Money can be flexible
August 9th, 2007 | by rachel |
If you knew that you could reduce your tax burden legally and simply would you? If your employer offers a Flexible Spending Account as part of your benefit package, you can do just that!
Flexible Spending Accounts (FSAs) are also referred to as “reimbursement accounts” or “flexible spending arrangements”. These accounts allow employees to deposit money from their paychecks into a spending account that is used to pay for out of pocket medical expenses. FSAs are governed by the IRS; they are subject to limitations by employers/providers; and they are considered to be part of an overall benefit package. They are not subject to federal, state or local taxes!
FSAs are funded with pre-tax money. Consequently, contributions to an FSA reduce the overall amount of an employee’s taxable income. That reduction means more cash in an employee’s pocket and lower overall medical costs. Money in an FSA can pay for a wide variety of out of pocket expenses, even some that don’t seem like medical expenses. For example, all these expenses are eligible for reimbursement:
- prescriptions
- over the counter medications
- co-payments and deductibles
- dental and vision expenses
- fertility treatments
- therapy and counseling
- medical equipment
- braces
- birth control
- hearing aids
- flu shots
- chiropractor
- non-elective cosmetic surgery
FSAs are broadly regulated by the IRS. In addition to IRS regulations, employers and FSA providers can impose additional restrictions on the FSAs they offer. It is VERY important to know and understand the specific policies for the plan that you participate in BEFORE you spend any money that you expect to be reimbursed.
The two most common types of FSA are the “health care” FSA and the “dependent care” FSA. Dependent care FSAs have some different requirements and they must be set up separately from a health care FSA. There is no legal contribution limit for a health care FSA but an employer can impose a limit if they wish. Dependent care FSAs have a $5000 limit, per family per plan year.
The majority of FSAs are “prefunded”. That means that the entire amount of the contribution for the plan year must be available when the plan year begins. For example, if you make a $2500 contribution, you will have $208.33 deducted from your paycheck(s) each month. If you submit a $500 eligible expense in the 1st month of the plan year, you will be reimbursed for the full $500 even though you have not contributed that much yet.
FSA withdrawals involve a lot of paperwork and supporting documentation. More and more, FSA administrators are issuing debit and flex cards to allow employees to access their FSA accounts directly. These cards reduce the paperwork and time associated with recouping out of pocket expenses.
One potential drawback of an FSA is the spending deadline. Prior to 2005, this was known as the “use it or lose it rule”. The rule, established by IRS regulations, stated that any money remaining in an account at the end of the plan year had to be returned to the employer AND that any remaining amount would be subject to taxes. In the past, this rule has been blamed for low enrollment rates of FSAs. In 2005, the IRS relaxed this requirement by allowing a 2 month, 15 day grace period for FSA withdrawals. While the IRS ruling allowed for such an extension, it did not require that employers grant the extension. This extension allows for withdrawals and purchases to be made after the end of a given plan year and it is intended to reduce the amount of forfeited money.
If you have access to an FSA, make sure you are doing these things to maximize your savings:
- Know the details of the plan you are participating in. This includes being aware of eligible expenses and items.
- Keep track of ALL receipts in case you need them for FSA documentation.
- Monitor your account and the expenses you submit for reimbursement. Make sure your account is credited and debited correctly.
- Use a low estimate for your expenses. If you don’t know how much your out of pocket expenses will be, be sure to estimate less than you think you will need. Next year, you can use your actual expenses from this year to plan your contribution.
For more information about FSAs, visit these web sites:
www.flexiblespendingaccountsonline.com
www.irs.gov - Publication 502
www.ebri.org - Employee Benefit Research Institute