Many employers offer a Flexible Spending Account (FSA) option to help employees pay for certain out-of-pocket medical and health care costs, dependent care costs — including summer day camps for children under 13— and qualified expenses related to certain life events. Also known as flexible spending arrangements, employees elect to enroll in this benefit and get tax advantages on the money they deposit into the FSA.

What is a flexible spending account?

A Flexible Spending Account (FSA) is an employee benefit that allows you to reduce your salary by setting aside money on a pre-tax basis into an account that you can use to pay for eligible out-of-pocket medical and health care-related costs, dependent care expenses and other qualified expenses. Not all employers offer FSAs, but many do.

Some expenses include:

• Eyeglasses, contact lenses and dental care

• Medical deductibles

• Co-pays for doctor’s visits and prescription medication

Your employer’s FSA plan policy should have a list of qualified expenses — when you enroll, you should receive a list of what you can and can’t spend your FSA money on. Qualifying expenses can change — for example, in 2010 the IRS changed the rules on how to use funds for over-the-counter medications. Review your employer’s plan thoroughly and, if you ever have questions about your FSA coverage, speak with your benefits manager to better understand the details of your employer’s FSA plan.

Enrollment in an FSA is optional — employees can elect to take or not take the benefit. When you enroll, you determine how much you want to set aside in the account. Then, your employer deducts that amount from your paycheck in allotments spaced evenly throughout the year. In some cases, you can have your FSA deductions taken out over fewer paychecks.

The money you pay into the account is all on pre-tax basis and isn’t taxed once in the account — since you never actually receive that money yourself, you can’t be taxed on it.

When you elect to enroll in a FSA through your employer, you sign up for one calendar year. Re-enrollment for a new year is not automatic — so you have to re-enroll every year.

• IRS FSAs:
  www.irs.gov/publications/p969/ar02.html#en_US_2010_publink1000204174
• FSA Feds How does a FSA Work: www.fsafeds.com/fsafeds/summaryofbenefits.asp#HowFSAWorks

When you put aside funds, you have the calendar year to incur qualified expenses. The calendar year varies depending on your employer — the end-of-year deadline typically falls on March 31 of the following year, but not always. You must use the money in the calendar year or submit the claims by the annual deadline, or the money remaining in the account goes back to your company — this is called the use or lose it rule.

• FED FSA Use or Lose rule:
  shps.http.internapcdn.net/shps/use_or_lose.html
• FED FSA Use or Lose FAQ:
  www.fsafeds.com/fsafeds/summaryofbenefits.asp#UseItOrLoseIt

When setting up a FSA, it’s important to look at your budget — make an estimate of what your out-of-pocket medical, health or other costs might be based on last year’s budget and any expenses you anticipate — and set the right amount. If you had an FSA and found yourself with extra funds at the end of the year, consider reducing your contribution. If you used all your funds, you may want to contribute more. Try not to over-fund your FSA — if you put too much money in, you may lose that money at the end of the year.

What are the types of flexible spending accounts?

There are two primary types of Flexible Spending Accounts (FSA) that most people qualify for.

Health Care FSA

A Health Care FSA (HCFSA) is the most common type of health care FSA and is available to most enrollees. You can use a HCFSA to pay for qualified medical costs and health care expenses that you pay out-of-pocket, anything not covered by your employee health benefit plan. You cannot use a HCFSA to pay for insurance premiums.

•   HCFSA: www.fsafeds.com/fsafeds/summaryofbenefits.asp#WhatIsAHCFSA

Dependent Care FSA

A Dependent Care FSA (DCFSA) is used to pay for eligible dependent care expenses for anyone you claim as a dependent on your federal income tax return. You can use a DCFSA for child care expenses for children under 13 or adult day care for a dependent adult who is incapable of self-care. DCFSAs can also be used to cover summer day camp fees for children under 13, but cannot be used to cover residential summer camps or long-term care for elderly dependents. You must be able to demonstrate that the summer camp was used to cover the care of the dependent while the taxpayer is at work or in school.

Before enrolling in a DCFSA, check with your employer to determine what kind of expenses the plan covers.

• DCFSA: www.fsafeds.com/fsafeds/summaryofbenefits.asp#DCFSA

You can participate in more than one FSA — for example, both health and dependent care FSAs — but you cannot transfer funds between FSAs.

How do I use my FSA funds?

There are a few ways to use funds from a FSA — and the process varies depending on your employer’s plan. Typically, you pay for qualified expenses and then submit a claim for reimbursement. When you do that, you have to keep your receipts, so you can prove the expense. The time period for reimbursement and minimum reimbursement amounts can vary by employer, depending on your specific FSA plan.

Some employers require you to pay for the expenses out-of-pocket, save receipts and submit expense claims. This allows the employer to make sure your FSA contributions are used correctly — only for qualified medical or dependent care expenses you incurred during the period of coverage. You can receive reimbursements for up the amount that you contributed year-to-date. The FSA cannot give you money for future or projected expenses.

In order to receive your reimbursements, you have to use your FSA funds and claim them before the deadline expires. If you have any unclaimed expenses at the end of the year, you’ll forfeit that money to your employer under the use or lose it rule.

In some cases when you submit a claim, your employer may require you to provide a written statement from the third party to whom you made a payment that states what the expense was for and the total amount. You sometimes also need to provide a written statement that the expense was not paid or reimbursed under another health plan (like health insurance).

Many employers provide FSA enrollees with debit cards, credit cards or stored value cards to use to pay for things directly from the FSA account. This allows you to keep your FSA and bank account transactions separate. In some cases, you may not have to provide additional claim information to the FSA when you use the card — but the specific policies depend on your employer’s plan.

In general, you want to check with your employer on the specific details of the FSA plan offered, just to make sure you understand how you can use the money to make qualified payments and what the claim or reimbursement process is.

How can I change my contribution amount?

When you enroll or re-enroll in a FSA during the open enrollment period, you can change how much your employer contributes to your FSA. At any other time of the year, you can only change your contribution if you go through a certain Qualifying Life Event (QLE).

Eligible QLEs include:

• Change in your legal marital status

• If you, your spouse or a dependent has a change in employment status that affects eligibility for health insurance benefits

• Change in your number of tax dependents

• Birth or adoption of a child or placement for adoption

• Death of a spouse or dependent

• Change in a dependent's eligibility

• Change in the cost or coverage of child or dependent care

If your status changes on any of the above and you have a HCFSA or DCFSA, talk with your benefits manager about adjusting your contribution.

• IRS general tax-related qualifying life events:
  www.irs.gov/individuals/article/0,,id=121557,00.html

Words to know

Unsure about something you read? Many of the financial terms you came across in this article are defined in our financial glossary. A-Z Glossary

Links we like

Here are a few online resources you may find useful:

• IRS FSAs:
  www.irs.gov/publications/p969/ar02.html#en_US_2010_publink1000204174
  
• FSA Feds How does a FSA Work:
  www.fsafeds.com/fsafeds/summaryofbenefits.asp#HowFSAWorks
• FED FSA Use or Lose FAQ:
  www.fsafeds.com/fsafeds/summaryofbenefits.asp#UseItOrLoseIt