Many employees are looking for ways to maximize the dollars they spend on healthcare. Flexible Spending Accounts (FSA) are tax-advantaged accounts that employers can sponsor which allow employees to set aside tax-free money to spend on health costs throughout the year. While FSAs do present some risk, they can be a good way to round out a company’s employee benefit offerings.
Lau & Lau Associates works with several FSA administrators that assist with setup and administration of the plan. Contact us if you are interested in offering an FSA to your employees.
Two common FSA accounts are Medical Reimbursement Accounts (MRA) and Dependent Care Accounts (DCA). Note that MRAs are often called “health FSAs.”
Both accounts allow employees to put aside tax-free money from payroll which can then be used to reimburse them for the cost of qualified medical expenses. Limits on the amount of money that can be put aside with an MRA are updated each year by the IRS. The DCA contribution limit is $5,000 per family (this means that spouses filing jointly are limited to $5,000 total even both spouses’ employers offer a DCA). Employers are allowed to choose lower limits if they wish to do so. Employers may also contribute to employee MRAs up to $500 or on a dollar-for-dollar match of employee contributions up to any amount, as long as combined employee and employer contributions do not exceed the contribution limit for the year.
While different FSA administrators may have different qualified expense requirements, this list of FSA eligible expenses provides an idea of what is covered under an MRA. Many administrators will also provide a debit card so that members can present it for payment upfront instead of having to be reimbursed.
A DCA can reimburse employees for the cost of eligible dependent care while the employee and their spouse are working. The care must be for a qualified individual at a qualified care site. Qualified individuals include an employee’s dependent children until their 13th birthday, and an employee’s spouse or dependent relative that is physically or mentally incapable of self-care and lives with the employee for more than half the year. Qualified care sites include licensed daycares and nurseries, unlicensed relative care, pre-schools, licensed elderly daycares, in-home care, and summer day camps and school-based programs.
Employees should consider the following when deciding whether or not to utilize an FSA.
- Employees will be required to substantiate reimbursements by providing proof, typically in the form of a receipt.
- All funds contributed are subject to the “use it or lose it” rule. In other words, any funds remaining in the FSA at the end of the year are forfeited to the employer. Employers are allowed to mitigate some of this liability for MRAs by allowing a limited carryover or by a allowing grace period (during which employees can spend FSA dollars from one year on claims incurred during the first two and a half months of the next year). An employer is only allowed to choose one, but is not obligated to choose either.
- Since FSAs are established under Section 125 of the IRS code, they are also subject to qualifying event rules. Once an employee has made their elections for the year under an FSA, they cannot change those elections mid-year unless they have a qualifying event.
Employers should consider the following when deciding whether or not to offer their employees an FSA.
- MRAs are subject to the “Uniform Coverage Rule.” In other words, an employee’s maximum reimbursement amount (their election plus any employer contribution) must be available from the beginning of the plan year, even if it exceeds the employee’s current contributions. Employers should plan ahead for possible claims that would be reimbursed without adequate employee funding. As long as an employee stays employed for the entire plan year, they will make up any reimbursed amounts by the end of the plan year. Note that DCAs do not work this way. Employees may only use DCA funds for reimbursement if they have already contributed those funds to the account.
- Employers must also consider how they structure eligibility for their FSA. Both the Affordable Care Act and rules around non-discrimination testing affect who must be eligible for an FSA and how long they are able to wait before they are eligible to participate.
- There are special rules on amounts forfeited by FSA participants under the “use it or lose it” rule. These rules necessitate a review of forfeitures each plan year.
- COBRA applies to MRAs, but only under certain circumstances that involve a calculation to determine whether or not an MRA is underspent or overspent.
- FSAs are subject to non-discrimination testing, which should be done yearly.