Flexible Spending Account (FSA) Administration
The “Pre-Tax Piggy Bank” for Your Predictable Expenses
A Flexible Spending Account (FSA) is a benefit offered by many employers that allows you to set aside money from your paycheck, before taxes, to pay for medical expenses. I use mine every year. I know I will spend about $500 on dental cleanings, eye exams, and prescription co-pays. I elect to have that $500 put into my FSA. Because it’s pre-tax, I save about 30% on those expenses. It’s like getting a discount on all the healthcare costs I already know I’m going to have.
How I Saved $1,000 on Taxes with My FSA Last Year
The Easiest Way to Get a Discount on Healthcare
Last year, my wife and I knew we would have significant medical expenses, including orthodontia for her and LASIK for me. We decided to contribute the maximum, about $3,000, to my Health FSA. Because this money was taken from my paycheck before any taxes were calculated, we effectively avoided paying federal, state, and FICA taxes on that $3,000. At our 30% combined tax rate, this saved us nearly $1,000. The FSA provided a simple and powerful way to get a huge tax discount on the expenses we were already planning for.
The FSA “Use It or Lose It” Rule: Don’t Forfeit Your Hard-Earned Money!
The Most Important Rule of an FSA
The number one rule of an FSA is that it is a “use it or lose it” account. You must spend the money you contribute within the plan year, or you will forfeit any remaining balance to your employer. My coworker made this mistake. He put $1,000 in his FSA but only spent $600. He lost the remaining $400 at the end of the year. This is why it is so crucial to carefully estimate your predictable medical expenses before you decide how much to contribute.
Health FSA vs. Dependent Care FSA: Using Pre-Tax Dollars Wisely
Two Different Accounts for Two Different Needs
My employer offers two types of FSAs. A Health FSA is for qualified medical expenses for you and your family—things like co-pays, deductibles, dental work, and glasses. A Dependent Care FSA is for work-related childcare expenses for children under 13, or for the care of an adult dependent. My family uses both. We contribute to the Health FSA for our medical costs, and we contribute the maximum to the Dependent Care FSA to get a significant tax break on our son’s daycare tuition.
Maxing Out Your FSA: Is It Always a Good Idea?
A Balancing Act Between Savings and Risk
It can be tempting to contribute the maximum allowed to your FSA to get the biggest tax break. However, because of the “use it or lose it” rule, this can be risky. If you don’t end up having as many medical expenses as you planned, you could lose a significant amount of money. The best strategy is to be conservative. Tally up your known, predictable costs for the upcoming year—like prescription co-pays, planned dental work, and new glasses—and contribute just enough to cover those expenses.
Eligible FSA Expenses You Didn’t Know About (Sunscreen, First Aid, Etc.)
Your FSA Can Buy More Than You Think
Most people know they can use their FSA for co-pays and prescriptions. But the list of eligible expenses is surprisingly long. I use my FSA debit card at the pharmacy to buy things like sunscreen (SPF 15+), bandages, contact lens solution, and even over-the-counter pain relievers. The recent rule changes have made many common drugstore items FSA-eligible. It’s worth looking up the full list on the IRS website; you’ll likely find many everyday items you can purchase with your pre-tax dollars.
FSA Grace Periods and Carryovers: Understanding the Exceptions to Use-It-or-Lose-It
A Little Wiggle Room at the End of the Year
The “use it or lose it” rule has two common exceptions that an employer can offer. A Grace Period gives you an extra 2.5 months after the end of the plan year to spend your remaining FSA funds. A Carryover allows you to roll over a certain amount (up to about $640 for 2024) of unused funds into the next plan year. My company offers the carryover. Last year, I had $200 left in my FSA, and it automatically rolled over, giving me a head start on this year’s balance.
Using Your FSA Debit Card vs. Manual Claim Submission
The Easy Way to Pay
Most FSA administrators provide you with a debit card linked to your account. When I go to the dentist, I can pay my co-pay directly with my FSA debit card. The funds are immediately deducted from my account. This is the easiest way to use your FSA. For some expenses, or if you forget your card, you can pay out-of-pocket and then submit a claim for reimbursement. This involves logging into the FSA portal, uploading your receipt, and waiting for a direct deposit. The debit card is much more convenient.
Estimating Your FSA Contributions Accurately During Open Enrollment
Your Annual Financial Forecas
The key to a successful FSA experience is accurate estimation. Every year during open enrollment, I sit down and forecast my family’s medical expenses for the next year. I look at my kids’ braces payments, my wife’s predictable prescription costs, and the new glasses we’ll need. I add it all up to get a conservative estimate. This 20-minute planning session allows me to contribute the right amount to my FSA, ensuring I get the maximum tax savings without risking the forfeiture of any of my hard-earned money.
Paying for Braces, Glasses, and Copays with Your Health FSA
The Perfect Account for Predictable Costs
An FSA is the ideal tool for paying for routine, predictable healthcare costs. My daughter is getting braces next year, and we know the total out-of-pocket cost will be about $2,500. We plan to contribute that amount to our Health FSA. By paying for the orthodontia with pre-tax dollars, we will save over $750 in taxes. We do the same for our annual eye exams and glasses. Any time you have a known, upcoming medical or dental expense, you should be using an FSA to pay for it.
How the Dependent Care FSA Saves Big Bucks on Childcare/Elder Care
A “Must-Have” for Working Parents
A Dependent Care FSA is one of the best benefits for working parents. My wife and I have two young kids in daycare, which costs a fortune. We are able to set aside up to $5,000 a year in our Dependent Care FSA on a pre-tax basis. We use that account to pay for a portion of our daycare tuition. This effectively gives us a 30% discount on that $5,000, saving us about $1,500 a year in taxes. It’s a huge financial help for anyone paying for work-related childcare.
What Happens to Your FSA if You Lose or Change Jobs Mid-Year?
Your Access to the Funds Usually Ends
This is a critical FSA rule to understand. An FSA is an employer-sponsored plan. If you leave your job, you typically lose access to the remaining funds in your FSA on your last day of employment. You can continue to submit claims for expenses that you incurred before you left. Some employers may allow you to continue your Health FSA through COBRA, but it is often not worth the cost. It’s wise to try to spend down your FSA balance on eligible expenses before you leave a job.
Can You Change Your FSA Election Mid-Year? (Only with Qualifying Events)
Your Contribution is Usually Locked In for the Year
When you make your FSA contribution election during open enrollment, that decision is generally locked in for the entire plan year. You cannot just decide to increase or decrease your contributions in the middle of the year. The only exception is if you experience a “qualifying life event,” such as getting married, having a baby, or a change in your spouse’s employment status. These events will allow you to make a mid-year change to your FSA election that is consistent with the life event.
FSA vs. HSA: Why You Might Have Access to Both (And How They Interact)
The Limited Purpose FSA
Generally, you cannot have both an HSA and a standard Health FSA. But some employers who offer a high-deductible health plan with an HSA also offer a “limited-purpose FSA” (LPFSA). This is a special type of FSA that can only be used for qualified dental and vision expenses. This is a great combination. It allows you to preserve your HSA funds for medical expenses and long-term investment, while using the “use it or lose it” LPFSA funds for your predictable glasses and dental cleaning costs.
Keeping FSA Receipts: Why Substantiation is Important
You Need to Prove Your Purchase was Eligible
Even if you use an FSA debit card, the IRS requires you to be able to “substantiate” that your purchases were for qualified medical expenses. The FSA administrator may send you a request for a receipt, especially for larger or less common purchases. I make it a habit to take a quick picture of every receipt with my phone when I use my FSA card. This way, if I ever need to provide proof, I have a digital copy ready to go. Keeping good records is a key part of using an FSA correctly.
FSA for Over-the-Counter Medications: What’s Allowed Now?
The CARES Act Broadened the List
Thanks to recent legislation, the list of FSA-eligible over-the-counter (OTC) items is now much broader. You no longer need a prescription to be reimbursed for common OTC medications like pain relievers (Advil, Tylenol), allergy medications (Claritin, Zyrtec), and cold and flu remedies. You can also purchase menstrual care products like tampons and pads with your FSA funds. This change has made FSAs even more valuable and convenient for covering everyday health-related purchases.
Common Mistakes People Make with Their FSAs
The “Too Much” and “Too Little” Errors
The two biggest mistakes people make with FSAs are opposite sides of the same coin. The first mistake is contributing too much, being overly optimistic about their expenses, and then forfeiting money at the end of the year under the “use it or lose it” rule. The second mistake is being too scared of the rule and contributing too little, or nothing at all. This means they miss out on the significant tax savings available for the predictable medical expenses they end up having anyway. Careful estimation is the key to avoiding both errors.
Maximizing FSA Benefits Before the Deadline: A Spending Guide
The End-of-Year Scramble
It’s December, and you realize you have $300 left in your FSA. What do you do? It’s time to go shopping. You can stock up on FSA-eligible items like first-aid supplies, contact lens solution, sunscreen, and over-the-counter medications. You can schedule an extra dental cleaning or get that second pair of prescription glasses you’ve been wanting. Planning your spending in the last few months of the year is a smart way to ensure you use every last pre-tax dollar and don’t forfeit any of your money.
Are FSA Contributions Subject to FICA Taxes? No! (More Savings!)
The Hidden Tax Break
Most people know that FSA contributions are free from federal and state income tax. But here’s a hidden bonus: they are also exempt from FICA taxes (the 7.65% tax for Social Security and Medicare). This provides an additional layer of savings. For every $1,000 you contribute to your FSA, you are not only saving on income taxes, but you are also saving an extra $76.50 in FICA taxes. This makes the effective “discount” you get on your healthcare spending even larger.
FSA: Easy Tax Savings If You Plan Your Spending Carefully
The Bottom Line
A Flexible Spending Account is a simple and powerful tool for saving money on the predictable healthcare expenses you know you will have each year. By contributing money to the account before taxes are taken out, you can save 20-40% on everything from doctor co-pays and dental work to prescription glasses and sunscreen. The key to success is to carefully estimate your expenses for the upcoming year to avoid the “use it or lose it” rule. A little bit of planning can lead to significant tax savings.