In good news for consumers, last month the US Department of Treasury and the Internal Revenue Service (IRS) announced a change to the “use-or-lose” rule for Health Flexible Spending Arrangements — also known as Flexible Spending Accounts or FSAs. (Read the full notice here.)
What is a Health Flexible Spending Account (FSA)?
When considering which benefits to offer its workforce, an employer may choose to offer the option of a Flexible Spending Account (FSA).
A Health FSA is an account into which the employee deposits money directly from his/her paycheck; money in the FSA is then used to pay for qualified medical expenses that are not covered by the employee’s health insurance policy, e.g., deductibles, co-pays, etc. [Note – there can also be an FSA for dependent and child care expenses.]
FSAs are tax-advantageous because money goes into the account before taxes are calculated on the employee’s earnings. Taxable income goes down and spendable income goes up!
“Use or Lose”
Under the “use-or-lose” rule any money left in a person’s FSA at the end of the year is forfeited and goes back to the employer. This has made FSAs unpopular for several reasons:
- The decision of how much to contribute must be made at the start of the year. But most people have trouble accurately anticipating their medical expenses that far in advance.
- People often end up making unnecessary purchases at the end of a year just to spend their FSA money.
- Those employees who most need to save money are typically also the least able to afford to lose money at the end of the year.
FSA Grace Period
One helpful provision is the allowance of a grace period of 2 months and 15 days during which FSA money can be used for qualified expenses into the next year.
The End of “Use or Lose”
On October 31, 2013, the end of “Use or Lose” was announced.
Starting in the current plan year, employers now have the option of allowing employees to carry over up to $500 in unused FSA money into the next plan year. Furthermore, the amount carried over is in addition to the maximum annual contribution allowed ($2500 in 2013, indexed for inflation in future years).
But if a plan allows the carryover, then it cannot allow the grace period — it’s one or the other.
FSAs Will Be More Attractive
In an interesting and relevant statistic, the Treasury Department says that of the approximately 25% of FSA account holders who have in the past forfeited unused money at the end of a year, the dollar amount of most forfeitures is under $500.
So this new carryover rule should make FSAs more attractive. And anything that makes it easier to afford the costs of health care is a good thing!
If you are an employer considering benefits for your employees, let us know if we can answer any questions about FSAs.