Flexible spending accounts (FSAs) are special accounts set up by employers to let employees pay eligible out-of-pocket expenses with pre-tax dollars. Depending on the type of FSA, such as a health care FSA or a dependent care FSA, funds can apply to cover certain costs for medical or dependent care.
Employees who are eligible to participate in an FSA need to understand how it works so they can make the most of this commonly-offered employee benefit.
What is a health FSA?
Health care FSAs are employer-sponsored accounts that allow employees to contribute a portion of their paycheck to use for qualified medical expenses (e.g., copayments for doctor visits and prescriptions).
The paycheck deductions are pre-tax, meaning funds contributed to a health FSA are not subject to income or payroll taxes. In addition, if employers also make contributions, those amounts aren’t included in employee gross income for tax purposes. This favorable tax treatment allows employees to reduce their taxable income and save on eligible expenses—the amount they would otherwise pay in taxes on that money.
FSAs are also what’s known as “pre-funded,” meaning that funds can be used to pay qualified medical expenses before the contributions hit the account, up to the annual election amount. For example, suppose you elect to contribute $2,000 for the plan year. In that case, you can spend up to that amount any time during the plan year, even if you have not yet contributed the full amount.
Who is eligible?
Employers typically offer health FSAs as part of a “cafeteria plan.” Cafeteria plans allow employees to enroll in and contribute to certain benefits on a pre-tax basis. (Other examples of these benefits might include adoption assistance or life insurance coverage.) If selected, the health FSA will cover the employee, their spouse, and dependents. Self-employed individuals aren’t eligible for health FSAs.
Unlike a health savings account (HSA), you don’t need to be covered by a high deductible health plan (HDHP) to have a health FSA. In fact, health insurance coverage isn’t even required to qualify for a health FSA. You can have multiple insurance plans or none—it doesn’t affect FSA eligibility. However, if you are enrolled in an HSA, you may not be able to contribute to a standard health FSA. Instead, you must enroll in a limited purpose FSA as discussed further below.
Learn more in our post about the difference between HSAs and FSAs.
How does health FSA claim reimbursement work?
Participants generally submit a claim to their employer’s health FSA along with proof of the eligible medical expense. In some instances, a statement that the claim isn’t covered by a health insurance plan may also be submitted. For some items, such as those that are only eligible when they treat a specific condition, you may also need a letter of medical necessity from your doctor.
In general, advance reimbursement for future and not yet incurred expenses is not permitted. Claims can only be reimbursed for services that have already been incurred during the plan year or eligible medical items purchased.
What is an FSA card?
FSA administrators often offer debit cards that participants can use to pay for qualifying medical expenses. The card can usually be used like any credit or debit card at checkout, whether online or at a brick-and-mortar store. (You typically select “Credit” when prompted by a point-of-sale card processor.)
The funds are deducted directly from the account, so there are no monthly statements or finance charges for an employee. The card won’t appear on credit reports or affect credit scores. Employers that are sponsoring FSAs may receive monthly statements on amounts withdrawn but not usually the purpose (e.g., your employer, if they are using an FSA administrator, should not see that you used your FSA funds for a prescription).
Submitting a reimbursement claim when using an FSA card isn’t always necessary, but participants should hold on to receipts. The IRS requires that all FSA payments are substantiated, and administrators may require them. In some cases, additional documentation may need to be submitted if the FSA card is denied at the point of service or the transaction is denied after a review in order to properly substantiate the claim.
Are health FSAs “use it or lose it”?
Generally, amounts that are contributed to a health FSA must be spent within that plan year. In other words, funds unspent at the end of the plan year may be forfeited to the employer.
You might, however, be able to carryover or rollover a certain amount of unused health FSA funds to the next plan year and still contribute the maximum for that subsequent plan year. (The maximum allowed for this carryover varies yearly.) Alternatively, employers can offer employees a grace period of up to 2.5 months after the plan year to spend the remaining funds. Any carryover or grace periods are optional, and a plan can offer a carryover or a grace period, but not both. Review any plan documents or conditions carefully.
When employment terminates, health FSA funds may also be forfeited unless the employee remains on the health care plan under federal COBRA. In addition, under many states’ continuation rules, aka “mini-COBRA,” health FSA funds may not be continued. Talk with your employer or broker if you have questions.
How much can I contribute? FSA contribution limits.
Employees should estimate their out-of-pocket health costs for the upcoming year and use this figure to elect how much they want to contribute. Employers will then make regular, equal deductions from their paychecks throughout the plan year, based on the employees’ elections.
The IRS announces the maximum annual contribution for each year. Workers may contribute up to this maximum amount regardless of whether their employer contributes.
Election amounts usually can’t be changed or revoked during the plan year unless there’s a qualifying life event.
What can FSA funds be spent on?
Eligible medical expenses include those incurred by:
An employee and their spouse.
Any dependent they claim on their income tax return.
Any person they could have claimed as a dependent except when:
The person filed a joint tax return,
The person had gross income over a specific amount (which varies yearly), or
The employee or their spouse (if filing jointly) could be claimed as a dependent on someone else’s tax return.
A child under age 27 at the end of the tax year.
Health FSA funds can generally be spent on expenses that would qualify for the medical and dental expense deduction. That includes certain over-the-counter medicine (with or without a prescription) and menstrual care products.
Health FSA funds can also be used to pay your health insurance plan deductibles and copayments, but not for insurance premiums.
FAQs
What is the FSA claims deadline, or run-out period?
Many plans give you a set period after the plan year ends, often 60 to 90 days, to submit claims for expenses you incurred during the plan year. The run-out period is separate from a grace period or carryover, and it doesn't extend the time to incur expenses. Check your plan documents for your exact deadline.
How much will an FSA save me on taxes?
Your savings are the taxes you don't pay on the money you contribute. For example, if you're in the 22% federal bracket and elect $2,000, you'd avoid about $440 in federal income tax and about $153 in Social Security and Medicare taxes (7.65%), roughly $593 before state taxes. Your actual savings depend on your tax situation.
Can I use my FSA for telehealth visits?
Generally yes. A virtual visit with a licensed provider counts as a medical expense, as long as an in-person visit for the same care would qualify. Keep your receipt or explanation of benefits.
Are glasses, contacts, and dental care eligible?
Yes. Cosmetic procedures, like teeth whitening, are not.
Is sunscreen an FSA-eligible expense?
Yes, if it's SPF 15 or higher and protects against UV-A and UV-B rays.
Is a humidifier an FSA-eligible expense?
Yes, with a letter of medical necessity from a licensed medical provider.
Are vitamins and supplements eligible?
Only with a letter of medical necessity. A doctor has to recommend them to treat a diagnosed condition.
Is a gym membership an FSA-eligible expense?
Generally no. It qualifies only if a doctor prescribes it to treat a specific medical condition.
Are diapers FSA-eligible expenses?
Usually not. Diapers qualify only if they're needed to treat a medical condition, such as incontinence.
