On Flexible Spending – Medical Expenses

The concept of Flexible Spending Accounts (FSA’s) is so simple that people think there must be a catch.  There really isn’t. You budget what your expected annual out-of-pocket medical expenses will be.  Then, you request that amount of money be allocated to your FSA account.  Your salary will be reduced by that amount, so no income taxes will be due on that money.  Although your employer is deducting that amount over the full year, the entire amount will be available to you on January 1 (if that is the start of your plan year.) It is true that you will forfeit whatever you don’t spend, but this is not as much money as you might think.  Let’s examine these points more closer.

(In 2016, the most you can contribute to an FSA is $2,550.00 or approximately $49 per week.  For my examples, I will budget $520 towards medical expenses or $10 per week.)

Budgeting for medical expenses. Let’s assume you visit the dentist twice a year for cleanings ($200), are anticipating four “well baby” visits ($140), and plan on buying new glasses ($180).  Opening a medical FSA for $520 will give you immediate access to those funds on January 1, even though you have budgeted $10.00 per week. You could choose to purchase your new glasses immediately or wait. This will give you some additional flexibility. Because, even though you have regular cleanings, you might also have an expensive cavity. In that case you could choose to put off buying glasses until next year and use the funds available in your FSA account for the unexpected dental bill. Glasses could still be purchased towards the end of the year if funds remain in your FSA account; or they could be put off another year.  You are in control.

Immediate access to budgeted funds.  If you anticipate a major medical expense, FSA accounts will allow you to accumulate the necessary funds immediately and painlessly.  A good friend informed me she needed new dentures.  She anticipated that she would need to wait six months before she saved the $520 needed for a down payment. Luckily her employer  offered FSA plans, and they were still in the open enrollment period. My friend immediately signed up for the FSA plan.  The full amount was made available to her on January 1, and she was able to schedule a dentist appointment for January 10. Her employer reduced her wages by only $10 per week.

Deducting medical expenses from your taxes. Yes, medical expenses are deductible on Schedule A of your tax form.  But for most individuals, these deductions will not affect your taxes.  You can read why on my new blog.  So, the only way to get a federal tax break for most individuals is by using Pretax Dollars from an FSA or HSA account. (But we are focusing on FSA accounts in this blog.)

Tax Savings! I just mentioned saving on your federal taxes. Most Americans are in the 10% or 15% tax bracket. This means of the $520 that we placed in our FSA example, most Americans would save $52 or $78.  Not bad.  But there are more tax savings.  Since the $520 was not included in their wages, there will not be any social security or medicare taxes; additional tax savings of $39. Nor will there be any state or local tax owed on the $520. State tax brackets range from 3% to 13%, so let’s use the middle,  8%, for illustration purposes.  In this case the state tax saved would be $41.  So, we have $520 available in our FSA.  However, we have reduced our overall taxes by at least $132.

Use It or Lose It.  This is true.  If you don’t use the full $520 during the plan year, you will lose the remaining dollars in your account.  I have had people who were wary of opening an FSA because they didn’t want to lose any of their money.  If they choose not to use the $520, they will pay the taxes of $132. This means that only a portion of that $520 actually ends up in their pocket.  In fact, in order to break even in their FSA account they would only need to spend the difference of $388 ($520 – $132.)  The rest would have gone to pay taxes. But since the entire amount was placed in the FSA account, they actually have a free bonus of $132 to use.  Remember, FSA accounts can be used for  dental work, glasses,  diabetes testing supplies, hearing aids and batteries, contact lenses and a myriad of other items as well as medical copays and prescription drugs. So if you find yourself with additional funds at the end of the year, consider purchasing some of these items.

But I’m Healthy and Have Great Insurance.  I have met a few people who are indeed blessed with great health and have equally great insurance with little to no copays, and therefor no medical expenses.  If you are in that enviable position, an FSA might not be for you.  Just know that it is there should the need every arise.  Meanwhile I’m putting in my $520 and saving at least 25% in taxes.

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    “The biggest challenge for me is figuring out what my health care expenses are going to be from year to year,” says Beverly Molnar, who uses a dependent care spending account offered by her university employer. “Sometimes the health care expenses aren’t quite as predictable as the child care costs.”

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