Most employees face countless and confounding options each year when they select their benefits. There is no unanimous choice in any benefit area, it really comes down to what the employee needs and will benefit from most, particularly long-term. Flex spending accounts and health savings accounts are very common options these days, particularly as employers continually move to higher deductible plans. With higher deductibles, employees have more exposure to potential healthcare costs and both tools have the ability to separately or together provide great savings to the insured.
Flex Spending Accounts (FSA)
Not all employers offer FSA’s and, often, many employees are unaware that one is offered or how it could be properly leveraged. The first consideration is that any money not used in this plan is forfeited each year. For this reason, it is critical that FSA funding be determined annually. There are two primary types: Health FSAs and Dependent Care FSAs. In 2019, an employee is able to defer $2,700 into a Health FSA and can use those funds for out of pocket costs like co-payments and prescriptions but also other health related expenses (i.e. eyeglasses, smoking cessation, acupuncture, and braces). Assuming most employees make their FSA funding decision in the last month or two of the year, it is important to fund no more than you are very confident you will need over the coming year. As an example, if someone is expecting to give birth, need new glasses, or have cosmetic surgery, the FSA can provide a way to budget these costs over the year. For these contributions, the employee receives a tax deduction, much like they would for health insurance premiums or pre-tax retirement contributions. Dependent Care FSAs expenses are a little easier to predict. If both parents work, each eligible family can contribute up to $5,000 and these funds can be used for care of a child under age 13 or care of a physically or mentally incapable spouse or relative living with you. Summer camps and babysitting are also eligible expenses for those who know these expenses are looming.
Health Savings Accounts (HSA)
As employers look to minimize premium increases, Health Savings Accounts have become very popular. To be eligible to fund a HSA, you have to be enrolled in a High Deductible Health Plan (HDHP). It is critical to understand that a high deductible alone does not qualify as an HDHP, the plan has to be labeled as such by the insurance company. Different from a FSA, an employee is able to keep any funds left in a HSA at year end. As well, the deferral maximum, which is also a tax deduction, is much higher than a FSA; an individual can defer up to $3500 in 2019 ($3550 in 2020) for self-only coverage or $7000 ($7100 in 2020) for family coverage. The distribution rules are slightly different from a FSA; one big difference is you can purchase over-the-counter medication from a HSA, if you have a prescription. You can also utilize the funds for other insurance premiums like long-term care and Medicare. HSAs provide far more flexibility than a FSA as funds that carry over can be accumulated, distributed for future needs, or even invested for long-term growth. HSAs are arguably the most valuable account type over time because of the triple tax-free benefit they provide; funds go in pre-tax, grow tax-free, and are distributed tax-free, if used for eligible medical expenses. Any pre-age 65 distributions for non-medical expenses are taxable and subject to a 20% penalty. After age 65, this 20% penalty is waived so an account holder could conceivably distribute the funds like they would their 401k or IRA. One common eligible expense, where we have seen clients benefit, is the ability to utilize the funds for long term care premiums. As these premiums continue to increase and put a strain on many people’s retirement income, having a well-funded HSA could offset this significant cost once retired. Simply put, if someone can max out a HSA every year and not use those funds for current healthcare out-of-pocket costs, they will be leveraging the account type to its maximum long-term. Most HSAs are bank accounts, but we have worked with a number of clients with balances large enough to invest and lever the account benefits even further.
Decisions around FSA and HSA accounts should not be taken lightly. If you are fortunate enough to have the option of one of these accounts or both, it is important to consider what funding could provide in current and long-term benefits. We have done countless analyses for clients considering these options or employers looking to develop the best benefit package to their employees. Every situation is unique but proper utilization of these accounts will provide massive value over time.