Three of the Big Four offer medical Flexible Spending Accounts (FSA) as part of their employer benefits package. A FSA is a fantastic option to manage the cost of your medical expenses. This is because a FSA gives you a very nice tax break. Yet, many employees of the Big Four never take advantage of the FSA because they are either unaware that FSA exists, are aware of the benefits of a FSA, or because they are scared of the “use-it-or-lose it” rule.
What is a FSA?
A medical Flexible Spending Account (FSA) allows you to set aside money for qualified medical expenses. You receive a tax deduction for money put into a FSA. Up to $2,550 can be socked away into a medical FSA for 2015. Many medical expenses fall into the “qualified” category, including those things that “cure, mitigat[e], trea[t], or preven[t] of disease.” This means paying for health care services (like for a visit to a doctor’s office), for medication, and even for medical equipment (such as crutches).
Unfortunately, you cannot use FSA funds to pay for general wellness costs – such as your health club membership, your yoga retreat, or your fish oil supplements.
What are the advantages of an FSA?
Money put into a medical Flexible Spending Account is exempt from federal income tax, federal payroll tax (FICA), and usually state income tax. That’s a trifecta of tax discount. This three-pronged tax break strongly encourages employees to take advantage of the FSA.
. . . if you find yourself with a large medical bill for services from last year, you can begin squirreling money in your FSA this year to get tax breaks this year for last year’s medical expenses that you paid this year.
You don’t have to see the future to take advantage of the FSA; the tax benefit applies for the year in which the medical bill was paid – not the year in which the medical procedure took place. So, if you find yourself with a large medical for services from last year, you can begin squirreling money in your FSA this year to get a tax break this year for last year’s medical expenses that you paid for this year. Consider an example from our favorite fictional employee, Joe Danger, CPA:
Joe injured his rotator cuff in a weight-lifting competition. As such, he’ll be in physical therapy for the next six months – having already undergone surgery on his shoulder last year. Joe’s medical bill for last year’s surgery is still outstanding – and more medical bills are on the way for his physical therapy.
Joe puts money into FSA via regular paycheck contributions this year. He can use the FSA funds to pay for both last year’s surgery and this year’s physical therapy.
What is the disadvantage of the FSA?
The big downside to the Flexible Spending Account is it’s lose-it-or-use-it provision. Money not used in a FSA at the end of a plan year is usually forfeited. There are some exceptions; however, the availability of those exceptions vary by the plan administrator. That is, such options are not always available. So don’t count on them. Instead, count on using up all funds in FSA for appropriate plan year.
A Real-Life Case Study
To illustrate the value of the medical Flexible Spending Account, let’s use an example with Joe Danger:
Joe had over $1,000 in required dental work. Unfortunately, none of the procedures were covered by his dental insurance plan.
Joe is in the 25% Federal tax bracket. He is in the 9.3% California state tax bracket. Payroll taxes (FICA) total 7.65%. That’s a total tax of almost 42% on earned income at the marginal rate.
By electing to put away $1,000 into his FSA, Joe was able to save almost $420! That was enough for Joe to buy himself a new Xbox One.
A Huge Saving Opportunities with the FSA
The above is just one real-life example. However, $420 in savings is not the limit when using a FSA. Given the maximum allowable contribution of $2,550 for 2015, one could save well over $1,000 (given the tax brackets of our fictional character). So, if you have pending medical expenses, consider contributing to a FSA to receive a massive government-sponsored discount on your medical expenses. As three of the Big Four (Deloitte, PwC & KPMG) advertise their medical Flexible Spending Accounts (FSA) offering, it’s worth considering.