How FSAs Work

The Health Care Flexible Spending Account and the Dependent Care Flexible Spending Account allow you to set aside money from your paycheck on a before-tax basis to pay for eligible health care and dependent care expenses incurred by you and/or your eligible family members. By setting aside money on a before-tax basis, you lower your taxable income. This can decrease your tax withholding and may increase your take-home pay.

After incurring eligible expenses, you submit a claim that is reimbursed from your account(s).

• Your Health Care Flexible Spending Account claim for eligible expenses is paid in full — up to the amount of your annual health care contribution — regardless of how much you have in your account at the time you submit your claim.

• Your Dependent Care Flexible Spending Account claim for eligible expenses is paid up to your account balance at the time you submit the claim. If you ask to be reimbursed for an expense that is greater than the amount in your account at the time, reimbursement for the additional amount is deferred until you have enough money in your account to cover it during that year.

Tax Advantage of a Health Care Flexible Spending Account

Suppose Carlos and Maria, a married couple with two teenagers, have a combined annual income of $40,000. Carlos expects to use his $1,500 Health Care Flexible Spending Account contribution to pay for medical deductibles and coinsurance, and his share of vision and dental expenses. Carlos and Maria file a joint federal income tax return and take a standard deduction and four personal exemptions.

Here is how they save on federal taxes using a Health Care Flexible Spending Account:

This example was calculated using 2004 federal income tax rates and is for illustrative purposes only. The actual savings that a Health Care Flexible Spending Account can provide depends on a number of factors, including your covered annual earnings, tax bracket, the number of personal  exemptions you claim, and the tax rates in effect in the year you use an FSA.

Tax Advantage of a Dependent Care Flexible Spending Account

Suppose Marilyn works for MPTN, her husband Ed works for another employer, and they have a combined annual income of $68,000. Marilyn contributes $5,000 to MPTN’s Dependent Care Flexible Spending Account to help pay the $400 weekly fee for their two preschoolers to attend a day care center. (According to federal tax regulations, the maximum amount a team member can contribute to a Dependent Care Flexible Spending Account for a married couple filing jointly is $5,000 or $2,500 if married and filing separate tax returns.) Since Marilyn has contributed to the Dependent Care Flexible Spending Account at the $5,000 maximum contribution level, Ed cannot contribute to his employer’s dependent care flexible spending account program.

Here is how they save on federal taxes using a Dependent Care Flexible Spending Account:

This example was calculated using 2004 federal income tax rates and is for illustrative purposes only. The actual savings that a Dependent Care Flexible Spending Account can provide depends on a number of factors, including your covered annual earnings, tax bracket, the number of personal exemptions you claim, and the tax rates in effect in the year you use an FSA.

Estimating Expenses

Be sure to estimate your health care and dependent care expenses carefully. First, review the eligible health care and dependent care expenses you typically have during a year. Then, carefully estimate the dollar amount that you expect to incur over the year for those expenses. Use that as a guide to determine how much you want to direct from your pay into a Health Care and/or Dependent Care Flexible Spending Account.

Remember that you lose any money set aside in an account that you do not use in that year. See “Forfeiting Unused Balances” below for more information.

Impact on Other Benefits

Even though you reduce your taxable income by participating in an FSA, your contributions do not reduce your pay with regard to any of your other MPTN benefits, such as disability, life insurance and 401(k) contributions. Those benefits are based on your gross earnings before any FSA payroll deductions.

Before-tax contributions to an FSA will, however, reduce your income for Social Security purposes. As a result, if you earn less than the Social Security wage base which will change from year to year, your Social Security taxes will be lower, and this may reduce the benefit you would receive from Social Security at retirement.

The effect on your Social Security benefits depends on a number of factors, such as your age, your earnings before contributing to an FSA, and future pay levels. In many cases, the current income tax savings gained from contributing to an FSA outweigh the increase in Social Security benefits that would be gained by not contributing to one.

Forfeiting Unused Balances

Keep in mind that in exchange for the tax savings you receive when you participate in an FSA, the Internal Revenue Service (IRS) requires that you forfeit any contributions remaining in your account after you have filed all your claims for the year. This means that if you don’t use the money in your account, you lose it — you cannot receive a refund, or use the balance to fund an FSA for the following year. In addition, you cannot use the balance in your Health Care Flexible Spending Account to pay for expenses eligible for reimbursement under a Dependent Care Flexible Spending Account, and vice versa.