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Flexible Spending Accounts (FSAs): Maximizing Your Healthcare Savings

What is a Flexible Spending Account (FSA)?

A flexible spending account (FSA), also called a flexible spending arrangement, may be offered as part of employer-sponsored health insurance. Employees can choose to have money deducted from their paycheck and put into this account, and they can use money from the FSA to pay for healthcare expenses such as deductibles, copayments, coinsurance, and some prescription medications.

However, FSAs operate on a “use it or lose it” model. At the end of the plan year, any money not used to pay for healthcare costs is lost. These plans are also tax-advantaged, so money saved in your FSA does not count as part of your income and is not taxable.

Keep reading to learn why an FSA may be right for you, how these plans work, the type of plans offered, and how you can make the most of your FSA. 

Why You May Want to Consider Getting an FSA Account

FSAs allow employees to contribute part of their paycheck each month to a tax-free savings account that can help cover out-of-pocket healthcare expenses. In 2020, 163 million non-elderly Americans were covered by employer healthcare plans. In the same year, there were 1.9 billion FSAs across the country, and employees contributed more than $2.34 billion to these accounts.

There are several reasons why it may make sense to get an FSA account, not least of which is the ability to offset out-of-pocket healthcare costs with tax-free earnings. In addition, contributions can be deducted automatically from your paycheck and added to your FSA. Your employer may also choose to match some or all of your FSA contributions each month.

How Do Flexible Spending Accounts Work?

To use an FSA, employees submit a claim to their FSA provider via their employer, along with proof of the expenses paid and evidence that these expenses were not covered by their plan. If the expenses are approved, employees are then reimbursed for these costs.

For example, if you have a $50 copayment for care from a specialist healthcare provider once per month, you’re paying $600 per year in copayments. You can use your FSA to cover these costs if you submit proof of the appointment along with documentation of your copayment.

There are several things worth noting about FSA accounts. The first is that FSAs are not transferrable. If you leave your current job, all unused funds in the account return to your employer. In addition, these plans are “use it, lose it,” meaning any money left at the end of the plan year does not roll over to the next. Keep in mind that FSAs also cannot be used in tandem with ACA marketplace plans.

There are exceptions, however. Your employer may choose to offer a grace period of 2.5 additional months to use the money in your FSA or allow you to carry over up to $610 per year to use in the following year. This is an either/or — employers may offer a grace period or a carry-over, but not both. 

Eligibility Criteria

If your employer offers an FSA and you opt into employer-sponsored healthcare insurance, you are eligible for an FSA. FSAs are not offered independently of employer-sponsored insurance and are not available if you are self employed. 

Enrollment in an FSA happens during a set period each year. The timing of this enrollment period may be decided by your employer-sponsored insurance provider or your employer. For example, the National Institutes of Health (NIH) has a two-month enrollment period in November and December each year. 

When you enroll, you select a monthly contribution amount. Once you select an amount, you cannot change it for the remainder of the year unless you experience a qualifying event

What Can You Use FSA Funds On?

You can use FSA funds to pay healthcare deductibles, copayments, and coinsurance. You may also be able to spend FSA funds on prescription medications and medical equipment.

While your insurer makes the final decision, the IRS has a list of generally permitted medical expenses that can be covered using an FSA. They include crutches, bandages, eye exams, and diagnostic devices such as test kits for blood sugar. Covered expenses also vary by the type of FSA you have, as we’ll explore more below.

What Can’t You Use FSA Funds On?

You can not use your FSA fund to pay for insurance premiums. Other expenses not eligible for FSA reimbursement include cosmetic surgery, nonprescription drugs, or nutritional supplements. Check with your employer-sponsored healthcare provider for a complete list of what’s covered. 

FSA Limits for 2023

The FSA limit for 2023 is $3,050 per year per employer. This means that if you and your spouse both work and your employers offer FSAs, you can both contribute up to $3,050 each. These amounts vary by year. For example, in 2022, the FSA limit was $2,850 per person

While the maximum contribution amount is $3,050, this value is not mandatory. For example, you might agree to have $100 deducted monthly for your FSA for a total yearly contribution of $1,200. Because you lose unused contributions, this may be a useful approach. If you find that you are leaving money in your FSA at the end of the year, it may be worth reducing your contributions. 

Types of Flexible Spending Accounts

Within the larger category of FSAs, there are three common subtypes: HCFSAs, DCFSAs, and LPFSAs. Each of these account types works differently and covers different expenses. 

Healthcare FSA (HCFSA)

HCFSAs are the standard FSA type. They are available to employees with employer-sponsored insurance coverage and help pay for out-of-pocket medical expenses. You can use these FSAs to pay for your own medical expenses, your spouse’s expenses, and any dependents that appear on your tax return. 

Dependent Care FSA (DCFSA)

DCFSAs were designed for working parents and caregivers. Unlike an HCFSA, you can use a DCFSA to pay for childcare that allows you to work. This childcare may include nannies, babysitters, daycare, or before and after-school care. You can also use this type of FSA to pay for the care of a disabled adult. 

To claim expenses for a dependent through a DCFSA, the dependent must live with you the majority of the time. In the case of divorced parents, this means the primary caregiver can contribute to and be reimbursed from a DCFSA. Children must be under the age of 13 for childcare expenses to qualify.

Limited Purpose FSA (LPFSA)

LPFSAs, also known as limited expense health care FSAs or LEX HCFSAs, let you contribute to a health savings account (HSA) while also contributing to an FSA. The catch? LPFSAs can only be used to pay for out-of-pocket dental and vision expenses. HSAs can also be used to claim vision or dental expenses, but expenses can only be claimed under an HSA or an LPFSA, not both.

Benefits and Drawbacks of Flexible Spending Accounts

FSAs offers come with benefits and drawbacks worth considering before you start contributing.

Benefits

Benefits of an FSA include:

  • Money set aside for out-of-pocket costs: FSAs allow you to claim costs such as copayments and coinsurance for reimbursement, so they don’t impact your regular budget.
  • Lower taxable income: Since contributions are deducted from the pre-tax dollars of your salary, they lower your taxable income. 
  • Options for dependent care: FSA options such as the DCFSA let you claim reimbursement for childcare or dependent adult care costs. 

Drawbacks

There are also potential FSA drawbacks, such as:

  • Yearly cap on contributions: This year, the cap is $3,050 per employee. Once you reach this amount, no further contributions are permitted for the remainder of the plan year.
  • Funds expire and may be forfeited: At the plan year’s end, any funds left over are forfeited unless your employer offers a rollover or grace period. 
  • FSAs are not transferrable: If you leave your current job, you forfeit any funds in your FSA to your employer. 

How to Enroll In and Use an FSA

If your employer offers an FSA, follow these steps to get started with your flexible savings account.

1. Enroll in an FSA

First, check with your employer to see if they offer an FSA through their insurance provider. If so, ask when enrollment periods start and end. If you’re interested in joining, you’ll submit documents with your basic personal information along with the amount you want to contribute each month. 

2. Set Up Your Contributions

Determine the frequency and amount of your contributions. For example, if you decide to contribute $100 per month, this amount is deducted from your wages and applied to your FSA. This means that you effectively make less money, in turn lowering your taxable income. 

3. Monitor Your FSA Balance

Depending on how your plan is set up, you may receive the full balance of your FSA at the beginning of the year, or you may only have access to what you’ve contributed. If you have access to the full balance, you may be issued a debit card for health spending — this lets you pay for healthcare upfront and then submit receipts for review. 

4. Track Eligible Expenses for Reimbursement

It’s a good idea to track how much of your FSA you’ve spent and if your expenses were eligible. For example, while many over-the-counter medications are eligible for reimbursement, this is not true in all cases. Check with your FSA plan before you make a purchase.

5. Determine How Much Rolls Over

Your employer may offer a 2.5-month grace period to use your funds at the end of the plan year or allow you to carry over a small portion. Speak to your employer to see if either of these options is available. If so, you may have more freedom to over-contribute to your FSA, knowing that you can use or carry funds forward after the plan year expires.

Tips for Making the Most of Your Flexible Spending Account

With the right approach, you can make the most of the money you contribute to your FSA. 

Maximize Your Tax Savings

FSA contributions allow you to lower your taxable income, and tax does not apply to FSA spending on eligible expenses. As a result, it’s worth finding a balance between tax benefits and forfeited funds.

For example, if you contribute $250 per month to your FSA, you’ll reduce your taxable income by $3,000 for the year. However, if you only spend $1,000 of your FSA, a loss of $2,000 at the end of the year may outweigh your tax gains.

Plan for Eligible Expenses

Where possible, try to plan for your eligible expenses. This could mean scheduling a surgery or procedure before your plan year ends so you can get reimbursed for medical equipment such as crutches or drugs for pain medications. When enrollment comes around each year, take some time to forecast potential major medical expenses so you can plan accordingly.

Adjust Your FSA According to Big Life Changes

Suppose a big change, also known as a qualifying life event, occurs when you’re outside your FSA enrollment period. In that case, you may be able to make changes to your FSA, either by signing up or increasing your contribution amount. One significant life change is the birth of a child, which allows you to enroll in a DCFSA and adjust your contribution amounts. 

What This Means for You

FSAs offer a way to offset the cost of healthcare expenses that are not covered by your employer-sponsored plan. They also help with expenses you must pay each time you use your plans, such as coinsurance and copayments.

These flexible accounts are tax-free, reducing your total taxable income while lowering your out-of-pocket expenses. If you’re interested in an FSA, talk to your employer and see if they offer a plan, what it covers, and if they’re willing to match your contributions.

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