Fall has arrived, and that means open enrollment is just right around the corner. For many employees, this provides the window of opportunity to sign up for either an HSA or FSA in order to set aside pre-tax dollars for your out-of-pocket healthcare costs. Not quite sure what the difference is between these 2 types of accounts? Well, you are not alone. In a recent Fidelity survey, two-thirds of those surveyed said they simply do not understand how an HSA works and “a full 73 percent of respondents said an HSA is pretty much the same thing as a health FSA or were unsure, and the ‘use it or lose it’ provision of FSAs was one of the most commonly misunderstood differences between the account types.”
So what are the key differences between the HSA versus an FSA? HSAs are still a fairly new concept since they have only been around since 2003. HSA stands for a Health Savings Account, which is paired with a high-deductible health plan (HDHP). The HDHP must have a deductible of at least $1,250 if you have single coverage or a minimum of $2,500 if you have family coverage. You and/or your employer can fund the HSA up to a maximum contribution limit of $3,250 for single coverage or up to $6,450 for family coverage either through payroll deduction or just by simply writing a check.
Whatever funds don’t get used will roll over and can even be invested in mutual funds in some HSA plans, which then grow tax-free for future qualified healthcare expenses. You own the account so even if you leave your employer, you still have access to the money in the account for future use towards medical expenses. You can actually take withdrawals from the account for any use, but any distribution that is not for qualified medical expenses would be subject to taxes, and if you are under age 65, there would also be a 20% penalty.
FSA is the abbreviation for a Flexible Spending Account, which have been available since the 1970s. FSAs do not require any specific type of health insurance to be tied to, but must be funded through payroll deduction. You can only contribute up to $2,500 to the account each year, and the number one reason most people are hesitant to put money aside in an FSA is that it is “use it or lose it.”
Almost everyone has some type of out-of-pocket medical costs each year that would be considered a qualified expense for either an HSA or FSA. Some examples of a qualified medical expense include prescription drugs, eyeglasses, braces, lab tests, doctor or dentist visits, etc. If you are enrolling in a PPO or low-deductible health plan for next year, try to estimate what out-of-pocket costs you could face by adding up any planned dental work, your annual supply of contact lenses, and any other typical costs you’ve had in previous years. Once you have come up with your estimated out-of-pocket costs, this gives you a good idea of how much (or little) to set aside in your FSA.
If you are electing a HDHP during this year’s open enrollment, an HSA may be a better option, since there is NO worry about over-funding the account as any unused funds will simply roll over for availability for future years. In fact, I’ve had an HSA for the past few years, and I don’t ever touch the money I have accrued in my account. Instead, I let the money roll over year after year with a goal of having a hefty balance in my HSA by the time I am ready to retire, when healthcare expenses may be much more if my health starts to fail later in life.
Both types of plans can save you a lot of money on taxes. The HSA can also be a way to save for future health care costs but requires a high-deductible health plan. The key is to figure out which one is going to work better for you.