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Bankrate's 2010 Tax Guide
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10 ways Uncle Sam helps you save money

5. Medical spending accounts

They might be called flexible spending accounts, or FSAs, but whatever the name, these workplace benefit plans can help you save on medical and child care costs.

With a medical spending account, you can put aside money to pay for health care costs that are not covered by your insurance.

Advantages: Employee money goes into the account before payroll taxes are figured, so your withholding taxes will be slightly less. FSA money pays for out-of-pocket medical expenses (co-pays, deductibles) you would have to pay anyway. You can use your FSA money even before you've actually put money into the account. For example, let's say you sign up to contribute $1,000 to your medical FSA, but have deposited only $100 when you are faced with a $300 out-of-pocket expense. You still can collect the $300 from your account. Also, you can use FSA money to pay for over-the-counter medications.

Drawbacks: Companies limit the amount you can put into your medical FSA. Under the recently enacted health care reform act, beginning in 2013 the maximum that can be contributed to an FSA will be $2,500. Unused FSA money does not roll over into the next benefit year, although some companies allow account holders a grace period that runs through March 15 of the following year to use the funds.

6. Dependent care spending accounts

Similarly, a dependent care FSA allows you to put aside money to pay costs for the care of an IRS-eligible dependent while you work.

Advantages: As with a medical FSA, contributions are made pretax. In addition to paying for child care costs, the money also can go toward expenses to care for a physically or mentally disabled adult dependent so that you can work.

Drawbacks: When applied toward child care, the youth must be age 12 or younger. Under federal law, you can only put aside $5,000 to cover dependent care costs. This is a household limit, meaning that if you and your spouse each have a dependent care FSA at your jobs, the total amount put in both cannot exceed $5,000. The same $5,000 limit applies to single filers.

And while FSAs generally offer individuals a very tax-advantageous way to save on medical and dependent care expenses, in some cases other tax deductions or credits could be disallowed or reduced by use of these accounts. If you have extreme medical costs that you can deduct or want to claim the dependent care tax credit, talk to your tax adviser about how these accounts could affect these other tax considerations.

7. Health savings accounts

Money placed in a health savings account also pays medical costs, but these medical savings vehicles are different from FSAs.

In order to open an HSA, you must be covered by a high-deductible health insurance policy, which means you paid medical costs of at least $1,150 for self-only coverage or $2,300 if you had family coverage in 2009. For 2010, the deductible limits are $1,200 and $2,400. Once you have the requisite insurance coverage, you can open an HSA and contribute up to the amount of your insurance policy's deductible. Individuals age 55 and older can make additional catch-up contributions to the HSA each year until they enroll in Medicare.

Advantages: You get an immediate deduction on your Form 1040 for contributions to an HSA. You do not have to itemize to claim this deduction. Even if someone else, for example, a relative, makes the contributions to your HSA, you still get the tax deduction. HSA earnings grow tax-free. As long as HSA funds pay for eligible medical expenses, you owe no tax on the distribution. Any money in the account at year end can be carried forward to the next year.


Drawbacks: You have to pay a high deductible for medical care, meaning you'll have to come up with the doctor and pharmacy payments and then be reimbursed from your HSA, rather than having your bills go directly to the insurer for payment as with traditional health policies. If you get a high-deductible policy during the year instead of at the beginning, the amount you can contribute to an HSA is prorated by the number of months you've had the policy.

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