How To Save Money With A Flexible Spending Account

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Hmm, a Flexible Spending Account?  I’d been working hard at saving the world as a social worker when I first heard of the Health Flexible Spending Account (FSA).

One whole year had gone by since I started this job.  It’s turned out to be a job that I love. But I had to wonder if I was taking advantage of all my benefits?  Using an FSA for saving money on health care hadn’t been on my radar.

As my focus on financial independence and catching up my retirement savings became stronger, I decided to find out more about this money-saving, tax optimization tool.

Here is what I learned about Flexible Spending Accounts . . .

What is a Flexible Spending Account?

Actually, FSAs are not accounts, but tax arrangements.  A Flexible Spending Arrangement allows your employer to set aside some of your pre-tax earnings.  You get to spend it on qualified health and/or dependent care expenses.

The portion of your earned income that is funneled into your FSA completely bypasses federal income tax, Social Security tax, and Medicare tax.

This allows you to pay for qualified out-of-pocket medical expenses or dependent care expenses with pre-tax rather than after-tax income.

What plans are available within a Flexible Spending Account?

An FSA is only an option if your employer offers it as part of your employee benefit package. Check with your HR department to see what is offered.

There are two types of Flexible Spending Account plans, the Health FSA and the Dependent Care Assistance Plan. 

The Health FSA covers medical, dental and vision expenses that your regular health insurance doesn’t.

We’re talking about co-pays, deductibles, glasses, hearing aids, medical equipment, smoking cessation programs, over-the-counter medications, and more.  Out of pocket expenses can add up, as I learned when my husband almost died from a ruptured brain aneurysm! 

The Dependent Care Assistance Plan covers childcare and afterschool program expenses or elder care so that you and your spouse can go to work.

How much can you contribute?

You get to decide how much of your income you want to have set aside each year, within the plan’s limits.  This is your annual FSA election amount.

You have to stay within the plan’s minimum and maximum annual election amounts.

The IRS sets the maximum contribution limits for the Health FSA, which is indexed for inflation and may change from year to year. Check out the IRS announcement on their website for updates each year.

For 2022, the maximum annual election amount for a Health FSA increased to $2,850 (up $100 from the 2021 maximum).

The Dependent Care Assistance Plan maximum for 2022 remains at $5,000 ($2,500 if you are married and file separate tax returns).

If your spouse is a full-time student or disabled and unable to work, the maximum annual election for the Dependent Care Assistance Plan is $3,000 for one child. For two or more children, it is $5,000.

When can you enroll in a Flexible Spending Account?

If your employer offers this benefit, you can enroll upon being hired, during the annual enrollment period, or if you have a qualifying event.

You may have a qualifying event if you get married, divorced, your spouse passes away, you have a baby or adopt one, etc.  You have to enroll within a set amount of time of the qualifying event.

What are the benefits of a Flexible Spending Account?

You can gain substantial tax savings with an FSA.

Contributions to your FSA are deducted from your income before taxes.  This means you can save 30-40% on the dollar (depending on your tax bracket).

To illustrate this, consider that you must earn $520 in order to take home $400 after taxes.

By using a Flexible Spending Account, you only need to earn $400 to cover qualified expenses.

Back in 2018, I used an online calculator to figure out how much I would save by contributing the maximum to my Health FSA that year.  It was about $782, which was money I could redirect into my retirement savings!

You can boost your retirement saving rate with an FSA.

If you’re trying to catch-up your retirement savings after a late start, increasing your saving rate will make a difference. Every dollar you save by paying for medical expenses or dependent care costs with pre-tax money will free up more cash to help you reach your retirement savings goals.

Using a simple interest calculator, I figured my $782 savings from funding my Health FSA would nearly double at 6% interest over 10 years.

This is not to say that the money in your FSA can be saved for more than one year.  In most cases it can’t.

The FSA is not an actual savings account, however.

It is a benefit provided by your employer that allows you to use pre-tax earnings to cover your annual dependent care expenses or out-of-pocket medical expenses.

But if I take the amount of my projected savings and set aside the same amount in after-tax funds into my brokerage account, it will help boost my savings for my future retirement.

I learned to think outside of the box when it comes to growing my retirement next egg after I discovered the Financially Independent Retire Early (FIRE) community.

The FIRE community helped me to see that it’s not too late to catch-up my retirement savings, even after a late start. Every little bit that I can add to my savings now will help!

Is there a downside?

Yes, Flexible Saving Accounts are a “use it or lose it” proposition. 

You have to plan very carefully.  If you don’t use up all the pre-tax funds in your FSA within the calendar year, you lose it.  The money’s gone!

I was worried about this when I signed up for an FSA for the very first time in 2017.  I was afraid I wouldn’t spend all the money. However, my conservative contribution of $500 was completely used up before the year was over.

I could have contributed more.

For 2018, I decided to contribute the max to my Health FSA.  I carefully reviewed what we expected to be spending on out-of-pocket health care costs.

As it turned out, I estimated correctly, and we used up all of the pre-tax money set aside in my FSA during 2018.  For 2019 I decided to max out my FSA contribution again.

My employer did allow for a roll-over of $500 in 2019, so I felt a little better about contributing the max to my FSA.  But if I would have underspent by $600, I would have lost $100 since only $500 carried over.  Due to COVID-19 and the global pandemic, the IRS will allow employees to rollover up to $550 (from 2020 to 2021 only).

Each year I’ve had to guess how much we might spend on out-of-pocket medical costs. So the amount I contribute to my FSA can vary from year to year. Even if I don’t contribute the maximum, I know I will be saving money by contributing something.

Is it worth it to contribute to a Flexible Spending Account?

Yes, I think it is, at least for my family.  It will free up more funds that I can use to catch up on retirement savings.

We don’t have childcare expenses, but we do expect to have out-of-pocket health care costs that aren’t covered by insurance.

We could set up sinking funds to save for out-of-pocket health expenses, but we’ll get more bang for our buck using pre-tax dollars to pay for those expenses.

I think it will be important to re-evaluate participation in my FSA each year.  For years that my family expects to have less health care costs, I’ll contribute less to the FSA. I will definitely make sure I’ve used all my FSA funds before the year’s end.

Take advantage of an FSA if you have access to one. It will absolutely help you save money. 

Save more at the FSA Store on qualified FSA purchases!

You can save more money and even earn cash back when you go through Rakuten to shop at the FSA Store. Not a member of Rakuten? Use my affiliate link.  When you join Rakuten and spend $25 you will get $10 cash back! 

Question:  Do you have access to a Flexible Savings Account at your job?  Have you found it easy or difficult to make sure you use up all the funds?