It’s straightforward to get confused when deciphering the differences between Flexible Spending Accounts (FSA) and Healthcare Saving Accounts (HSA). While both accounts can contribute tax-free to save for medical costs, they also have vital, unique characteristics that are important to understand to get the most bang for your buck. In addition, let’s unwrap the variances in an HSA and a Healthcare Reimbursement Arrangement (HRA) to get the most precise picture of this often-foggy topic.
FSA vs. HSA
FSAs and HSAs allow people to set aside funds for health-related costs, also known as “qualified expenses.” Qualified expenses can include deductibles, co-pays, and monthly prescription costs. Some employers choose to contribute to these accounts. Both types of accounts have tax benefits, too, although the benefits are not the same.
The first key difference between FSAs and HSAs is qualification. Employees are only eligible for an HSA if they have a high-deductible healthcare plan, do not qualify for Medicare, and are not claimed as dependent on someone else’s tax return. It’s also important to remember that not all high-deductible plans qualify for an HSA, so an employee should check with the insurer.
Second, HSAs and FSAs have different yearly contribution limits. Employees can usually contribute more to an HSA and change the amount they’re contributing at any time, whereas an FSA can only be adjusted during the open enrollment period. A significant benefit of an FSA is that an employee has complete access to their annual election at any point in the year, even if they have not contributed that amount yet. An HSA only provides access to what’s been deposited. If an employee happens to switch jobs, the HSA can follow them unchanged. FSAs will end with employment unless there’s a continuation with COBRA.
The critical difference is rollover – or what happens to the money at the end of the year if not all used. With an HSA, all unused funds will roll over into the next year, meaning an HSA can grow tax-free and accumulate to help with retirement. Conversely, an FSA typically has the “use it or lose it” rule, and the money left gets forfeited. This difference is because FSAs are employer-owned, and HSAs belong solely to the employee. Due to this, an FSA does not work well as a long-term savings plan.
Another variance is that FSAs can use after-tax dollars to pay for various activities, such as childcare expenses, but an HSA must be used for medical costs. If HSA funds are used for something other than medical expenses before the owner is 65, taxes will be owed on the withdrawal. Using the funds in an HSA to pay for qualified expenses is tax-free.
HSA vs. HRA
Like an FSA, an HRA is employer-owned, so when an employee no longer works for that employer, the funds in an HRA are no longer accessible as opposed to an HSA and FSA, which the employee funds; an HRA is 100% funded by the employer. It is free money provided by the employer to offset the cost of health-related expenses. Since the employer provides the funds, they also set the rules for which the expenses are eligible for reimbursement. The employer also sees all the tax benefits and reductions. While an HSA has an annual contribution limit, an HRA contribution is only limited by what the employer wants to provide.
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