As the year draws to a close, many employees with a flexible spending account (FSA) for medical expenses will rush to the doctor or dentist to use up any remaining funds. For the uninitiated, FSAs allow employees to set aside pre-tax money to pay for qualified medical expenses, but at the end of the plan year—or two-and-a-half months into the following year, if the employer offers a grace period for FSAs—the employee forfeits any money left in the account. However, money in health savings accounts (HSAs) carries over from year to year.
"Typically, what people are going to do is schedule any medical procedures that they can, particularly elective procedures," says Matt Thomas, president of WorkSmart Systems, an Indianapolis-based professional employer organization. "A big one would be things that have to do with vision: if they need to get glasses or contacts, or if they're interested in getting a LASIK procedure."
Here's a look at ways to use up FSA dollars and how FSAs will change next year:
Utilizing FSA money. Jeremy Miller, president and founder of FSAstore.com, a New York-based online shop dedicated to selling FSA-eligible products, says now is a good time to check FSA balances and pending transactions before creating a strategy for how to spend what's left.
But before you rush out to the drugstore and load up your cart, Tami Simon, managing director of knowledge resources for Buck Consultants, recommends reading your employer's summary plan description so you know what is and isn't eligible for reimbursement. "Eligible expenses are those things that are specifically linked to medical care—things like a blood pressure monitor, a blood sugar test kit and test strips, a breast pump for lactating mothers," she says. (Lactation supplies became eligible for FSA reimbursement last year.)
Items purchased for preventative care, such as a gym membership or an electric toothbrush, or for cosmetic purposes, including cologne and tooth-whitening strips, are generally not reimbursable. Over-the-counter (OTC) medications previously qualified as FSA-eligible expenses, but as of Jan. 1, 2011, the IRS excludes OTC medications (except for insulin) unless the patient gets a prescription from his or her doctor.
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A partial list of reimbursable items includes:
• Inpatient treatment for alcohol addiction and, in some cases, transportation to and from Alcoholics Anonymous meetings
• Home improvements to accommodate a home to the disabled condition of the employee, a spouse, or dependent, such as constructing exit ramps or adding grab bars
• Eye exams, eye surgery, and items such as contact lenses, contact solution, prescription sunglasses, and eyeglasses
• Fertility treatments such as in vitro fertilization, temporary storage of eggs or sperm, and vasectomy reversal
• Prescription medications, including birth control pills
As Simon adds, "[With] any expense that is reimbursed through a health FSA, you should be prepared to prove it and describe why you needed to have that expense."
Changes to FSAs. For 2012, there is no federally mandated limit on FSA funds, although most employers cap FSAs around $2,000 to $5,000. To help fund healthcare reform, changes to FSAs in 2013 will limit the potential tax savings by placing a $2,500 per-year cap on healthcare FSAs. (Dependent care FSAs are not subject to this cap, but HSAs have their own caps.)
The limit applies to plan years starting January 1, so employers with FSAs based on the fiscal year can choose to keep the higher reimbursement limit in effect through the end of the 2012-2013 plan year.
Since the $2,500 cap is per person, couples in which both partners have FSAs through an employer would have $5,000 of pre-tax money to spend on medical expenses. "The FSA can be used for you, your spouse, dependent kids, grandparents, or anyone who is dependent," explains Miller.
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According to Miller, the average person puts $1,500 into an FSA, so those people wouldn't be affected by the change, but about 18 percent of heavy FSA users could feel the pinch next year. Among that group are people who use FSAs in conjunction with a high-deductible health plan.
Beyond FSAs, the IRS allows taxpayers who itemize to deduct medical expenses that exceed 7.5 percent of their income. "Anything reimbursed by [an FSA] could not also be deducted," explains Thomas. However, if you had enough medical expenses that weren't reimbursed by your FSA, you might be able to deduct those expenses. In 2013, that threshold will rise to 10 percent.
If you're used to itemizing or maxing out your FSA, these changes could affect how you pay for medical expenses going forward. "Compared to prior years, someone with the same income will need to have more unreimbursed medical expenses to be able to take advantage of the deduction," says Thomas. "In theory, the cap might feed into this for someone who is used to paying $3,500 out of flex and now has to pay that $1,000 on an after tax basis and claim a deduction if available, for example. This only affects those who itemize."