The world of health insurance can be VERY confusing, especially if you are given the option of choosing between different plans. If you have the option of choosing between an HSA and FSA – both are tax-advantaged accounts – it’s important to understand the difference between the two.
What are HSAs and FSAs? Both are tools that can help you save for health care costs and also take advantage of tax benefits.
Health Savings Accounts are only available to people who have a qualified high-deductible health plan or HDHP. You can use funds in your HSA to pay for qualified medical expenses tax-free. You can also choose to invest your money while in your account to increase its growth and roll money over year to year, meaning you don’t have to spend it all within each insured year. Some employers offer an HSA as part of a benefits package; however, you can always open up your own account through Litchfield Bancorp.
How do I contribute tax-free money to my HSA? You make contributions directly from the gross pay of your paycheck so you avoid paying any taxes on qualified medical expenses. Some employers also offer an employee match which can help you build your Health Savings Account funds quicker.
The government typically sets limits on minimum deductibles to qualify for an HSA as well as the annual maximum out of pocket costs to be a High Deductible Health Plan. There are also annual contribution limits on Health Savings Accounts. For 2021, the IRS has set the annual limit on deductible contributions is $3,600 for individuals with self-only coverage under an HDHP (a $50 increase from 2020) and $7,200 for family coverage (a $100 increase from 2020).
Having an HDHP can mean paying more money out of pocket, but your premiums will most likely be lower than other plan types. So if you don’t go to the doctor much or take prescriptions regularly, a plan with a higher deductible and lower premiums may be the best option. Money that you save on paying premiums can be invested into your Health Savings Account for future medical needs.
Flexible Spending Accounts also allow you to save for qualified medical expenses without paying taxes on your contributions, however, you can only obtain an FSA through an employee benefits package. Unlike an HSA, you can’t invest it and you usually can’t roll over year to year – it’s a use it or lose it benefit. If you have a private insurance plan or are self-employed, you would not be able to get an FSA.
How do I contribute tax-free money to my FSA? If you opt for this employer-sponsored benefit, you’ll have to decide at the start of each open enrollment how much of your gross pay you want to be deducted from your paycheck each pay period. You won’t be able to adjust your contributions again until the next open enrollment period.
Where does the unused money each year go? If your employer does allow a rollover, the IRS limits that amount to just $500 per year. Typically any forfeited money goes back to the employer to cover the cost of administering the FSA plan.
Who does an FSA make the most sense for? If you pay for childcare, an FSA may be a better option than an HSA because you can use funds to cover childcare costs. You can read more about the childcare rules here.
HSA or FSA – Which should I choose?
Both accounts can be paired with a High Deductible Health Plan to help you save on premiums. The plan you choose depends on your situation. You can use the chart below for some side-by-side comparisons.
|Who Qualifies?||Only those with a qualified HDHP can have an HSA. Also excluded is anyone on Medicare and anyone who’s claimed as a dependent on someone else’s tax return.||Only those who are offered one as an employee benefit can have an FSA. If that’s you, there are no other requirements to open one.|
|Can self-employed people get this?||Yes.||No.|
|What if you change jobs?||The HSA belongs to you and follows you, even if it was employer-provided.||The only way to keep the FSA is if you have COBRA coverage allowing it. Otherwise, you forfeit the funds in it, and you may have to repay your previous employer any funds you spent that aren’t yet covered by payroll deductions.|
|How do rollovers work?||All the money rolls over every year and can remain there until you need it.||Anything left at the end of the year expires. The only exception is when your employer allows rollovers, which the IRS limits to $500 per year.|
|How much are you allowed to contribute?||The 2021 max for HSA contributions is $3,600 for an individual and $7,200 for a family.||IRS max contribution for an FSA in 2020 is $2,750. But be aware that the employer who owns the account can set the limit lower.|
|Can you adjust how much you’re contributing at any time?||Pretty much yes, within the annual limits.||No. The annual contribution amount can only change during open enrollment time, or if you have certain changes such as a newborn child or a change of employer.|
|Can your money grow?||Yes. You can invest it, and any growth is tax-free!||No.|
|How do the taxes work?||There are no taxes at all unless you withdraw money and use it on an unqualified expense. Otherwise, contributions are tax-deductible, payroll deductions go in pre-tax, growth is tax-free, and distributions for qualified medical expenses are too! After 65, it all becomes tax-free savings that you can use for anything in retirement.||Both contributions and distributions happen tax-free.|
Need help opening a Health Savings Account – give us a call, we’d be happy to assist you and answer any questions you may have.
Litchfield Branch Manager, Vice President