I am amazed at how many people are given the opportunity to contribute to a company Flex Spending Account but choose not to do it because they don’t understand what it is or how it works. Just one warning before you read: By the time you finish reading, you are going to kick yourself for never contributing in the past. It’s ok, you didn’t know.
Flex spending accounts are referred to differently but often mean the same thing. Yours might have a name like medical reimbursement, health reimbursement or health care account. (For this article, we will call it a Flex Spending Account or FSA)
You get these strange forms from your employer’s human resources department about this FSA but you’ve never known what it is. An FSA is set up when you tell your employer how much money you would like deducted from your paycheck to be put in a special account that you will use to pay “qualified medical expenses.” (Many employers also allow families to use flex money on daycare expenses.) The best thing about this account, and the reason you must utilize it is that the money is deducted from your paycheck BEFORE you pay taxes on the money. Wait until you see how much you would save!
Flex Spending Accounts are governed by IRS rules that only allow it to be used for qualified medical expenses. The basic rule is that it will be qualified if it treats a specific medical condition. General health items aren’t allowed so just about everything you would purchase at a retail store without a prescription isn’t a qualified medical expense. Nearly any expense where a doctor was involved is allowed as long as it treats a specific medical condition. (Cosmetic surgery does not count unless treating a condition) If you like reading government documents, IRS Publication 502 for the list of allowed items.
So now that we know what it is, let’s talk money. How much money would you save on your medical expenses by using your FSA? First, let’s assume you are in a 28% federal tax bracket plus 4% state tax and FICA of about 7.5% for a total tax rate of about 40%. So let’s pretend that you pay $3,000 for a year of daycare and $1,000 for medical expenses so you elect to have $4,000 taken from a year’s worth of paychecks and deposited in to your Flex Spending Account.. Could you use an extra $1,600 per year? That’s what you will save by enrolling in a FSA. (There are a few tax related considerations that probably don’t apply to you but you should talk to your tax person to make sure)
There must be drawbacks, though, right? Yes, but they are small. First, that $4,000 is going to be deducted from your pay so you will see approximately $153 less per check. Next, the Flex Spending Account is a use it or lose it account. No carryovers allowed so, if at the end of the calendar year you haven’t used it all, it goes away so don’t overestimate what you will spend.
Now, you’re kicking yourself, right? Now that you understand what it is, you have no excuse. When the new calendar year comes around, enroll. Then, take your extra money and do something nice for yourself.