With the prominent rise in health savings accounts (HSAs), it is possible that other consumer-directed benefits are not getting as much consideration — particularly the
FSAs have been around since the 1970s, helping account holders pay for many healthcare expenses. Ten years ago, partially due to our organization's years of advocacy, the Internal Revenue Service (IRS) issued a ruling that allows employees to roll over a portion of
About 37 million Americans rely on FSAs to help manage their healthcare costs, but many more people are eligible and don't participate. While they have been around for many years, confusion still reigns about FSAs — even among brokers, advisers and employers who aren't familiar with all the eligible expenses as well as the carryover rule and simplicity of its use. Let's start by reviewing the basics of the FSA: what it is, who can participate, which expenses are eligible, typical use of funds and how it is different from the HSA.
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FSAs allows employees to contribute a portion of their compensation each paycheck to pay for qualified health expenses. When employees elect to participate in an FSA, they choose how much to contribute, keeping in mind the IRS has a limit on contributions. That limit is $3,050 for 2023. Ideally, an employee considers the amount of healthcare expenses they will use during the year and contribute close to that amount.
Employee contributions into an FSA are made on a pretax basis, which means they are not subject to payroll taxes. For example, let's say an employee signs up for the company's FSA and contributes $100 each payroll period. Taxable income goes down by $100 dollars each payroll period, which means the employee doesn't pay taxes on that income, and the company does not pay FICA taxes on it, either.
When that employee has a qualified medical expense, the FSA provides a way to pay for it (often with an FSA
To be eligible for reimbursement by an FSA, healthcare expenses have to be considered qualified medical expenses as determined by the Internal Revenue Code. A qualified medical expense is any expense that is used for the care, diagnosis and prevention of disease for an individual. The IRS provides a
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A key advantage to an FSA is the ability for employees to access their full annual contribution from day one of the plan year. For example, if they elect the maximum amount of $3,050, they immediately have access to that full amount, even though they have not yet made the contributions. This feature provides a safety net to employees when they have medical expenses early in the year.
As you can imagine, FSAs are a very popular benefit among employers and employees alike. In addition to the benefits employees receive, employers also save on FICA taxes on any contributions that employees make to the FSA. The FICA tax savings for employers often covers the expense of administering the FSA.
FSAs and HSAs provide employees similar opportunities to pay for healthcare expenses on a pretax basis. The type of health insurance offered by an employer typically determines which account is available to an employee. To be eligible to enroll in an HSA, an employee must enroll in a medical plan that has a minimum deductible of $1,500 for single or $3,000 for family coverage. HSA contributions are made on a pretax basis and are not subject to the "use-it-or-lose-it" rule. HSA contributions can grow over time on a pretax basis and can be used to pay for qualified healthcare expenses. Many employers contribute to HSAs to encourage employees to enroll in high-deductible health plans.
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Many employers are now looking for more meaningful ways to help employees meet their diverse needs. So instead of adding additional benefits that target a specific group (e.g., backup childcare), they want to provide funds that employees can spend on services or products of their choice. Lifestyle accounts provide an easy way for employers to provide those funds on an after-tax basis, define the types of eligible expenses and reimburse employees. While some employers contribute a specific amount to a lifestyle account, others fund them with wellness incentives.
Emergency savings is a critical component to financial wellbeing, which is a top focus for many employers. Some provide easy access to set up an emergency savings account and even contribute to encourage employees to save. Others allow employees to transfer the funds in their lifestyle accounts to emergency savings.
This is the perfect time of year to help employees budget for healthcare expenses. Though HSAs are often top of mind, many employees aren't eligible based on their health coverage. Contributing to FSAs provides a tax-advantaged means of financing out-of-pocket healthcare costs that employees incur under health plans.
FSAs help many Americans afford essential healthcare expenses from the first day of the plan year, and new plan features like the carryover rule minimize the risk of use-it-or-lose-it. While employees have many other benefits to determine and choose from, it is important to consider FSAs as a key way to help manage healthcare expenses. And for those of you who already have FSAs and/or manage clients who have FSAs, be sure to remind them to check balances and carryover rules with their employer. There is still time to pay for qualified health expenses for 2023!
