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A flexible spending account (FSA) is a tax advantaged employer sponsored cafeteria plan. A flexible spending account allows an employee to contribute a portion of his or her wages to pay for their family’s medical expenses or dependent care expenses based on the rules established in the cafeteria plan. Funds deducted from an employee’s pay check into an FSA are not subjected to any payroll taxes, which would result in substantial payroll and other tax savings (may get you eligible for Child tax credit and Saver’s credit ).

Types of flexible spending accounts (FSA)

Even though provisions for other types of FSAs, most employers sponsored FSA plans offer the following two distinct flexible spending accounts;

• Medical Flexible Spending Account (aka Medical FSA)
• Dependent care Flexible Spending Account (Dependent care FSA)

The above mentioned two FSAs work independently and contribution to one account does not affect the contribution to another type of FSA. Contributions from one FSA account to the other cannot be transferred.

FSA plans are calendar year based which runs from January 1st to December 31st. The funds can be claimed with in the grace period, which is March 15th of the following year. With one exception that is separation from the employer. In that case if you don’t continue your COBRA benefits, you can only claim the funds for the employment at that particular employer.

For example if you worked only for the portion of the year (lets say January – September) and contributed $3000 to the plan, you can only submit the claims incurred from January through September for the funds you contributed to the account.

Advantages and Disadvantage of FSAs

The main advantage of flexible spending accounts is their tax advantage.

The main disadvantage is it works on a use it or lose it manner. Any funds which are not claimed at the end of the plan year will be forfeited.

People who has at least two kids and family’s annual income is less than 35k or less it might be appropriate for them to take the Child Care credit rather than contributing to a dependent care FSA. For more information on whether to contribute to Dependent care FSA or Child care credit click here.