While your employer might provide you the benefits of having a Health Savings Account (HSA) or a Flexible Spending Account (FSA), it is important to know the differences and how they might affect your tax returns. Read on to see how these common plans can affect your tax situation.
HSAs and FSAs are both set up to help you save taxes on money that is used for medical expenses. Both plans are elective, and use pretax dollars (money deducted from your paycheck before it is subject to income tax). Once the plan is set up, you can use the funds to pay for medical expenses, as long as these expenses are qualified. If you use funds from an HSA or FSA to pay qualified medical expenses, you cannot double count these deductions on your tax return. You can choose to have an HSA or an FSA, but not both at the same time. Although there are some similarities between the plans, there are also differences between these accounts that you should take into consideration before making a decision.
An HSA is like a retirement account for medical expenses that requires you to be signed up for a high deductible health plan (HDHP). If you qualify for an HSA, you and/or your employer can contribute pretax money up to $3,500 for an individual and $7,000 for family in 2019. If you are 55 years or older, you can contribute up to $4,500 for an individual and $8,000 for a family. If you put in more money than your annual limit, you are subject to a 6% tax penalty. If you do not use up all the money that you and/or your employer contribute, it accumulates and rolls over from year to year. In addition, your account grows tax free. Nonetheless, if you use your HSA to pay for expenses other than qualifying medical expenses, you might be penalized unless you qualify for certain exceptions.
Similar to an HSA, an FSA is an account where you and/or your employer can contribute tax free money from your salary for certain medical or dependent expenses. From a tax standpoint, you do not need to file anything with your tax return each year, and you do not have to have a HDHP. However, it is necessary to decide how much money you would like to contribute to your FSA at the beginning of the year so that your employer can deduct it from your paycheck evenly throughout the year. You may contribute up to $2,700 to your medical expense related Health FSA in 2019. FSAs have important, additional limitations. Amounts withdrawn from an FSA must be used to reimburse medical care expenses. Any excess cash in the account at the end of the year not used for expenses incurred during that year will be forfeited. This is known as the “use-it or lose-it” rule. However, the IRS has given employers permission to modify FSAs in one of two ways. Employers may amend their FSA plans to extend the deadline for up to 2 1/2 months after the end of the plan year. Or employers may allow up to a $500 carryover into the next year of any unused FSA funds. Fortunately, any use-it or lose-it carryover into the next tax year, under either the 2 1/2 month extension or the $500 rule, does not count toward the annual cap on health FSA contributions for that next year.
If you have any questions or concerns related to these plans or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200. We are more than happy to help.