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A flexible spending arrangement or flexible spending account (FSA) is a tax-advantaged account provided by an employer to an employee to allow for covering eligible healthcare expenses or dependent care costs. It’s an employer-sponsored account, and in this regard varies from a health savings account (HSA).
Depending on the extent of your medical or dependent care expenses, an FSA can help you save a significant amount of money on taxes.
If you want to know more about FSAs and whether you should have one, read our article below to learn about all the details.
FSA – What Is It and How Does It Work?
A flexible spending account (FSA) can be used to cover certain out-of-pocket costs related to health care or dependent care. A health care FSA can be used for qualified medical expenses, dental and vision expenses, prescription medications, and over-the-counter drugs. Dependent care FSA funds can be used to cover costs related to services like preschool, camps, or daycare for a child or dependent adult.
You can use your FSA funds to cover your own expenses as well as expenses incurred by your spouse and dependents that you claim your taxes on. Health care FSA can also be used for adult children who will be 26 or younger on December 31 and are on your health insurance plan.
The amount of funds you want to use as an annual contribution to your flexible spending account is deducted from your salary before income taxes. The money deducted from your earnings reduces your taxable income, ultimately saving you money on federal taxes. Depending on your benefit plan, your employer may contribute to your FSA plan as well.
You will need to submit receipts and documentation in order to be eligible for reimbursement, or you may have a debit card to pay for expenses as you go, which is typical for healthcare FSAs.
A limited-purpose flexible spending account (LPFSA) is a type of FSA that refers to a savings plan which can be used along with a health savings account (HSA). Compared to a regular FSA plan, employees can use LPFSAs in conjunction with HSAs and can make contributions with pre-tax money.
A limited-purpose FSA is commonly known to be more restrictive as this health plan is designed to cover the costs of vision and dental expenses and sometimes other costs acquired in a high-deductible health plan once the account holder meets the deductible amount.
How to Use a Health Care FSA?
Although you can’t use your FSA money from your health FSA to cover the costs of your insurance premiums, you can use it to pay for eligible expenses, such as dental and vision care or doctor’s prescription.
If you have a health care flexible spending account, you can also use it toward medical equipment and diagnostic devices.
Other eligible health care expenses subjected to a health reimbursement arrangement include:
- Birth control
- Menstrual pads and tampons
- Reading glasses
- Psychological treatment
- Smoking cessation programs
You can’t use your health FSA to pay for vitamins (if they aren’t prenatal), CBD products, cosmetic procedures, and gym memberships. In some cases, you may need a doctor’s referral to prove your eligibility for a particular treatment or care – this applies to, for example, nutritional counseling or orthopedic shoes.
It’s essential to check the documentation and guidelines of your medical care FSA to learn about the full list of covered treatments.
How to Use a Dependent Care FSA?
Your dependent care FSA can be used to cover costs related to the care of children under the age of 13 or adult dependents (including a spouse) who are unable to care for themselves and meet specific Internal Revenue Service (IRS) guidelines.
Eligible dependent care expenses include:
- Nursery school
- After-school programs
- Day camps
- Adult or senior day care
The funds from your dependent care flexible spending account (FSA) can be used to cover work-related care expenses only. You can’t use your FSA money to pay for sleep-away camps, school tuition, or tutoring.
How Much Can I Contribute to an FSA?
Health care FSA has a different maximum annual contribution limit to dependent care FSAs.
The maximum amount you can contribute to your medical care FSA annually is $2,850. If you’re married, your spouse can also contribute up to the same amount per calendar year in an individual FSA.
Dependent care flexible spending account holders can contribute up to $5,000 a year for individuals or for couples.
Employer contributions count toward the annual contribution limits on both types of flexible spending accounts.
If you have any unused funds on your account at the end of the year, they will be generally forfeited unless your employer allows for transferring the funds based on two options. The first option allows for an employer to provide a grace period of up to 2 and a half months, during which an employee can use the remaining FSA funds. The second option allows for transferring up to $570 of the employee’s FSA balance to carry over into the next plan year.
Pros and Cons of FSA Plans
- Contributions aren’t taxable. Money subtracted from your earnings isn’t subject to payroll taxes which helps to save on taxes.
- Employers can contribute to FSAs. Employers may match contributions as long as their total amounts don’t exceed $2,850 for a health care FSA or $5,000 for a dependent care FSA.
- FSA money can be used to pay for expenses that insurance doesn’t cover. For example, you can use your FSA funds to cover co-pays.
- You are able to spend more than the FSA’s balance. As long as the contributions are sufficient to cover eligible expenses by the end of the year, FSAs will reimburse employees for them.
Your FSA money is available to use for a limited time. Any funds left in your account will be generally forfeited at the end of the year unless an employer allows for a transfer.
Funds cannot be invested in an FSA. Flexible spending accounts don’t earn interest, unlike health savings accounts (HSAs).
- Your employer is the owner of your FSA. Once you leave your employer who sponsors your FSA, they will forfeit the funds.
Having a flexible spending account has various benefits, which can help you save money on taxes and cover eligible health expenses, such as dental or vision care or dependent costs.
Just like other common saving accounts, an FSA allows you to contribute and accumulate funds, however, in this case, that money is deducted from your salary in a specified amount and is non-taxable.
To decide if an FSA is suitable for you, determine upcoming expenses and your regular eligible spending for the year and familiarize yourself with the FSA plans you’re being offered.
Flexible Spending Account FAQs
Do I need an FSA?
If you have any level of health costs, opening an FSA might be useful for you. Particularly if you have any ongoing medical expenses, as well as predictable or regular spending related to medical care, using pre-tax dollars to cover them can be beneficial for you. This way, you will be able to lower your bottom line.
If you’re paying for care for a child or dependent adult while you work, you can pay for it with pre-tax money. By covering the care costs with an FSA, you can make a significant difference in the amount and management of your household income.
How much should I contribute to my FSA?
There’s no specific amount of money that is correct for everyone to contribute to their flexible spending accounts. FSA elections vary depending on individual circumstances. Estimate your suitable elections by determining your eligible out-of-pocket expenses for the upcoming year.
How does an FSA differ from an HSA?
Although both are nontaxable savings accounts that can be used to cover the costs related to medical care, FSAs are different from HSAa in terms of ownership.
While an FSA is owned by the employer, the owner of an HSA is the employee. This means that the employee has more control over their HSA account. It allows them to, for example, change the contribution amount at any time, and keep their accounts even if they move to another job or retire.
Besides, unlike in the case of FSA plans, the unused funds in an HSA aren’t forfeited at the end of the year, but they are automatically carried over into the next year. An HSA also earns interest, and funds can be invested in it.
On the contrary, an HSA works more like a checking account which allows you only to use money that is available in your account. An FSA functions similarly to credit, where you can pay for the expenses if there isn’t a sufficient amount of funds yet.