How to use health care to save on taxes: FSAs and HSAs
Part one of a three-part series on saving money and maximizing benefits during open enrollment
For many American workers, open enrollment season is more than a time to examine one’s 401(k) contribution or select a medical or dental plan. It can also mean a chance to sign up for plans that use health care costs and savings to reduce taxes. But millions miss their opportunity to enroll in these flexible spending accounts (FSAs) and health savings accounts (HSAs). As few as 37 percent of eligible taxpayers sign up for an FSA while fewer than 14 million HSAs existed last year. Still, FSA and HSA participation has grown over the past few years as more taxpayers find they can use their FSAs and HSAs to save money and make health care more affordable.
FSAs and HSAs let taxpayers pay less tax
When taxpayers contribute to their FSA or HSA, their tax savings equal to the marginal tax rate times the contribution amount. For example, if a taxpayer in the 25 percent bracket contributes $2,000, he saves $500 in taxes. Also, FSA and HSA contributions through employer-sponsored plans are not subject to payroll taxes. Earnings on HSA contributions are tax free as well, for a double benefit.
FSAs and HSAs reimburse taxpayers for their health care costs
FSA and HSA participants can use their tax-free funds to reimburse themselves for eligible medical expenses like copays, deductibles, eyeglasses and prescriptions. FSA holders can do this even if they haven’t yet placed the funds in the account. For example, a taxpayer may decide to contribute $50 to his FSA each month. If he pays $300 for glasses in February, he can use his FSA for the full expense even though the account balance would only be $100 by the end of the month.
HSA funds can also cover any unreimbursed medical costs at any time, as long as the expenses were incurred after the HSA first opened. For example, a family paid $2,500 in medical expenses out-of-pocket in 2012. They had an HSA at the time, but chose not to touch the money in their HSA so it could grow for future years. In 2015, they could still decide to take $2,500 from their HSA for the unreimbursed medical expenses they paid out-of-pocket in 2012.
HSAs help taxpayers save for future medical costs
HSA contributions can stay in the account indefinitely, rolling over year to year. This allows the account holder to save for future medical needs. Taxpayers can keep the funds in the account as long as they want – even after the year is over – and use them only when they need to.
But, FSAs are not for long-term savings. Taxpayers who do not use FSA funds by the end of the plan year or grace period generally lose them.
HSAs can make high-deductible health plans more affordable
The deductibles in high-deductible health plans (HDHPs) start at $1,300 for individual coverage or $2,600 for families. Out-of-pocket maximums can reach $6,550 for individuals or $13,100 for families. Taxpayers can make their HDHP more affordable by pairing it with an HSA. Not only will they be saving for their deductibles and other out-of-pocket expenses tax free, but any earnings on their account will also be tax free. The extra tax benefit could make high deductibles a little more affordable.
FSAs and HSAs have some requirements and limits
Taxpayers have access to an FSA if their employer provides one as a health care benefit. An employee funds the account primarily with contributions taken from their salary. Taxpayers with a high-deductible health plan (HDHP) may set up an HSA.
Taxpayers considering FSAs and HSAs should evaluate specific qualification requirements and contribution limits or talk to a trusted tax professional about their situation.
Open enrollment for health insurance is a time people can make changes and take advantage of the tax opportunities when these decisions are made.
Open enrollment for health insurance starts November 1.Taxpayers can avoid tax penalties in 2019 by obtaining health insurance for 2018.