FSA or HSA: Which Offers the Best Tax Advantages?

Flexible Spending Arrangements (FSA) and Health Savings Accounts (HSA) are two types of programs designed to give tax advantages while paying for healthcare costs. These programs allow you to pay qualifying out-of-pocket expenses for health care with tax-free dollars. 

While these two plans are generally offered by your employer as part of your benefits, the IRS rules governing these accounts differ significantly. Generally, FSA funds must be spent each year, or you lose the money, while funds in an HSA rollover from year to year. 

Consider these factors on what you need to know about HSAs and FSAs when weighing your options and choosing health benefits.

Flexible Spending Arrangements 

Flexible Spending Arrangement (FSA), sometimes referred to as Flexible Spending Accounts, lets you set aside money from your pay before taxes to pay for health care costs. An FSA can be used to pay for qualified medical expenses outlined by your plan but generally include medical and dental expenses – think your copayments, some medications, certain medical equipment, and other healthcare costs. If the purchase was made in 2020 or later, over-the-counter medicine (whether you had a prescription or not) and menstrual care products are considered covered expenses. You don’t pay taxes on FSA contributions, which are limited to $3,050. Under IRS rules, FSA funds must be spent by a certain date, or you forfeit the money. If your plan permits, you are allowed to rollover a maximum of $610 for 2023 to the next year. Employers can (but are not required) to contribute to your FSA.

So, before choosing an FSA, carefully review your medical needs and potential or planned costs for a given year.

Health Savings Accounts

While an HSA is typically offered as part of benefits from your employer, you may be able to open a HSA on your own if you have a health plan that is eligible. If you open your own HSA, you may be able to deduct the contribution on your tax return. In 2023, you can contribute $3,850 for individual coverage and $7,750 for family coverage. HSA contributions and accrued interest are tax-free. If you are age 55 or older, you can contribute an extra $1,000. The account belongs to you, whether you open a HSA on your own or through work.

Unlike a FSA, unspent funds can remain in a HSA from one year to another. HSA funds can pay for things like deductibles, copayments, and other health care costs. But if the money goes toward non-medical expenses, you must pay an income tax and a 20% penalty. Once you reach age 65, you can withdraw money from your HSA for any reason without incurring a tax penalty. Note that while the withdrawal won’t be subject to a tax penalty, you will have to pay normal income tax on non-qualified withdrawals. However, generally, once you enroll in Medicare, you will no longer be able to contribute to your HSA. 

Make sure to take these factors into consideration when weighing out your options.