Everything You Need To Know About Flexible Spending Accounts (With Examples)

Understanding the intricacies of your employer benefit plan can be challenging. One of the most commonly misunderstood benefits is the flexible spending account (FSA).

In this article, we will clarify what a flexible spending account is, how it functions, and whether it’s a smart financial move for you.

Key Takeaways:

• A flexible spending account (FSA) is an employer-sponsored benefit designed to help cover medical expenses with pre-tax dollars.

• FSAs operate on an annual cycle and funds do not roll over from year to year.

• Employees can contribute up to $2,750 annually to their FSA through payroll deductions.

• FSAs cannot be used for insurance premiums, but most other medical expenses not covered by insurance are eligible.

• Individuals with frequent medical expenses should seriously consider utilizing an FSA.

What Is a Flexible Spending Account?

A flexible spending account (FSA) is an employer-sponsored benefit that allows employees to pay for qualified medical expenses before tax. These accounts are often referred to as flex plans or flexible spending arrangements.

FSAs are structured on an annual basis, with an open enrollment period typically coinciding with health insurance enrollment. Unused funds in an FSA at the end of the year are generally forfeited, making it crucial to estimate contributions carefully to avoid wasting money.

Employers may offer options such as a 2.5-month extension to use funds or allow a rollover of up to $500 into the next year. However, these options are not guaranteed, so it’s advisable to consult your human resources department for details.

Consider the following key points about FSAs:

• Contributions to an FSA are deducted from your taxable income, resulting in tax savings.

• Employers may also contribute to your FSA, increasing the available funds for health costs.

• Employees can allocate up to $2,750 per year for qualified medical expenses through an FSA.

• Funds are typically set aside through payroll deductions, ensuring you’re prepared for health-related costs.

How FSAs Work

FSAs provide a streamlined way for employees to manage medical expenses that are not insurance premiums, either through a debit card or a reimbursement system.

Understanding the mechanics of FSAs involves:

• Type. FSAs usually operate in one of two ways: either you receive a debit card for direct access to your funds or submit receipts for reimbursement.

• Contribution size. At the start of each plan year, employees declare their annual contribution amount, which is deducted from paychecks throughout the year. For reimbursement, submit an Explanation of Benefits or an invoice to your plan’s administrator.

• Who can use an FSA. Funds can be used for your medical expenses or those of your spouse and dependents. If you have children enrolled in your health plan who will be under 26 by the year’s end, their medical expenses are also eligible.

• Eligible expenses. FSAs cannot be used for insurance premiums, but they cover deductibles, prescriptions, dental and vision care, and copayments. Following the 2020 CARES Act, FSAs can also be used for over-the-counter medications, social distancing aids, and menstrual products.

  For a comprehensive list of eligible expenses, review the FSAstore’s eligibility guide.

Types of FSAs

In addition to general FSAs, employers may offer various types of accounts based on individual needs:

• Dependent Care FSA. This option is particularly beneficial for parents or caregivers and allows for tax-free contributions for dependent care costs, such as daycare or transportation for elderly relatives to appointments.

  Individuals can contribute up to $5,000 annually per household, covering eligible dependents under 14 and any tax-dependent relatives unable to care for themselves.

• Limited Purpose FSA. These accounts are restricted to specific expenses, often limited to dental and vision costs. Enrollment typically requires having a high-deductible health plan (HDHP) and a health savings account (HSA), making them ideal for those with predictable dental or vision expenses.

Deciding if an FSA Is Right For You

Since FSAs operate on a “use-it-or-lose-it” basis, any unspent money at the year’s end is forfeited, unless your plan allows for a rollover or extension. Finding the right balance between tax savings from FSA contributions and potential waste is essential.

• Age. Generally, younger and healthier individuals may find less value in an FSA, as they likely have fewer out-of-pocket medical costs.

• Frequency of medical expenses. For those with regular medical expenses, contributing to an FSA can be an effective way to increase your net income by utilizing pre-tax dollars.

• Health status. Review your past year’s medical expenses to gauge whether contributing to an FSA aligns with your expected healthcare costs. If you don’t anticipate significant expenses, it may not be worthwhile.

• Dependent care. If your FSA covers childcare costs, enrolling can lead to substantial tax savings on those expenses.

• LPFSA with an HSA. A limited purpose FSA can be beneficial if you already have an HSA and want a designated account for dental or vision expenses, potentially cheaper than purchasing dental insurance if you can project your annual costs.

Flexible Spending Account Tips

To maximize the benefits of your flexible spending account, consider the following tips:

• Understand your plan’s grace period. While most FSAs expire at the end of the plan year, many plans offer a grace period, typically lasting 2.5 months, allowing additional time to incur eligible expenses.

• Know your plan’s carryover amount. Some FSAs allow you to carry over a portion of unused funds, commonly up to $500, to the next plan year. Familiarize yourself with your specific plan’s rules.

• Keep receipts. Maintain documentation for all eligible expenses, whether using a debit card or reimbursement process. Ensure receipts include the total amount, date of purchase, eligible item/service, and provider’s name.

• Budget at the beginning of the year. Analyze your past medical expenses to estimate your FSA contributions accurately. For instance, if you typically spend $150 monthly on prescriptions, contributing $1,800 annually would be appropriate.

• Utilize your FSA frequently. Take advantage of the pre-tax benefits by using your FSA for eligible expenses, such as copayments, prescriptions, and deductibles.

Flexible Spending Account FAQs

1. How much money will I save with an FSA?

   The average tax savings for an individual earning $50,000 who contributes $2,000 into an FSA is around $600, according to the United States Office of Personnel Management (OPM). Note that these savings are realized only if you utilize the entire $2,000 within the year.

2. What’s the difference between an FSA and an HSA?

   A health savings account (HSA) is an individual account, independent of employer ties. To qualify, individuals must have a high-deductible health plan (HDHP) with minimum deductibles of $1,400 for individuals or $2,800 for families.

   HSAs allow for higher annual contributions—$3,550 for individuals and $7,100 for families—and serve as investment accounts that grow tax-deferred. Withdrawals for qualified medical expenses are tax-free. HSAs do not expire and can be accessed tax-free after age 65.

3. What’s the difference between an FSA and an HRA?

   FSAs are primarily funded through employee contributions, while HRAs (health reimbursement accounts) are funded only by the employer. HRAs may cover different eligible expenses, potentially allowing for insurance premium payments, providing a more flexible option for employees.

4. What expenses are not eligible through an FSA?

   Typical ineligible expenses include elective procedures. Services such as teeth whitening, hair transplants, and cosmetic surgeries cannot be reimbursed through an FSA.

   Additionally, FSAs cannot be used for gym memberships or routine maintenance costs for glasses or contacts.

5. What happens to my FSA if I leave my employer?

   FSAs are employer-owned, meaning they do not transfer with you if you leave your job. Any remaining funds in your FSA are forfeited upon departure.

   If you receive a severance package that includes continued health benefits, you may still utilize your FSA funds during that time.

6. How much should I contribute to my FSA?

   There’s no one-size-fits-all answer. Your annual contribution should be based on a careful estimate of expected healthcare expenses throughout the year.

   When considering a DCFSA, take into account the specific costs you incur for childcare expenses annually.

7. What are some drawbacks of FSAs?

   The primary drawback is the forfeiture of unused funds at year-end. While employers may allow rollovers or extensions, these features are not mandatory. It’s vital to be aware of deadlines and options to maximize your FSA benefits.

8. Can I double-dip from my limited purpose FSA and HSA?

   No, double-dipping is not permitted. Funds from both a limited purpose FSA (LPFSA) and HSA cannot be used for the same expense.

   It’s generally recommended to utilize your LPFSA first, as your HSA offers broader coverage and does not expire, allowing for more flexible use of those funds.

9. How common are FSAs? 68% of employers offer flexible spending accounts, according to a recent survey by SHRM.

Author

Matthew Zane

Matthew Zane is the lead editor of Zippia's How To Get A Job Guides. He is a teacher, writer, and world-traveler that wants to help people at every stage of the career life cycle. He completed his masters in American Literature from Trinity College Dublin and BA in English from the University of Connecticut.