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Flexible Spending Accounts 101: Pros and Cons of an FSA

Written by Jeremy Higgins

Employees are always looking for ways to reduce their tax burden and pay for medical expenses. On the other hand, employers want to attract and retain top talent.

A flexible spending account (FSA) is often a win-win scenario for both parties. Let’s talk about what FSAs are, what employees and employers should know, and some pros and cons to using an FSA.

What are FSAs?

An FSA is basically a type of savings account that gives specific tax advantages to the account holder. The employer sets up the FSA for its employee. 

There are 2 types of FSAs: a healthcare FSA and a dependent care FSA.

The healthcare FSA allows the employee to pay for qualifying medical expenses with “pre-tax” money (in other words, the employee doesn’t have to pay taxes on any money that goes into their FSA). The dependent care FSA serves the same purpose, but for childcare expenses for children aged 12 and under, and also qualifying adults who can’t care for themselves.

Important Facts About FSAs

There are a few key facts that you need to know about FSAs, whether you’re an employer that wants to set one up, or an employee that’s interested in using one:

  • The maximum contribution limit to a healthcare FSA is $2,750 per year per employer. (The limit is higher for a dependent care FSA.)
  • If you are married, your spouse can contribute up to $2,750 to their FSA as well.
  • You can spend FSA funds on co-payments, prescription medications and eligible medical equipment like crutches, blood sugar test kits, etc. However, over the counter medication is generally not eligible for FSA funds.
  • In most cases, you must use the money in your FSA within a year. Your employer may offer you a “grace period” of 2 1/2 extra months to spend the money, or allow you to carry over up to $550 for use in the following year.
  • Your employer is not required to contribute to your FSA, or offer either of the above-mentioned options.
  • At the end of your plan year (or the subsequent grace period) you’ll forfeit any money left over in your FSA.
Pros and Cons of Using FSAs

There are several advantages to using an FSA for your qualifying medical expenses. These include:

  • Ease of use. Employees will typically receive an FSA debit card that they can use to pay for eligible medical expenses.
  • Ease of planning. At the start of each benefits plan year, the employee decides how much they want to contribute to their FSA. This makes it easy for the employer to calculate pre-tax FSA deductions.
  • A wide range of uses. Employees can use their healthcare FSA for a wide variety of medical expenses, such as prescriptions, bandages, their child’s dental exam, etc. In addition, a dependent care FSA can be used to pay for a babysitter, daycare, or even an adoption.

There are also a few drawbacks to using an FSA which need to be considered. For example:

  • “Use it or lose it.” If an employee doesn’t use the money in his or her FSA by the end of the plan year (or by the end of the subsequent grace period), then that money is lost forever. For this reason, it’s very important that employees plan ahead for their healthcare expenses, and don’t put too much money into their FSA. At the same time, management may need to repeatedly remind employees to use those funds before the year is up.
  • The contribution amount is unchangeable. Once an employee decides how much to contribute to his/her FSA for the year, that amount is fixed, and cannot be changed (even if the employee’s circumstances change). 
  • Employees that leave the company can’t take their FSA money with them. If an employee quits a company, then they can’t take their FSA funds with them to their next job. Rather, that money stays with the employer.

There have been several additional new enhancements and changes to flexible spending accounts due to COVID regulations. For more information on those changes or to learn how to set one up, reach out to our team of benefits experts at the Higgins Agency Group today!

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