Flexible Spending Accounts (FSA)
A Flexible Spending Account is an employer-sponsored benefit that allows employees to set aside a portion of their pre-tax earnings to pay for eligible healthcare or dependent care expenses. By paying for these expenses with pre-tax dollars, employees reduce their taxable income and effectively pay a lower net cost for expenses they would incur anyway. FSAs are a low-cost, high-value addition to any benefits package that can be offered alongside virtually any health plan structure.
Types of Flexible Spending Accounts
There are two primary types of FSAs, each covering a different category of expense:
- Healthcare FSA — allows employees to set aside pre-tax dollars to pay for qualified medical, dental, and vision expenses not covered by insurance. Eligible expenses include deductibles and copays, prescription drugs, over-the-counter medications, medical equipment, orthodontia, and many other out-of-pocket health costs. The full elected amount is available to the employee from the first day of the plan year, even before all contributions have been made.
- Dependent Care FSA — allows employees to set aside pre-tax dollars to pay for eligible dependent care expenses, including daycare, after-school programs, summer day camps, and care for a qualifying adult dependent. The dependent care FSA is subject to separate contribution limits set by the IRS and is one of the most valuable tax benefits available to working parents.
Use-It-or-Lose-It Rule and Grace Period
Healthcare FSAs are subject to the IRS "use-it-or-lose-it" rule, which generally requires that funds be used for eligible expenses incurred during the plan year or they are forfeited. Employers can offer one of two relief provisions: a grace period of up to two and a half months after the plan year ends during which employees can use remaining funds, or a carryover provision that allows employees to carry forward a limited amount of unspent funds into the next plan year. Only one of these provisions can be offered — not both — and employers are not required to offer either.
Employer Benefits of Offering FSAs
FSAs benefit employers as well as employees. Because employee FSA contributions are made on a pre-tax basis, employers save on their share of FICA payroll taxes on the amounts contributed. These savings can offset or exceed the administrative cost of sponsoring an FSA program, making FSAs a cost-effective benefit enhancement for the employer.
Limited Purpose FSA
Employees who are enrolled in an HSA-compatible high-deductible health plan cannot use a standard healthcare FSA without losing their HSA eligibility. However, a Limited Purpose FSA — which covers only dental and vision expenses — can be offered alongside an HSA without affecting HSA eligibility, allowing employees to maximize both benefits.
Industry Considerations
FSAs are appropriate for virtually every employer and workforce, and they can be offered regardless of whether the employer sponsors a group health plan. The administrative requirements are manageable, and most third-party administrators handle FSA administration efficiently. Etowah Insurance Group can help evaluate FSA options and connect you with plan administrators who provide a seamless experience for both employers and employees.
