DEFINITION
A flexible spending account (FSA) is an employer-sponsored savings account that lets employees pay certain out-of-pocket medical or dependent care costs with tax-free dollars.
How Flexible Spending Accounts Work
Employees and employers (on behalf of the employee) can contribute to a flexible spending account with pre-tax income when an employer offers an FSA. Employees can then spend the funds directly on eligible expenses during the covered period, or they can pay out of pocket and request reimbursement.
How To Use FSA Funds
When you enroll in an FSA, you may receive a debit card so that you can use the funds in your accounts to pay qualified expenses directly. Or, you can pay out of pocket and seek reimbursement after.
You may be tempted to go for the maximum contribution limits to take advantage of the tax benefits, but it’s typically a “use it or lose it” system. The funds in the account may expire if you don’t use the money by the end of the year.
Employers can elect to offer a grace period of two and a half months, although they don’t have to. This extends the time you have to use the funds. Health care FSAs have the additional option of allowing you to carry over a maximum of $610 from 2022 to 2023 instead of a grace period. This is also your employer’s decision.
Flexible Spending Accounts: Example
To see how you would contribute to and use funds from multiple kinds of FSAs let’s look at an example. Say your employer offers a health care FSA and a dependent care FSA, and allows employees to contribute an annual maximum of $2,750 to the health care FSA and $5,000 to the dependent care FSA. You may decide to put $2,000 into each FSA, and spread your contributions out equally over the course of a year.
What Do Health Care FSAs Cover?
The IRS defines qualified medical expenses as the costs of diagnosis, cure, mitigation, and treatment or prevention of disease for any part or function of the body. These include:78
- Payments for services by professional medical practitioners
- Costs of equipment, supplies, and diagnostic devices for these purposes
- Transportation costs to receive medical care
- Over-the-counter medicine and menstrual care products
Insurance premiums and long-term care costs are not reimbursable with a health care FSA, nor are any amounts covered under another health plan.
Qualified health expenses are applicable to you and your spouse, your adult dependents, or your child under age 27. But dependents who are married and filing joint returns or those who have gross annual incomes above $4,300 are excluded.
What Do Dependent Care FSAs Cover?
Qualified expenses for dependent care FSAs generally include services that let you or your spouse work, look for work, or attend school full time. Some common examples include before- and after-school child care, in-home dependent care, and daycare in a facility.
These expenses must be for a dependent child who is under the age of 13 and who you can claim a tax deduction for, or for a spouse or dependent who can’t take care of themselves.