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A couple years ago, my employer began offering a FSA (Flexible Spending Arrangements) for healthcare expenses. Once they began offering this product, I had to do some research to decide whether it would be a good deal. I initially couldn't decide, because I didn't want money just sitting around not growing!
While researching the FSA, I stumbled upon the HSA (Health Savings Account). I discovered that the HSA is a much better product. Despite this discovery, I still found that investing in a FSA was worth it for the Summit of Coin family (that may change toward the end of 2018).
What's a Health FSA?
- Program designed to reimburse for medical care expenses.
- Covers expenses for the policy holder, spouse of the policy holder and any dependents of the policy holder.
- Contributions are tax deductible.
- Employee contributions are limited to $2,650 in 2018.
- Employer contributions are not limited.
- Only $500 of the contributions can be carried over to the next year.
- Must use all other contributions or that money will be forfeited.
What's a HSA?
- A HSA is a tax-exempt trust.
- Contribution limit of $3,450 for a single person and $6,990 for a family.
- Contributions are tax deductible.
- Contributions remain in the account until you use them.
- Earnings from interest and dividends are tax free.
- Distributions are tax free as long as the money is used for qualifying medical expenses.
- A HSA stays with you if you change jobs.
- Must have a high deductible health insurance plan to qualify for a HSA.
- The deductible must be equal to or higher than the numbers listed below:
- $1,350 for a single person with a max out of pocket of $6,650.
- $2,700 for a family with a max out of pocket of $13,300.
Based on the data listed above, the HSA is better than the FSA for many reasons:
- No "use it or lose it" rule for the HSA (must use all but $500 of the FSA in a year).
- You can invest the money in an HSA and earn interest on the contributions.
- The money in a FSA just sits there not earning anything.
- You can open up an HSA with any bank or investment company that offers IRAs.
- The HSA is not connected to your employer.
- The contribution limit for a HSA is higher than a FSA.
So - - - Why Do We Use a FSA?
The data above shows that a HSA is overwhelmingly the better choice of health savings products. So, why in the world would I chose a FSA? Well, the simple answer: my employer does not offer the HSA as a benefit. Therefore, I have invested in a FSA, because of the tax-deductible medical savings.
The tax-deducible savings basically allows us to earn 25% on every dollar put in the account, because we are in the 25% marginal tax bracket. Look at last year, the stock market earned around 20% and that was considered a great year! If 20% is a great year for the stock market, then automatically earning 25% on your money is a no-brainer!
The real danger of the FSA is that you must use all of the money except for $500, therefore I try to estimate our medical expenses for a given year and invest that much plus $500 (might as well give yourself a $500 buffer just in case something comes up during the year).
That's like this year, I estimated that I would need $900 for medical expenses plus the $500 buffer and I elected to put $1,400 in the FSA this year. However, I slightly underestimated our expenses (wisdom teeth removal, filling and birth of a child). Thus, we paid out of pocket for wisdom teeth removal and the filling. We are saving all of the $1,400 for the medical expenses associated with having a child.
What Changes Could I Make?
I'm not going to look back at any of the decisions that we made and regret them, however, I will definitely look at my deductible more closely this year. If my deductible allows me to qualify for a HSA, then I will open up my own HSA account separate from my employer and close the FSA.
If my memory serves me right, I believe my wife had the option to invest in a HSA. However, we never invested in or opened up an HSA for my wife, because we were using the FSA to pay for both of our medical expenses. According to the tax code and this article by Harry Sit on financialbuff.com, we are not allowed use both a FSA and a HSA.
"What you can’t do is to contribute to an HSA and have a general purpose health care FSA for overlapping months, and if you are married, your spouse can’t have a general purpose FSA at the same time either, regardless whether the two of you are on the same health plan or whether you actually request reimbursement from your spouse’s FSA. Just the fact that you are eligible to have your medical expenses reimbursed from your spouse’s FSA disqualifies you from contributing to an HSA."
There you go, since my wife is eligible to have her medical expenses reimbursed by my FSA, we cannot open up a HSA in her name. However, this gives me a thought. Could I open up a HSA for my wife on September 1st of this year?
Due to my teaching profession, our medical insurance runs from September 1 to August 31 each year. Therefore, I could stop contributing to my FSA and open up a HSA for my wife on September 1st. This would allow us to invest $6,990 (family max contribution since our kids are insured thru my wife's work) towards medical expenses and we won't be required to use any of it in the course of a year.
This is a much better option that the FSA and I would be able to use the funds from my wife's HSA towards my medical expenses.
Our Options on September 1st:
- Keep FSA and contribute up to $2,650 in a given year. With this option, my wife would not be able to open up a HSA and everyone in the family can use the funds.
- Cancel the FSA and open up a HSA for my wife and kids. This would allow us to contribute up to $6,990 in 2018 and anyone in the family can use the funds.
Option 2 sounds like the best option come September 1st. We have been using my FSA account for years. It looks like we have been missing out on a lot of savings for the last three years. In the end, we all make mistakes. I didn't know enough about the programs and writing this article helped me discover the errors that were made. The important thing is that we caught the error and will be investing towards my wife's HSA starting in September (pending a meeting with a financial professional of course).
What are your thoughts? Do you see any pitfalls in our plans come September 1st?
Now, I have made a lot of mistakes throughout my life dealing with finances. From digging myself a large debt hole to not maxing out all retirement accounts, but one of the biggest mistakes that I have made is not understanding the 457 deferred compensation plan.