With renewal season approaching, talk to employers about tax-advantaged accounts. Educating them on what they are, the benefits of them and the benefits of encouraging employees to make use of their funds (especially in “use it or lose it” accounts), can be a great lead-in to discussing similar accounts and the advantages of each for their 2020 benefits plans.
What are tax-advantaged health accounts?
Tax-advantaged accounts contain pre-tax funds (funds that do not count toward an employee’s taxable income).
Funds in this type of account can be used for a wide range of out-of-pocket healthcare expenses, such as co-pays, deductibles, most dental and vision services, and prescriptions. IRS Publication 502 contains the complete list of eligible expenses.
Why encourage the use of tax-advantaged accounts?
While employers may not see the benefit of encouraging their employees to use funds in their tax-advantaged accounts, it’s there. Let clients know that there is still time for employees to use their 2019 funds and it’s in their best interest to remind them to.
Organizations can save 7-10% for every dollar in a tax-advantaged employee account. This savings comes from reduced employer state and FICA taxes.
In addition, tax-advantaged health accounts encourage employees to get the care they need—if the funds are set aside in a separate account, they have access to them when needed. When employees get necessary medical care, more expensive claims can be avoided, potentially providing long-term premium savings.
Which accounts have a “use it or lose it” rule?
Unlike Health Savings Accounts (HSAs), there are two types of tax-advantaged health accounts in which, typically, the employee either uses the funds or loses them at the end of the year—health reimbursement arrangements (HRAs) and flexible spending accounts (FSAs). Let’s go over these accounts and how they work. For full details and rules, check out IRS Publication 969.
Health Reimbursement Arrangements (HRAs)
Health reimbursement arrangements, or HRAs, can be used alongside all types of employer-sponsored health insurance plans or can be offered as a standalone benefit by employers.
The funds in an HRA are contributed by the employer, not the employee. The employee receives access to the full amount in their HRA at the beginning of the plan year.
The employer can decide whether or not to allow annual rollover of funds, however, if funds are rolled over from year to year, the total reimbursed during a calendar year cannot exceed federal maximums.
Flexible Spending Accounts (FSAs)
Flexible spending accounts, or FSAs, can be accessed only alongside a benefits package from an employer. About 3 of every 4 companies with at least 200 employees made FSAs available last year (Kaiser Family Foundation).
During open enrollment, the employee can elect to contribute up to the annual limit each year and receives access to the full amount immediately at the beginning of the plan year. The pre-tax funds, however, are taken out of the employee’s paychecks throughout the year. This means that if an employee leaves the company in the middle of the plan year but has already spent the entirety of the funds in their FSA, he or she may be required to reimburse the funds that have not yet been contributed. Note that the plan year for an FSA may not be the same as the calendar year—this is determined by the FSA plan administrator or the employer, though many companies align plan years with their health plan or fiscal year.
The annual limits for 2020 contributions are:
- Health FSA: $2,700
- Limited Purpose FSA: $2,700
- Dependent Care FSA: $5,000
While FSAs traditionally operated strictly under the “use it or lose it” philosophy, employers now have the option to amend plan documents to allow employees to:
- Carry over up to $500 in a health FSA to spend in the following plan year on qualified medical expenses
- Have a two-and-a-half-month grace period in the following plan year to spend their leftover FSA funds
Health FSA programs cannot have both a carryover and a grace period, and employers are not required to include either of these amendments in their plan.
If an employer allows the $500 carryover, employees are still allowed to contribute the maximum amount ($2,700 in 2020) to their FSA the following year. This allows for greater flexibility and may encourage more employees to opt into plans with FSAs, rather than choose the cheaper HSA plans.
Tax-advantaged accounts offer savings for both the employer and their employees. Make sure employers know how these accounts help them save, so they’re motivated to encourage employees to use their funds before they lose them at the end of the year!