day care.
- A limited purpose spending account allows you to contribute to a health savings account (HSA). By limiting FSA reimbursements to dental and vision care expenses, you (or your spouse) remain eligible to participate in both a limited-purpose FSA and an HSA.
The main advantage of an FSA is that you do not pay federal income taxes or social security taxes on the amount you elect to contribute to your FSA. In most states, you don’t pay state taxes on your contribution either. By participating in an FSA, you lower your taxable income and therefore decrease the amount of taxes you pay.
IRS rules do not allow you to contribute to a health savings account (HSA) if you are covered by any non-qualifying health plan, including a general purpose health FSA. By limiting FSA reimbursements to dental and vision care expenses, you (or your spouse) remain eligible to participate in both a limited-purpose FSA and an HSA. Participating in both plans allows you to maximize your savings and tax benefits.
Although funds in a Limited Purpose FSA can only be used for dental or vision expenses, they are front-loaded into your account. This means they will be available, in full, early in the year. For instance, if you or your dependents need braces or glasses, you can put money into your Limited Purpose FSA and pay for them in January. You can put up to $2,550 into a Limited Purpose FSA.
A limited-purpose FSA covers qualified out-of-pocket expenses for dental or vision care provided to you, your spouse, or dependents. These expenses are defined by IRS rules and your employer’s plan.
You may not use funds from both your limited-purpose FSA and your HSA to cover the same eligible expense. Since there’s no double-dipping allowed, you must choose which account will reimburse your expense.
Yes. As a result of the Affordable Care Act, employee contributions have been capped for limited-purpose FSA plans. The annual limit is $2,550, and you cannot contribute more than this amount.
Yes, if your spouse is eligible to make contributions to a limited-purpose FSA. Each spouse may contribute up to the $2,550 maximum limit to their own limited-purpose FSA. This applies even if both spouses participate in the same limited-purpose FSA plan sponsored by the same employer.
The action you need to take depends on if you have a grace period extension or carryover feature included in your general-purpose health FSA.
- Grace period extension – You need to spend down the remaining funds before the plan year ends. If you don’t do this, you can’t open your HSA until the first day of the month following the end of the run-out period. For example, if your run-out period ends on March 31, you won’t be able to establish your HSA until April 1.
- Carryover– You have two options:
- Spend the funds left in your general-purpose health FSA before the plan year ends. This includes spending your carryover balance; or
- Enroll in a limited-purpose health FSA if it’s offered in your benefits package. If you have a carryover balance, it will move into this account.
Please note: If your spouse has a general-purpose health FSA, the details above also apply to that account.
Your entire health FSA election is available on the first day of the plan year. If your FSA is active, your available funds decrease as your claims are paid.
The IRS created this rule, which states that all money left in your FSA is forfeited after the plan year ends, or if applicable, after the run-out period. If your limited-purpose FSA has a carryover feature, you may carry over up to $500 of unused funds into the next plan year. The $500 maximum carryover limit was set by the IRS. After the carryover, you forfeit remaining unused funds that are more than the carryover amount.
The unused portion of your limited-purpose FSA cannot be paid to you in cash or other benefits, and you can’t transfer money between FSAs. To reduce your risk of losing money at the end of the plan year, carefully estimate your expenses when choosing your annual election amount.
Your election will be in effect until the end of the plan year. You must re-enroll each year if you want to continue participating. You may only start, stop or change your contribution amount during the plan year if you have a qualifying event in your family situation, such as marriage, divorce or the birth of a child.
Since these plans are governed by the IRS, there are specific rules you need to be aware of. The IRS requires that you make your election decision before the new plan year begins each year, or before your effective date if you are newly eligible. The election decision remains in effect for the plan year, unless you have a Qualifying Life Event or status change, such as a marriage, birth, death of a dependent, etc.
If you stop working for your employer or you lose your FSA eligibility, your plan participation and your pre-tax contributions will end automatically. Expenses for services you have after your termination date are not eligible for reimbursement.
Typically, it does not affect your other benefits since most employer sponsored benefits, such as life insurance or disability income, are based on your gross salary prior to any salary reductions. However, you are saving on social security taxes so your social security retirement benefits may be minimally impacted.