Flexible Spending Accounts (FSAs): Benefits, how they work, and your eligibility

Key takeaways

• A Flexible Spending Account (FSA) is a pretax savings account offered by employers that covers eligible healthcare expenses.
• FSA eligibility is determined by your employer. Usually, FSAs are available to full-time employees and sometimes part-time employees.
• Most FSAs cover a wide range of healthcare expenses, including copayments, prescription drugs, dental and vision care, some over-the-counter items, and medical equipment.
• The advantages of FSAs include pretax contributions, which lower your taxable income, immediate access to your full annual contribution, coverage for a broad range of medical expenses, and fewer out-of-pocket costs.
• Disadvantages of FSAs include the "use-it-or-lose-it" rule, contribution limits, limited eligibility for certain expenses, and the need to track receipts and submit claims.
• Generally, you do not need to report FSA contributions on your tax return, because they are made with pretax dollars and managed through employer-managed payroll deductions.
• To determine how much to contribute to your FSA, estimate your annual medical expenses, consider the contribution limit, factor in the use-it-or-lose-it rule, and review employer options regarding grace periods and carry-over funds.
• What’s the difference between an FSA and a Health Savings account (HSA)? FSAs are employer-offered pretax savings accounts for healthcare expenses with a use-it-or-lose-it rule. An HSA requires you to have a High-Deductible Health Plan (HDHP), offers higher contribution limits, tax advantages, fund rollover, and investment options. Both cover a wide range of medical expenses.

What is a Flexible Spending Account (FSA)?

A Flexible Spending Account (FSA) is a special type of savings account that lets you set aside money on a pretax basis to pay for eligible healthcare expenses. This means that the money you contribute to an FSA is taken out of your paycheck before taxes, which can help you save on your overall tax bill.

FSAs are typically offered by employers as part of a benefits package and can be used to reimburse things like doctor visits, prescription medications, and even some over-the-counter items.

How an FSA works

An FSA works by allowing you to contribute to a designated, pretax account throughout the year. You decide your contribution amount at the beginning of the plan year, and your employer will deduct equal installments of the total amount from each of your paychecks.

You can use the funds in your FSA to pay for qualifying medical expenses. Usually, you can also use your FSA funds to cover eligible expenses for your spouse and dependents, even if they are not covered by your employer’s health plan.

One of the key benefits of an FSA is that it reduces your taxable income, potentially lowering your overall federal, state, and employment tax. However, it's important to note that FSAs have a "use-it-or-lose-it" rule. This means you need to spend the money in your account by the end of the plan year, or you may forfeit the remaining balance.

Who is eligible for an FSA?

Eligibility for an FSA is generally determined by your employer. In most cases, full-time employees who receive benefits through their job can participate in an FSA. Some employers also offer FSAs to part-time employees.

It’s always a good idea to check with your HR department or benefits administrator to understand the specific eligibility requirements and enrollment periods for your company’s FSA program.

FSA eligible expenses

FSAs can be used to cover a wide range of healthcare expenses, making them a valuable tool for managing out-of-pocket costs.

Common FSA-eligible expenses

• Copayments, deductibles, and services your insurance doesn’t cover, such as chiropractic care and acupuncture
• Most prescription drugs, including insulin
• Dental care, like cleanings, fillings, braces, and dentures
• Vision care, including eye exams, glasses, contact lenses, and LASIK surgery
• Some over-the-counter items, such as bandages, first-aid supplies, and reading glasses
• Medical equipment, like crutches, blood pressure monitors, and breast pumps are also eligible
• Ambulance rides and other surprise costs related to medical emergencies

Your FSA funds can also be used for...

• Pill boxes
• Smoking cessation products
• Contact lens saline
• Sunscreen (minimum SPF 30)
• Hot/cold packs
• Steam inhalers

This is not a full list of FSA-eligible expenses. Check with your FSA administrator for a complete list of eligible expenses and any specific requirements for reimbursement for your FSA.

Advantages of an FSA

FSAs offer several advantages that can make managing healthcare expenses easier and more affordable.

• Tax savings: The contributions you make to your FSA are made with pretax dollars. This means that the amount you contribute is deducted from your taxable income, which will help you keep more of your hard-earned money.
• Immediate access to funds: With an FSA, you have access to the full amount you contribute for the year right away. This way, if you have any surprise medical expenses, you can use the money without having to wait for the funds to accumulate.
• Covers a wide range of expenses: FSAs can be used for a variety of medical expenses that insurance might not fully cover. This includes copayments, deductibles, prescription medications, dental and vision care, and some over-the-counter items.
• Reduces out-of-pocket costs: By using pretax dollars to pay for eligible medical expenses, you effectively reduce your out-of-pocket costs.

Disadvantage of an FSA

While FSAs offer many benefits, there are also some disadvantages to consider.

• Use-it-or-lose-it rule: You must use all the funds you contributed to your FSA by the end of the plan year. You’ll have to forfeit any money left in your account at the end of the plan year. However, some employers offer a grace period or allow you to carry over a small amount to the next year.
• Contribution limits: The amount you can contribute to an FSA is capped by the IRS. For 2024, the limit is $3,200. This might not be sufficient to cover all medical expenses for some individuals or families, particularly those with significant healthcare needs.
• Limited eligibility for expenses: While FSAs can cover a wide range of medical expenses, not all are eligible for reimbursement. It's essential to understand what is and isn't covered to ensure you can fully utilize your account. Expenses like cosmetic procedures, health club memberships, and vitamins are generally not eligible.
• Administrative hassle: Managing an FSA can require a bit of effort. You’ll need to keep track of receipts and submit claims to get reimbursed for eligible expenses.

Do I have to report my FSA on my taxes?

One of the great things about an FSA is that you generally do not have to report it on your tax return. You make contributions to your FSA with pretax dollars, which means they are deducted before taxes and reduce your taxable income.

This process is handled by your employer through payroll deductions. You’ll be able to see the total amount you’ve contributed to your FSA for the year on your W-2.

How much should I put in my FSA?

Unfortunately, there’s not a one-size-fits-all answer to this question. Deciding how much to contribute to your FSA depends on several factors. Careful planning will help you make the most of this benefit.

Tips for determining your FSA contribution amount

• Estimate your expenses: Look at your medical expenses from the past year to get an idea of how much you might need. Include regular costs, like prescriptions, doctor visits, and dental care, in your calculation, as well as potential emergencies and unplanned medical expenses.
• Consider the limits: Remember that the IRS sets a limit on how much you can contribute to an FSA. For 2024, this limit is $3,200.
• Factor in the use-it-or-lose-it rule: It may be tempting to maximize your contributions to maximize your tax benefit. However, it’s important to be cautious not to overestimate your expenses. Don’t forget about the use-it-or-lose-it rule, which says that any unused funds in your FSA at the end of the plan year are forfeited.
• Review your carryover options: Some employers offer a carryover option or allow for a grace period, giving you a bit more flexibility. Review the details of your FSA to learn about your carryover or grace-period options.

By taking the time to estimate your medical expenses and consider these factors, you can make a plan that maximizes your FSA's benefits while minimizing the risk of losing unused funds.

FSA vs HSA

FSAs and HSAs are both designed to help you save money on healthcare costs, but they have some key differences.

Eligibility

• Generally, FSAs are offered by employers as part of a benefits package. You do not need a specific type of health plan to qualify for an FSA.
• To be eligible for an HSA, you must be enrolled in an HDHP. This type of plan has higher deductibles and lower premiums.

Contribution limits

• For 2024, the contribution limit for FSAs is $3,200. You’ll determine these contributions at the beginning of the plan year, and your employer will deduct them from your paycheck in equal installments.
• In 2024, you can contribute up to $4,150 to your HSA if it only covers you, or up to $8,300 for you and your family. If you are 55 or older, you can contribute an additional $1,000 in catch-up contributions.

Tax benefits

• You make FSA contributions with pretax dollars, which can lower your taxable income.
• With an HSA, your contributions are also made with pre-tax dollars, any withdrawals you make for eligible medical expenses are also tax-free, and any money you keep in your HSA will grow tax-free.

Availability of funds

• Most FSAs have a use-it-or-lose-it rule. Unless your employer offers a grace period or allows you to carry over a certain amount, you must use the funds within the plan year or risk forfeiting them.
• The funds in your HSA roll over each year, allowing you to build up savings over time for future medical expenses.

Investment options

• FSAs do not offer investment options. The money you contribute is available for eligible expenses but does not earn interest or grow over time.
• You can invest your HSAs in stocks and bonds, as well as mutual funds. This gives you the ability to grow your healthcare savings, tax-free, over time.

Qualified medical expenses

Both FSAs and HSAs can be used for many different medical expenses, including doctor visits, dental care, vision care, and prescriptions. Make sure to check the specific rules and eligible expenses for the account you’re considering or already have.

Still have questions or concerns about how your FSA impacts your taxes? Jackson Hewitt Tax Pros are available year-round to provide you with the answers, advice, and tax planning you need. Book your appointment today.

About the Author

Mark Steber is Senior Vice President and Chief Tax Information Officer for Jackson Hewitt. With over 30 years of experience, he oversees tax service delivery, quality assurance and tax law adherence. Mark is Jackson Hewitt’s national spokesperson and liaison to the Internal Revenue Service and other government authorities. He is a Certified Public Accountant (CPA), holds registrations in Alabama and Georgia, and is an expert on consumer income taxes including electronic tax and tax data protection.

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