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Flexible Spending Accounts

The term Flexible Spending Arrangements (FSA) also refers to Flexible Spending Accounts. Employers set up restricted-use accounts in which employees can save pretax dollars to pay for specific expenditures. Using this guide we'll cover all the information you need to know about Flexible Spending Accounts.

FSAs, as opposed to Health Savings Accounts (HSAs), can be used for a variety of purposes. Among the possibilities for an FSA are medical expenses and dependent care expenses. A medical expense account can be used for any medical expenses, or for limited use, meaning only dental and vision expenses can be claimed.

In other words, what is happening with these accounts? Can your employer provide you with one, and if so, what are the benefits? You can find all the information you need here.

FSA Basics

Employers typically offer FSA benefits as part of a wider cafeteria plan. As opposed to a Health Savings Account, you cannot open one independently from your employer. In order for you to take advantage of it, they must offer it as a benefit. In this way, you save money on taxes upfront because the money is taken from your paycheck before taxes.

Paycheck by paycheck, throughout the year, you contribute to the account. Based on the type of account, you can then use the money for qualified expenses. How to spend these FSA funds effectively will be discussed below.

One caveat: Most of these funds are "use them or lose them." By definition, the money is gone if it isn't used by the end of the year. A slight change was made to these rules in 2014. It could be frustrating to use FSAs before since they used to be a use it or lose it proposition. Today, only dependent-care accounts function as use-it-or-lose-it accounts.

You may be permitted to carry over your FSA balance into the next calendar year if your employer offers you a grace period of up to 2.5 months. Generally, the grace period ends on March 31st; however, this can vary. If you have unused funds, your employer can let you carry them over up to $550, which will be included in the next year's FSA.

The balance cannot be carried over indefinitely unlike with an HSA. During the open enrollment period, you should pay careful attention to how much you contribute to this account.

Funding an FSA

You typically fund your FSA from your paycheck, as noted above. During open enrollment, you will have the option to join an FSA provided by your employer. Typically, you can select an amount to contribute, which will be divided evenly among your paychecks. You might also choose to contribute per paycheck based on your budget for the month.

Withdrawing from an FSA

For eligible expenses, you have a couple of different options depending on your FSA plan and administration. If you are interested in this, please talk to your administrator. In general, the following options are available:

Debit/Check: In some cases, there is also a debit card or checkbook associated with the account, so you can use it directly to spend on your eligible expenses. The convenience of this option is unquestionable. In spite of this, the card may not always work due to the fact that your plan limits where you can spend and what you can purchase. You may also find that most daycare providers refuse to accept debit cards, so this may not be a viable option.

Reimbursement: This is usually one of the options provided by FSAs, though for some, this is the only option. Your plan administrator may require that you submit a receipt for reimbursement if you are required to spend out-of-pocket on some accounts. Your check will usually be mailed or deposited into your checking account through direct deposit. On a tight budget, these can be challenging to manage as this can take two weeks or more.

I once used an individual flexible spending account to pay for child care costs when my daughter was small. A Dependent Care Tax Credit benefits taxpayers less than a Flexible Spending Account (and usually, the latter generates more tax savings than the former). Our budget was extremely tight, so the account was difficult to use.

We set up an automatic deduction of $190 from the salary of my husband, the main breadwinner for the FSA. We were unable to write a check to the daycare provider because his take-home pay was reduced so much. Financial constraints were in place during the time it took to get the reimbursement after we filed our receipt.

We still went ahead with the FSA, but we had to adapt to the paycheck withdrawal-daycare payment-reimbursement rhythm. If you plan to use your FSA without access to a debit card tied to the account, ensure that you keep this in mind.

Types of FSAs

FSAs typically come in two forms: medical expense and dependent care. If your company offers various "flavors" of these limited-use accounts, then you may be able to choose one that suits you best. Among the main options are:

  1. General-purpose medical expense account: This is probably the most common type of FSA, and employers with limited health plans often use it instead of HSAs. In addition to medical expenses, dental and vision expenses can be covered using funds contributed to a general-purpose health FSA.

  2. Limited-used medical expense account: These FSAs are often offered by companies that also provide Health Savings Accounts. You can only use these accounts for dental and vision expenses. Since they are not considered non-qualified health plans when you are using an HSA, you can pair this option with an HSA.

  3. Dependent-care account: As my account about my own experience illustrates, FSA has several types, including dependent-care accounts. Daycare, before- and after-school care, as well as other eligible childcare expenses for your under-13-year-old children, can be financed with the money contributed to this account. Included may be other special-needs adults living with you, as well as older children with special needs.

  4. Commuting and parking account: Your employer may offer a commuting account if you travel frequently for your work, and you may also qualify for a parking account if you have to pay for parking at work. At the end of the year, these expenses can often be deducted in the same way that dependent care and certain medical expenses can. An FSA allows you to take advantage of these tax benefits right away.

  5. Adoption assistance account: This is one of the more unusual types of FSAs, but some employers offer it. This is a special account that you can use to save money for domestic or international adoption.

Is there a restriction to how much you can contribute?

An FSA's annual contribution limit is set by the IRS, like other tax-free saving account options. There are the following limits for contributions in 2021:

Flexible Spending Account Contribution Limits, 2021

Note: The $5,500 limit also applies to single parents, regardless of their filing status.

There are income-based phase-outs associated with some of these accounts, including the adoption assistance account and the dependent care account. You should speak with your account administrator if you earn more than $100,000 per year to see if your contribution caps will be phased out.

What Should Your Contribution be?

The FSA contribution limits don't automatically mean you should contribute the maximum amount. The reason why you don't want to make too many contributions is that these accounts don't always roll over their leftover balance. When you file out your taxes, you can claim the out-of-pocket expenses, so it's best to shoot short. However, you may be able to carry over a limited amount of funding to the next year if you speak with your administrator during open enrollment.

Be sure to take into account how much you’ll actually spend there. The expense records for the past year are a good starting point, especially if the expense is relatively steady, such as dependent care. However, this may not accurately portray the situation.

Again, if your account type or employer doesn't allow you to roll over, you should shoot low. You can add your $550 rollover back into your calculations once you've already made them if you have the rollover option. If it's not needed this year, it can be frozen or carried forward to the next.

FSA Deadlines

The spending deadline for your FSA varies depending on how it is set up by the administrator. Employers can set spending deadlines in three ways:

  1. You must incur all expenses by December 31st.

  2. Users can carry over $550 into the next FSA year if they do not incur all expenses by December 31st.

  3. Every expense must be incurred by March 15th.

You should check the deadlines for your FSA with your plan administrator. Monitor your deadlines if you have multiple accounts, such as dependent-care accounts and medical-use accounts. According to your employer's setup, they may not.

The reporting deadline may not always match the spending deadline. The deadline for filing an FSA claim is often several weeks after your spending deadline.

As an example, an account with a December 31st spending deadline might have a January 15th filing deadline. It is typical for plans with a March 15 spending deadline to have a submission deadline of March 31.

Imagine, for instance, that you intend to exhaust your medical FSA during the year. Your plan for December 31st is to stock your first aid cabinet with some medical supplies, like bandages. By January 15, you must turn in the receipts if you have a December 31st spending deadline.

Spending Down Your Account

With a flexible spending account, your primary concern is deciding how much money to put into your account. It is still possible that you will not be able to spend the entire budget within one year on prescriptions and routine medical care.

In this case, you'll be able to spend the remainder of your account on other medical expenses. You may want to consider:

  • Chiropractic and acupuncture treatments

  • Medical supplies such as bandages

  • Scan of the body

  • Supplies and equipment for breast pumps

  • Modifications to the home that are needed

  • Eye lenses and contact lenses

  • Treatment for dental problems

  • Devices for diagnosing

  • Enhancements to fertility

  • Assistive hearing devices

  • Premiums for insurance

  • Removing lead-based paint

  • Lifetime care payments in advance

  • Premiums for long-term care insurance

  • Psychology services

  • A special education program for a child with disabilities

  • Sterilization, including vasectomies

  • Physiotherapy

  • Program to lose weight in response to a medical diagnosis

If you want to use your FSA up before the deadline for your plan, you have several options. Expenses like these are the sort of thing you need to plan ahead for, and you need to make sure you know your options for claims before you make them.

Home improvements may be claimed if one becomes wheelchair-bound, but there are some complicated procedures. Even if you intend to spend down your account, you should speak to an expert before claiming large expenses like these.

One Note: FSAs with HSAs

It's important to understand how an FSA's benefits interact with others offered by your employer and your spouse's company before deciding whether or not to use them for medical expenses.

For example, my husband and I have separate employer-sponsored healthcare plans. He is eligible for an HSA, but mine is not. FSAs are offered by my employer, however. I decided not to use this year's medical FSA option because it would disqualify my husband from using a health savings account.

You see, even if they're not on the plan, FSA and HSA funds can be used on all dependents and spouses. The HSA funds in my husband's account can be used to pay for my medical expenses as well as my daughter's, even though we are not covered by his plan.

However, my FSA would also qualify as healthcare coverage for my husband, which is inconvenient. The use of funds from my FSA would disqualify him from using an HSA, even if I used those funds for only my healthcare costs or that of my daughter.

The rules are complicated, and it's confusing. You should check with your account administrators to see what their rules are if you're dealing with more than one account.

Dependent-care accounts are also affected by this. According to the table above, each employee can contribute $2,750. A married couple (or a single parent) can contribute $5,500. If both you and your spouse have dependent-care account options, you can each contribute up to $2,750 to your individual accounts. The account can be used by either spouse, up to a maximum contribution of $5,500. In either case, your total contribution cannot exceed $5,500.

One option is to have separate accounts or to have one account that is taken out of one spouse's paycheck. Keep in mind, however, that there may be administration fees associated with your accounts. Most of them are low - a couple of dollars per paycheque. If each of your funds is in a single account, though, and the administrative fees are only paid once, you may be able to save a few dollars.

There are many nuanced rules governing flexible spending accounts. You should speak with your benefits administrator if this is an option with your employer. You'll learn if there are account options that will work best for you, what they could do for your taxes, and how they will interact with your spouse’s benefits. Then take the time to figure out how much you will contribute so that it makes sense. If you do, opening an FSA account this year could provide you with significant tax benefits.

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