What Is an FSA and How Does It Work?
Written by
Daria Uhlig
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Susan Kim
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If you have the option of getting a flexible spending account through your employer, you should know exactly what it involves and how you can take advantage of this benefit. Incorporating an FSA into your healthcare plan can mean big savings for you and your dependents.
Learn all about this employer-sponsored benefit so you can decide if it will work for you.
What Is a Flexible Spending Account?
A flexible spending account, also referred to as a flexible spending arrangement, is a dedicated account for certain out-of-pocket healthcare expenses. Employers can offer FSAs with any type of health insurance plan, but they’re not required to contribute to the accounts. Instead, employees fund their accounts themselves, using pretax income. FSAs are not available for Marketplace (Obamacare) health insurance plans.
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How Do Flexible Spending Accounts Work?
You’ll typically opt in to your employer’s flexible spending account during your annual benefits enrollment period. At that time, you indicate how much you want to contribute, and how often. The money is automatically withheld from your paycheck before taxes are taken out.
Whenever you incur a qualified medical expense, you can get reimbursement for the cost by submitting a claim to your employer along with receipts documenting the purchases or medical services you received. Your employer will withdraw money from your flexible spending account to reimburse you for the costs. If your FSA provides a debit card, you can use the card to make qualified purchases and avoid having to wait for reimbursement.
Types of Flexing Savings Accounts
There two types of employee FSA, and your employer might offer either or both. They include:
- Health FSA: Reimburses all qualified medical expenses
- Dependent-Care FSA: Reimburses expenses related to child day care and adult day care for the participating employee’s children under age 13 and disabled relatives they claim as dependents
FSA-Eligible Expenses
FSA funds can be used for you, your spouse and eligible dependents for a variety of medical and health-related expenses. Qualified expenses include:
- Physician, chiropractic and acupuncture fees not paid by your insurance
- Prescription medications
- Over-the-counter medicine
- Insulin
- Medical equipment like crutches, bandages and blood sugar test kits
- Menstrual care and feminine hygiene products
- Dental and vision expenses, such as co-pays, dental night guards, contacts and eyeglasses
- Psychiatric care
- Long-term care and long-term-care insurance contract premiums
FSA Rules and Limitations
A few important rules exist around having an FSA. Understand them so you can better decide if and how to use such an account for yourself.
First, your FSA is a tax-advantaged account, so the IRS imposes limits on how much you and your employer can contribute. The limit for tax-year 2022 is $2,850 for a health FSA. Your spouse can also contribute $2,850 into their own FSA each year. That limit increases to $3,050 for 2023. The benefit to contributing is that you don’t pay tax on the money you contribute or on the reimbursements you receive for any qualified medical expenses you claim.
The limit for dependent-care FSAs is $2,500 for a single or individual married filer and $5,000 for a married couples filing jointly.
The FSA program employs a “use it or lose it” approach — if you don’t use the funds in your FSA, you’ll lose them at the end of the plan year. However, your employer might have an option that lets you keep the funds longer. It can offer a grace period of up to two and a half months, during which you can use the money in your account. Alternatively, it can allow you to carry up to $610 over to the following year.
These options are strictly voluntary on your employer’s part, and it can only offer one, so it’s important to find out the terms of your policy so you can plan your medical flexible spending account funds accordingly.
Use the Tax Advantage of an FSA
The main benefit of an FSA is that your account is funded with pretax money, so all the money you put into this account and use is not subject to taxes. Depending on how much money you put in your FSA, that can add up to a significant amount — especially if you use the program multiple years. Maximize the tax break by contributing as much as you’ll spend, up to the $2,850 ($3,050 for 2023) limit.
Difference Between an FSA and an HSA
Flexible spending accounts and health savings accounts have a lot in common, but they differ in important ways.
- Whereas your employer can offer an FSA with any type of health plan, you must have a high-deductible health plan to be eligible for an HSA.
- Unlike with an FSA, which only allows contributions from you and your employer, family members and others can contribute to your HSA.
- HSAs allow higher contributions. For tax-year 2022, you can contribute up to $3,650 ($4,650 for individuals age 55 and older) to an HSA if your high-deductible health plan covers only you; you can contribute up to $7,300 if you have family coverage. The limits increase to $3,850 ($4,850 for individuals age 55 and older) and $7,750 for tax year 2023.
- HSA balances don’t have to be spent. You can withdraw unused funds once you reach age 65 without penalty, although you will pay income tax on the distribution.
Is an FSA Right for Me?
The simple answer to whether flexible spending accounts are worth considering is yes, especially if you will spend money on a co-pay or deductible, get a procedure like LASIK or buy prescription drugs within one year of opening your account. Because each person’s healthcare needs are different, it’s up to you to determine your needs and anticipated medical expenses. Unused funds can be lost, so it makes sense to carefully estimate how much money you’ll spend on eligible healthcare in the following 12 months before you enroll in an FSA.
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Natalie Campisi contributed to the reporting for this article.
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