Brokers often ask OptumHealth how they can help their small- and mid-sized clients get more bang for the buck from their high-deductible health plans paired with health savings accounts (HSAs). One solution is the limited-purpose health care flexible spending account (FSA).
These accounts allow employees to set aside pre-tax dollars to pay for eligible dental and vision care expenses, which can quickly add up for many families. The accounts are "limited purpose" because only dental and vision expenses can be paid from them. Remember that employees enrolled in a HSA-qualifying plan are not eligible to enroll in a traditional health care FSA.
The limited-purpose FSA helps employees take full advantage of their HSAs. They can use HSA funds to pay or reimburse themselves for qualified medical expenses, such as expenses under their deductibles or the costs of coinsurance, while using FSA monies to cover contact lens, dental and orthodontia expenses.
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If employees are saving for retirement health care expenses with their HSAs, signing up for a limited-purpose FSA lets them set aside pre-tax money for some of today's eligible expenses and allowing their HSA savings to grow.
Another reason to suggest that your clients consider limited-purpose FSAs now: new restrictions on how much pre-tax salary employees can contribute to FSAs are on the horizon. Current tax law does not set a dollar limit on FSA contributions (although many employers impose their own limits). Beginning January 1, 2013, however, employee contributions to health care FSAs, including limited-purpose FSAs, will be capped at $2,500 per year.
Dental and vision expenses add up
Let's consider how Marie, a hypothetical employee at an advertising agency, could combine her HSA and FSA. She has a monthly payment plan for her son's braces, so she knows how much braces will cost her over the next few years. She also checks with her optometrist to find out how much her new glasses will cost. She estimates that she will spend about $2,350 in glasses and orthodontia next year and elects to have that amount put into her limited-purpose FSA.
Marie knows there are a few conditions to using her FSA. For instance, she can't change the amount she contributes to her FSA without what the Internal Revenue Service calls a "qualifying event". She also has to use all of her FSA funds before a "use it or lose it" date set by her health plan. (Note how this differs from her HSA – she can change HSA contributions at any time, and can save her HSA funds to use whenever she needs, even if she changes employers).
Marie will easily use all the money in her limited-purpose FSA. But even if she forfeits a few dollars after the "use it or lose it" date, she will likely save much more in taxes. In fact, she might be able to save as much as $884 in taxes next year.
Here's the calculation: Let's assume Marie is in the 25 percent federal tax bracket and 5 percent state tax bracket. Assume also she pays FICA taxes of 7.65 percent. At those rates, her $2,350 contribution which she deposits in her FSA will yield $587.50 in federal tax savings, $117.50 in state tax savings and $179.78 in FICA tax savings. Added up, she has shaved $884.18 off her tax bill.
Of course, this is just a hypothetical example; actual costs and tax savings will depend on particular circumstances. With just over a year before the contribution limits take effect, employers should take a hard look at limited purpose FSAs.
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