Flexible Spending Accounts

What Are Flexible Spending Accounts?

A flexible spending account is an account that employees can use to cover out-of-pocket medical expenses. FSAs allow employees to make equal, recurring contributions from their paychecks to cover medical deductibles, co-payments, dental and vision expenses, prescription drugs, and over-the-counter medications.

Contributions to flex accounts are exempt from federal, state, and local income taxes. Consequently, employees’ net income is adjusted so that it does not reflect the full amount deducted from their paychecks.

Why Should Employees Contribute to FSAs?

Flexible spending accounts offer employees many benefits including tax advantages. Some companies contribute to employees’ flex accounts. Consequently, the employers’ contributions can be excluded from the employees’ gross income. Further, local, state, and federal income taxes are not deducted from the contributions.

When qualified medical expenses are paid, the withdrawals are tax free; however, employer contributions for long-term care must be included in the employee’s income. Finally, qualified expenses may be withdrawn from flexible spending accounts before all funds have been deposited.

How Can Employees Sign Up for FSAs?

FSA qualifications vary depending on the employer. Some employers offer benefits only to full-time employees. With some employers, employees who work at least 20 hours a week qualify if they have been employed by the company for at least two years. It is best for employees to direct specific inquiries to their Human Resources department.

Self-employed individuals cannot participate in flexible spending accounts. In addition, limitations are placed on certain key employees and highly compensated individuals.

What Expenses Qualify under FSAs?

The Internal Revenue Service (IRS) has established guidelines to help both employers and employees understand which medical expenses are eligible to participate in flex accounts. In general, qualified medical expenses are the ones that typically qualify for the medical and dental expense deduction. IRS Publication 502, Medical and Dental Expenses, offers an extensive list of allowable deductions. Although non-prescription medications do not qualify for the IRS tax deduction, they qualify as allowable expenses for flexible spending accounts. In addition, most employers provide customers with a list of allowable medical expenses.

Examples of allowable expenses may include anything from over-the-counter medications to weight-loss programs (only allowable if the program is required because a person has been diagnosed with a medical condition such as obesity, heart disease, or high blood pressure). Below are examples of the expenses covered under flexible spending accounts:

• Birth control pills and condoms
• Braille books, magazines, and guide dogs for the vision-impaired
• Chiropractor and acupuncture (alternative-type treatments)
• Contact lenses, contact lens solution, and prescription glasses
• Co-pays and deductibles
• Dermatology as long as it is not for cosmetic purposes
• Dietary supplements (vitamins, minerals, etc.) when used to treat a illness
• Doctor-recommended weight-loss programs
• Fertility treatments
• First-aid kits
• Flu shots
• Hearing aids and batteries
• Learning fees to special schools for a child with severe learning disabilities
• Massage therapy to treat an injury
• Medical monitoring and testing devices
• Orthodontia
• Over-the-counter contraceptives and Rogaine
• Over-the-counter medicine, such as pain relievers and allergy medications
• Physical therapy
• Prescription drugs
• Psychotherapy, psychiatry, psychology
• Smoking cessation programs, drugs, patches, and gum
• Speech therapy
• Transportation costs incurred for treatment

In addition, the following expenses may qualify if a doctor diagnoses an individual with a medical condition requiring the use of the following:

• Acne treatments
• Blood pressure machines
• Custom orthotics
• Fiber supplements
• Hormone therapy
• Joint pain supplements (i.e., Glucosamine)
• Laser eye surgery
• Sunscreens
• Vaccinations
• Vitamins

Expenses that do not qualify for FSA distributions include: health insurance premiums, long-term care expenses, and amounts covered under another health plan.

What Additional Information Should You Know about FSAs?

Enrollment

Employees may enroll in flex accounts during their companies’ open enrollment period. Employees decide the amount they want to deduct during this period. Employees cannot make changes or stop their deductions until the next open enrollment period unless changes in family status or employment occur.

Contributions

The IRS does not place limitations on contribution amounts; however, contributions may not exceed either the maximum percentage or dollar amount prescribed in the company’s plan.

When deciding how much to contribute, it is important to recognize that any amounts that are not used by the end of the plan year are forfeited. Users are allowed a 2.5 month grace period, until March 15th of the following year to use amounts that are left over from the previous year.

FSA vs. HSA

It is important to understand that although FSAs are similar to Health Spending Accounts (HSA), notable differences exist. HSA balances roll over from one year to the next. Conversely, any unused FSA balances are forfeited. Additionally, unused FSA amounts are also forfeited when employment ends, but HSAs allow for continued withdrawals after employment ceases. With rising health care and prescription medication costs, contributions to Flexible Spending Accounts offer employees a way to both save money and ensure that their medical expenses are covered.

Use Your FSA

The key to a federal savings account is easy: use it before you lose it. Stay informed on what’s covered, use your FSA wisely, and pay attention to spending from year to year. If you run out of FSA money before the year is through, consider upping your FSA deductions in the coming year. Or if you have unneeded extra money in your FSA at the end of the year, consider lowering your FSA deductions.

There is no magical number that is right for everyone—only an amount that is right for you. Just remember—this is a tax-free benefit and theoretically, money you would be spending on health bills anyway. Look ahead and plan your FSA deductions accordingly, and you will reap the long-term money-saving benefits.

Other Resources

• FSAFEDS - Federal Government FSA administration page for federal employees
• Wikipedia: Flexible Spending Accounts - Wikipedia entry discussing flexible spending accounts
• Payflex FSA Account Administration - Administration page for those companies who use Payflex administration services
• ADP FSA Account Administration - Administration page for those companies who use ADP administration services
• WageWorks Account Administration - Administration page for those companies who use WageWorks administration services

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