Can You Benefit From a Flexible Spending Account?
By Kristi Vaughan
Does your employer offer a Flexible Spending Account? And if so, are you taking full advantage of it?
Used properly, Flexible Spending Accounts (FSAs) can be beneficial tax saving tools. But if you are not careful, they can become costly mistakes.
What is a FSA?
A Flexible Spending Account is a cafeteria plan offered by employers to employees. Under the plan, the employee can elect to have a certain portion of his income (up to an IRS allowed maximum) deducted from his taxable income each pay period. This money is then made available to pay for the cost of health coverage and medical expenses not covered under a health plan. Beginning in 2003, the Internal Revenue Service also allowed most over the counter drugs to be purchased with pretax dollars.
FSAs, which are set up separately from healthcare. FSAs, also can be used to pay for dependent care expenses up to a maximum amount as set by the IRS. Again, the money contributed to this account is deducted from taxable income and is not subject to Social Security, Medicare or income tax.
How It Works
The money contributed to an FSA is held by the plan administrator until employees claim reimbursement. Under both healthcare FSAs and dependent care FSAs, employees must submit proof of an expense before they can be reimbursed.
A big difference between the two types of FSAs, however, comes in the amount that can be reimbursed. Under the provisions of healthcare FSAs, employers must reimburse any amount up to the full amount being withheld for the year, no matter when the expense is incurred. This means that if an employee who has opted for an annual total deduction of $1,000 has a qualified medical expense of $1,000 in the first month of the year, the full amount must be paid out even though his contribution to date is far less. Dependent care reimbursements, however, cannot exceed the amount deducted to date.
Use it or Lose It
Because of the "use it or lose it" provision in the tax law, it is important that employees carefully consider how much money they will deduct. Money that is not used by year-end is forfeited and becomes the property of the employer. If the employer decides to distribute the money, it must be done on an equitable basis to all participants, not just those who forfeited the money.
