FSA vs. HSA: What’s the Difference?
Health care costs – premiums, deductibles, copays, and other out-of-pocket expenses – can be unpredictable and add up quickly. As such, it’s important to have an effective health care plan in place, and the IRS offers two strategies that can be taken advantage of: the Flexible Spending Account, or FSA, and the Health Savings Account, or HSA. Both of these options are tax-advantaged accounts that are designed to aid you in paying for qualified medical expenses during the year. Both accounts also have debit cards, so you can swipe the card to pay directly from the account. However, there are notable distinctions in the form and function of each type of account.
Flexible Spending Account
FSAs are savings accounts offered as part of an employer-provided health plan. These accounts are available for two different purposes: health care and child care. Depending on the type of arrangement, FSAs will offer different annual contribution limits, but their tax advantages are the same. Dollars go into the account pre-tax, saving you money on the front end, and contributions are not subject to payroll (or “FICA”) taxes, saving both you and your employer an additional 7.65%. FSAs are a great way to pay the annual medical expenses that you know are coming, such as prescriptions, checkups, and copays. When preparing for these expenses, why not let Uncle Sam give you a discount?
Another great benefit of the FSA is that you can fund expenses after they are incurred. Because you make an election regarding your FSA contributions before the year begins, your contributions will be automatically credited to your account through payroll deductions. And because of this guarantee that your account will be funded, you are afforded the opportunity to reimburse yourself for medical expenses before the account is fully funded. As an example, let’s say you have a procedure in January, and it costs $1,200. You can access that entire amount in January to reimburse your medical expense and then refund the account by making contributions of $100 per month for the year.
Health Savings Account
HSAs, on the other hand, are outside investment accounts that you are eligible to set up if you have a qualifying high-deductible health insurance plan. While the IRS publishes specific requirements, the easiest way to know whether your health insurance qualifies is to select the “HSA-eligible” or “HDHP” (High-Deductible Health Plan) health insurance option when you have the choice. While these plans come with increased out-of-pocket expenses, they generally offer a lower premium cost as well. This difference allows you to fund your HSA with the money you save on your insurance premiums.
Which is best for you?
You may be thinking, “These accounts sound great! Where do I sign?” However, you can’t have both. Generally, employers will only offer one of these options. But for the opportunities where you might have access to either, it is important to know that the biggest distinction between HSAs and FSAs is who owns the money. In an HSA, the money is all yours. You put the contribution in, and if you change health insurance or leave your employer, you still get to keep the money. However, FSAs are “use it or lose it” accounts. The money is owned by your employer, so any funds you do not use before the end of the year are returned to your employer. FSAs do offer the option to allow up to $500 to roll over to the next year if not spent, but that decision is at the discretion of your employer.
The biggest draw for HSAs is that they are triple tax-advantaged. First, you get a tax deduction for contributions, and unlike IRAs, there is no income limit for that tax deduction. Second, any income generated inside the account will grow tax-free. And third, you can pull the money out completely tax-free for medical expenses.
What’s more, Health Savings Accounts are unconventional retirement savings tools. As previously stated, the IRS allows funds from an HSA to be distributed tax- and penalty-free to reimburse medical expenses. In addition, after you reach age 65, you can withdraw funds penalty-free for any expenses. In this way, HSAs are taxed very similarly to traditional IRAs. Even better, there is no time limit on the reimbursement of your medical expenses. As long as you keep record of your medical expenses, you can continue to fund your HSA, let that money grow, and reimburse yourself later tax- and penalty-free.
So, how do you know which account is right for you? The answer depends on your specific situation. If you have consistent or predictable expenses throughout the year, then an FSA is probably better for you. FSAs offer a greater current-year tax benefit than HSAs do, so a Flexible Spending Account will be more beneficial for those with a current need. On the other hand, if you have relatively low medical expenses, and you do have the ability to save additional funds and let them grow, then an HSA might make more sense for you.
Enrolling in these benefits is an important strategic decision, and we at Yeske Buie are eager to assist you in making the right decision. If you have any questions about your employee benefits or deciding between an FSA and an HSA, do not hesitate to reach out and ask.