Flexible Spending Accounts
Flexible spending accounts (FSA) accomplish two goals: A.) Increase Employees’ after-tax income. By enabling employees to re-direct a portion of their salary to the FSA plan, the employee is able to turn health and dependent care expenses from an after-tax expense into a pre-tax expense and increase their spendable income each month; and B.) Increase Employer Tax Savings. Employers also save on taxes with the implementation of an FSA plan. Employers do not have to pay FICA Social Security taxes on the gross amount of salary redirections made by their employees. In addition, in California, workers’ compensation premiums can also be avoided on the amount of salary redirections. The more employees participate and the higher their salary redirections, the more the employer saves each year.
FSA Overview
Employees elect if they want to participate and how much they want to contribute to the plan per calendar year. Their deduction amounts are then deducted from their paycheck on a pre-tax basis. The health reimbursement portion of the plan can be used to pay for health expenses on a pre-tax basis thus saving the employee money. In addition to pre-tax contributions for health expenses, employees will also be able to participate in a Dependent Care Account that enables them to contribute up to $5000 per calendar year on a pre-tax basis for childcare.
An employee would consider his upcoming expenses and decide how much to contribute. For example, an employee who wears prescription glasses knows that he will need a new prescription in the next year decides to fund his estimated expenses for new glasses, his insurance deductible, and his estimated insurance co-payments for an annual total amount of $1200. The employee also knows that he will spend $150 a month in insurance premiums during the course of the year and that he will have $400 a month in dependent care costs. As a result, the employee elects to contribute $650 pre-tax to the account on a monthly basis.
Below is a summary of savings to both the employer and the employee:
