If You Have a Flexible Spending Arrangement, Read This!

Tax Planning

Many employers offer Flexible Spending Arrangements, and for savvy employees who take advantage of flex-spend plans, this has been a big boon. Under the typical flex-spend account you can contribute up to $5,000 pre-tax, to be used for various types of expenses, the most popular of which are dependent care and medical.

Flexible Spending Accounts
Flexible Spending Accounts

That pre-tax contribution is a big benefit, since your contributions are not subject to income taxes or payroll taxes. So if you contribute $5,000, that may translate to savings of $1,500 or more in taxes each year.

The major drawback? Here’s a hint: The plan’s motto should be “Use it or lose it.” Any portion that you don’t spend by year end on specified expenses is forfeited. And if you are laid off, you not only lose your job, you can lose your unspent contributions as well.

To counter part of that drawback, since 2005 employers have been authorized to add a grace period to their plans, giving employees until March 15 of the following year to spend their flex-spend contributions. And once over-the-counter medications were added to the list of eligible expenditures in 2003, employees who still had a balance in their account could stock up before the grace period expired.

Kiss that benefit bye-bye. Beginning in 2011, over-the-counter medications can’t be reimbursed from a flex-spend account. So don’t count on cleaning out your account at the end of this year by stocking up on cold and allergy medications, vitamins, sunscreen and aspirin. But pssst, here’s a little secret. There are several exceptions to this rule:

• If you have a doctor’s prescription, the medication is eligible for reimbursement even if it is over-the-counter. So ask your doctor for formal documentation for any over-the-counter medicine he or she recommends. Your doctor may object because it’s more paperwork, but it will save you money, so push for the prescription anyway.
• Insulin is covered, even if it is purchased without a prescription.
• Also covered are other expenses such as medical devices, eye glasses, contact lenses, co-pays and deductibles.

Okay, you say, I can live with those changes, as long as I get to enjoy that big fat $5,000 a year pre-tax benefit. Oh, sorry, here’s some more bad news: beginning in 2013 your annual contribution limit will be $2,500, only half of the amount allowed by most employer plans currently. To ease your pain a bit, this cap will be adjusted annually for inflation.

Why are they doing this to us? These changes are part of the new health law legislation that is phasing in over the next few years. Congress felt that employees wouldn’t need flex-spending accounts once health care coverage was more affordable and comprehensive. And besides, limiting the tax break helps the government muster the revenue it needs to finance the health care overhaul.

Most employees don’t take full advantage of flex-spend accounts, and the average contribution is only $1,400 or so. But if you contribute more heavily, you will definitely be affected by the upcoming change in contribution limits. With the new $2,500 maximum contribution limit coming up, consider scheduling any big medical procedures for the upcoming year, such as Lasik eye surgery, elective dental work or braces. That way, a big chunk of those expenses can be paid with pre-tax money.

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