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- If you haven’t yet decided how much money to put into your flexible spending account or health savings account next year, I’m here to help.
- Both of these accounts allow you to save for medical bills. The difference is that your FSA money is “use it or lose it” while your HSA money is rolled over from year to year.
- If you can maximize your HSA, that’s a good idea – the money goes in pre-tax and can be invested, allowing it to grow over time.
- If you are using an FSA, consider your past and future medical expenses: how much might you need in the coming year? If you’re not sure, just donate a small amount that could cover some out-of-pocket expenses.
- SmartAsset’s free tool can find a financial planner to help you take control of your money â€
Health Savings Accounts (HSA) and Flexible Spending Accounts (FSA) allow you to set aside pre-tax dollars for qualifying health expenses. While you can use these two accounts for the same types of expenses, the rules around them are quite different.
The biggest difference is that the FSA money must be used by the end of the year, while the HSA money is renewed from year to year.
Knowing this, how should your contributions to these accounts differ? How can you predict how much money should go into your FSA so that it doesn’t get lost at the end of the year? Let’s start by understanding how each account works.
The difference between HSAs and FSAs
FSA
FSAs are only available through your employer. These accounts allow you to set aside pre-tax dollars on each paycheck and choose how much you want to contribute during open enrollment. For 2021, the contribution limit is $ 2,750. These accounts are “pre-funded,†which means that the full amount of the contribution you choose for the year can be spent at the start of the year.
One of the biggest drawbacks of FSAs is the “use it or lose it†rule. This rule requires you to spend the money in your account by the end of the year or risk losing it. Some plans have a carry-over feature, which allows you to carry forward up to $ 550 of unused FSA dollars to the following year. If a deferral is not available, your employer may also grant a two and a half month grace period in the following year for more time to spend the FSA funds.
HSA
HSAs are only available to those enrolled in a qualifying High Deductible Health Plan (HDHP), whether through your employer or independent health insurance coverage.
Much like an FSA, you can set aside pre-tax dollars from each paycheck and choose how much you want to contribute during open enrollment. If you are self-employed or have independent health insurance, you can contribute a lump sum before April 15 or on a regular basis throughout the year. For 2021, the HSA contribution limit is $ 3,600 for individual coverage and $ 7,200 for family coverage. If you are 55 or over, you can make an additional “catch-up†contribution of $ 1,000. HSAs are not pre-funded, so funds are only available when contributions are deposited into your account.
As an incentive, many companies offer free HDHP to employees, and some companies pay an employer contribution to your HSA. One thing to note here is that the contribution limit for HSAs includes both the employer and employee contributions, so that employer contributions reduce the amount you can contribute to your HSA.
HSAs are a powerful tool that can supplement your retirement savings. First of all, they offer a triple tax advantage. With contributions to an HSA, funds are tax-free, growth is tax-free, and qualifying withdrawals are tax-free as well. Like a 401 (k), you can take the account with you when you leave a business or change health insurance plans. Since unused funds can be rolled over from year to year, you can let your savings accumulate for future use (like medical bills in retirement). You can also invest HSA dollars, similar to a 401 (k).
Apart from traditional HSAs and FSAs, there is a third option available from some employers. A “limited use” FSA is a special type of FSA that may be available if you are enrolled in an HDHP with an HSA. If this account is available, you can contribute to both an HSA and a limited-use FSA.
Initially, you can only use limited-use ASPs to pay for dental and vision expenses. In some cases, you can use these accounts for regular, eligible medical expenses after you reach your medical insurance deductible. Much like a standard FSA, the maximum employee contribution for 2021 is $ 2,750. It is also subject to the “use it or lose it†rule.
How much should you contribute to your HSA?
You might be cash strapped and not sure how to prioritize an HSA with other savings goals. In this case, make sure you take advantage of your business 401 (k) match first, then create an emergency fund and pay off high interest debts (like credit cards and personal loans). If you know you will have medical bills throughout the year, at least contribute the estimated amount to your HSA. This way, you get a tax deduction for any medical expenses you would incur anyway.
If you are eligible to contribute to an HSA and can afford to maximize it, I highly recommend it! Better yet, if you can afford to pay the medical bills out of pocket, let your HSA dollars pile up and invest them for future use. If you are somewhere between contributing what you will spend for the year and maximum, consider contributing enough to cover your deductible, then work until you maintain a balance that will cover the maximum out of your pocket.
If your business offers a limited-use FSA in addition to an HSA, fund your HSA first. Once you’ve reached the maximum of your HSA, think about what dental and vision expenses you anticipate for the year ahead. If you know you have important dental or vision work ahead, these accounts are worth it. Contribute what you plan to spend (up to the contribution limit). If you’re not sure how much you’ll spend on dental and vision care costs in the coming year, donate the $ 550 you can carry forward or ignore this account altogether.
How much should you contribute to your FSA?
If you don’t have an HSA-eligible HDHP option, or if you choose not to enroll in HDHP, an FSA is your only option. When considering how much to contribute to an ASP, think about your past and future medical expenses. Bring only what you plan to use for the year. Remember that you can use this account for a multitude of eligible medical expenses, including dental and vision expenses.
If you’re only going to the doctor for your annual check-up and you’re otherwise healthy – or you’re not sure what to use – only contribute the $ 550 you can carry forward. Another consideration is your job stability. Unlike HSAs, you cannot take your FSA funds with you when you change jobs. If you plan to move to another business in the next year or so, make sure you can use what you’ve contributed to your FSA before you leave your current business.
One final note: The CARES Act, passed in March 2020, allows you to use funds from the HSA and FSA to purchase non-prescription over-the-counter drugs and menstrual care products. These provisions are retroactive to January 1, 2020 and do not expire unless there are future legislative changes. If you have more than $ 550 in your FSA that you need to spend by the deadline, this is a great opportunity to refuel!
HSAs and FSAs are great tools that can lower your taxes while saving for future medical expenses. It is important to understand how these accounts work in order to determine how much to contribute for you and your family.
Chloe A. Moore, CFP, is the founder of Financial Staples, a virtual financial planning firm based in Atlanta, Georgia, serving clients nationwide.
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