FSA - Employee Overview
Another Valuable Benefit That Helps Reduce Taxes And Increase Spendable Income
A medical reimbursement account, together with the premium conversion program, is another way your employer can offer you benefits on a tax-free basis.
This information is all about how you can set up and use a reimbursement account to help pay your out-of-pocket medical costs, while at the same time increasing your spendable income.
Using This New Benefit
A medical reimbursement account allows you to pay many medical expenses in a tax-advantaged way. You can be reimbursed for medical, dental or vision care expenses that are not covered under an insurance plan. The reimbursements you receive are not subject to federal and most state and local taxes.
How a Medical Reimbursement Account Saves You Money
Here’s the normal situation:
- First, we pay our taxes. |
- Then we take what’s left and pay our bills. |
With a medical reimbursement account, however, for your out-of-pocket medical expenses, you can reverse that process:
- First, you take some of the money you earn and put it in a reimbursement account. |
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- Then you pay taxes on the balance of your earnings. |
How You Come Out Ahead
The big advantage in putting before-tax dollars into a reimbursement account is that your tax bill is reduced. When you pay less is taxes, you keep more of what you earn, increasing your spendable income.
To see how a reimbursement account works, let’s look at Jim’s situation and follow his monthly earnings of $2,100.
Jim’s son is an outstanding athlete. During next year’s football season, Jim wants to buy his son a set of soft contact lenses. The lenses cost $250. Jim’s medical plan will not cover this expense. Jim is going to have to pay it out of his own pocket.
Here's the situation without a reimbursement account:
Jim's earnings. . . . . . . . . . . . . . . . . .... .$2,100
Jim pays his taxes. . . . . . . . . . . . . . . . . – 491
What's left after taxes. . . . . . . . . . . . . . $1,609
Jim buys contact lenses . . . . . . . . . . . . . – 250
The remainder. . . . . . . . . . . . . . . . . . . .$1,359
Now let's look at the same situation, with just one change. Jim now has a medical reimbursement account. He can set aside money to pay for those contact lenses before he pays his taxes.
Jim's earnings. . . . . . . . . . . . . . . . . ... .$2,100
To reimbursement account
for lenses. . . . . . . . . . . . . . . . . . . . . . – 250
Jim's adjusted earnings. . . . . . . . . . . . . $1,850
Jim pays his taxes . . . . . . . . . . . . . . . . . – 418
The remainder. . . . . . . . . . . . . . . . . . . .$1,432
Jim reduced his salary before taxes and put $250 in his medical reimbursement account. After he paid for the lenses, he submitted a claim and was reimbursed from his account. When Jim used his reimbursement account this way, he paid $73 less in taxes. As a result, he had this additional $73 available as spendable income.
You can use a reimbursement account in the same way to increase your spendable income.
Because of the tax advantages of a medical reimbursement account, the IRS has established strict guidelines for its use. One of these guidelines is commonly known as the "use it or lose it" rule.
In plain language the rule is this:
If you deposit before-tax dollars to a reimbursement account, and do not use all of the dollars you deposit, you will lose any remaining balance in the account at the end of the plan year.
For this reason you should plan carefully before deciding how much to contribute to your reimbursement account. Only put in those dollars you are confident you will use for medical expenses during the plan year.