What’s crazier? Choosing not to cut your taxes or signing up for a way to reduce them, but then wasting much of the benefit?
Hundreds of thousands of people do one or the other every year.
You could be one of them if you didn’t open a flexible spending account at work — or did, but don’t use all the money in there before the benefit year ends.
Many companies offer flexible spending accounts, sometimes called cafeteria plans, as part of an overall benefits package. They give employees a way to reduce taxable income while at the same time paying for medical expenses they know they’ll encounter during the year.
The money goes into special employee accounts pretax — that is, it comes out before taxes are deducted so you don’t have to pay taxes on it. This means Uncle Sam gets less of your dough in taxes, and the actual reduction in your paycheck will be less than the amount you set aside. For example, a $200 contribution may reduce your paycheck by only $180 because a smaller amount of taxes is withheld.
But don’t just put the money away and forget about it. Since most companies operate on a calendar year when it comes to benefits, if you leave any money past Dec. 31, it’s lost cash.
An added way to meet costs
When you sign up, generally through a regular payroll contribution, your boss puts the amount you select into a personal account for you to use to pay for medical expenses or dependent care costs not covered by insurance.
Employers may offer a medical account, dependent care account or both. Each category is separate, so if you want to cover both, you have to let your boss know you want two accounts.
The major appeal of medical accounts, in addition to the tax benefits, is added versatility in obtaining and paying for health-related services.
You can, and should, use the money to pay for doctor co-payments or insurance deductibles that otherwise would come out of your pocket. But you also can spend it on many medical services that don’t require prior physician approval, or that may not be covered by your company health plan.
This means you could use the account to pay for those chiropractic treatments — not allowed by your insurance — that finally relieved your chronic shoulder pain.
With a dependent care account, pretax money can be used to help pay the costs of any caregiver providing services while you’re at work. This includes the nursery school for kids or the home health aide looking after a disabled spouse.
A pre-approved benefits ‘loan’
You also can get to the money even before it’s in your account.
Say you elected to put $2,400 in your medical spending account, with $200 a month coming from each of your 12 paychecks that year. In early March your son fell off his bike and, in addition to breaking his arm, all his expensive orthodontia had to be redone. When all the damage was added up, you faced $950 in deductibles not covered by your health insurance.
Although you only had $400 in your account when the accident occurred, federal guidelines allow you to submit your out-of-pocket expenses immediately for repayment. This way, you get cash now against the total amount you pledged to pay into the account .
Use it or lose it
There are a couple of catches to flexible accounts.
The major drawback is the system’s use-it-or-lose-it design. The IRS says any flexible account funds must be used to pay for treatments provided before the year’s end or you lose the money.
While the money itself doesn’t have to be disbursed before Dec. 31 — the IRS allows a 90-day period into the next year for the bills to be submitted for payment — the treatment must be within the same calendar year as the contributions. If an employer is on a fiscal year rather than a calendar year, the deadline date for treatment is the last day of the final fiscal month, with the 90-day payout period following that.
This requirement prompts a mad December dash to medical offices, especially optometrists and dentists. Here the insistent refrain of patients declaring “it’s got to be done this month” is almost as common as “The Christmas Song” on Muzak.
Planning prevents wasted accounts
Not everyone gets the needed appointment. Studies by benefits specialists regularly show that employees typically forfeit more than $100 each year in flexible medical accounts.
This means you shouldn’t decide how much to contribute without first carefully reviewing your personal and family medical needs. A quick review of last year’s medical costs is a good place to start.
Businesses generally use the leftover money to help defray administrative costs of the program. In some instances, employers allow workers to designate a charity to which the unused funds are sent.
Other account drawbacks
There also is limited opportunity to refine your spending plan participation.
Unless there is a major change in your life — marriage, divorce, birth of a child, reduction in work hours, or job loss or change by your spouse — you’re stuck with putting in what you chose during the enrollment period. This means that even if your mother comes to live with you and now takes care of the kids, you still must make your regular dependent care contributions.
Only a life-change event will get you into a flexible spending account plan if you miss the sign-up deadline. For most companies, the deadline is Dec. 31. But some operate on a fiscal, rather than calendar year, so check with your benefits manager for your business’ benefits deadline.
‘$5,000 is a joke’
Then there’s the limit on the amount of money you can contribute.
The IRS limits the annual contribution for dependent care accounts to $5,000. This is a family limit, meaning that even if both parents have access to flexible care accounts, their combined contributions cannot exceed $5,000.
Employees regularly contribute the maximum amount to the care accounts, according to Linda Wurzelbacher of B.A.S.I.C., an employee benefits administration firm.
“In fact, employees are always telling us $5,000 is a joke,” she said. “It’s not an amount that kept up with the times.
“Anybody with kids will tell you that they easily exceed this amount in day care in a year.”
No limit on medical money
On the medical side, there are no hard and fast contribution amount rules. The IRS leaves it to employers to decide how much workers can contribute to these flexible accounts.
Wurzelbacher explains that the IRS views the reimbursement provided by medical flexible accounts as a self-insured health plan. Because an employee can get to flexible account money even before it is fully paid in, the business has to carry any early reimbursements. If the employee quits before the money is paid back, the employer takes the loss.
Because of that risk, Wurzelbacher said, Congress and the IRS have left it up to each business owner to individually determine what his risk will be when it comes to flexible medical account limits.
There are periodic rumblings on Capitol Hill about the need to raise the dependent care contribution limit, as well as to make the medical portion even more flexible. Legislation is regularly introduced that would let employees roll unused medical contributions over into the next year.
But until those proposals become law, workers must determine just how much they want to contribute annually to their cafeteria plan accounts. Careful computations mean no wasted plan money. It does require some extra work, but most employees agree that the time spent is a small price to pay in exchange for accessible expense cash in these tax-advantaged accounts.