While one can save for healthcare expenses in many different ways, two of the most common vehicles are health savings accounts (HSAs) and flexible spending accounts (FSAs).

Both of these tax-advantaged options allow you to set money aside to pay for qualified out-of-pocket healthcare expenses and are often offered by employers as part of their employee benefit packages. However, they operate very differently.

In this post, we’ll take a deep dive into each and help you decide which option may best suit your needs.

HSA particulars

You can open an HSA account at any bank, credit union, or insurance company that offers one. If your employer offers an HSA, meanwhile, you can do so directly through them.

In choosing the latter option, you’d make pre-tax contributions via payroll deductions—similar to a 401(k)—whereas you’d make deposits into the account and then claim them as deductions come tax time with the former. Note that if you happen to live in New Jersey or California and make payroll deductions with your employer, your contributions would be taxed for state income tax purposes.

You determine the specific amount you’d like to contribute on an annual basis, provided it doesn’t exceed government-mandated limits ($4,150 for an individual and $8,300 for family coverage in 2024). If you’re age 55 or older, you can contribute an extra $1,000 above these thresholds.

As you build up the balance in your account, you can then access funds to cover qualified medical expenses using a debit card or checks to pay for qualified out-of-pocket healthcare expenses. Even if you become ineligible for HSA contributions at some point in the future, you can still use the funds in your account to pay for qualified expenses.

FSA particulars

You can only open a flexible spending account through your employer’s health plan and fund it with pre-tax money, often via payroll deductions. Your account balance is then used to pay for eligible out-of-pocket expenses such as doctor’s office visits, medical supplies, and prescription drugs—often via an issued debit card or reimbursement process. FSAs also cover your spouse and any eligible dependents.

Any employee who wishes to participate in an FSA can contribute up to $3,200 during the 2024 plan year.

HSAs and FSAs: key differences

While the intention of each account is similar, the rules surrounding them are much different. For example…

You can carry over unused HSA funds. FSAs are generally “use it or lose it” accounts, meaning you must use your entire balance within the plan year or lose the money you’ve contributed. That said, it’s not uncommon for organizations to extend this beyond a year either via a grace period (giving you a few extra months to spend down your balance) or carryover whereby you can carry over a portion of your funds into the following year.

In contrast, any leftover HSA money automatically rolls over to the next one; in fact, HSA funds continue to do so on an annual basis and will remain in your account indefinitely until used. When you consider that current retiree households spend over $7,500 a year on healthcare expenses (according to the U.S. Bureau of Labor Statistics), it’s easy to see why this feature adds to the appeal of HSAs.

Eligibility requirements vary. With respect to an FSA, your employer must offer one and you must be eligible to participate if you’d like to go this route. HSA eligibility, meanwhile, is determined by your health insurance, and you must be at least 18 years of age and maintain a high-deductible health plan as your only insurance—with a minimum annual deductible threshold of $1,600 for individuals or $3,200 for families (as of 2024)—to participate. Additional prerequisites include that you cannot be enrolled in Medicare (Part A or Part B) or Medicaid to contribute to an HSA, nor can you be claimed as a dependent on someone else’s tax return.

You can invest money in your HSA. Unlike with FSAs, your HSA account balance can be invested in mutual funds, stocks, and/or other investment tools (choices vary by provider). While such investments sometimes carry additional risk, these options can also help you—over time—potentially tuck away a lot more for retirement. Furthermore, the money in your account can grow tax-free if you live in a state other than California, New Hampshire, New Jersey, or Tennessee.

FSAs aren’t portable. If you leave your employer, you can’t take your FSA funds along to your next one. HSAs, on the other hand, are portable—making this money available for future qualified medical expenses even if you change health insurance plans, work for a different employer, or retire.

Anyone can fund HSAs. Parents, aunts, uncles, friends, or even a super-generous neighbor can help you save for healthcare expenses by contributing to your HSA. With an FSA, meanwhile, only you and your employer (though only about 5% do so, according to the Employee Benefit Research Institute) are eligible to contribute.

Your entire FSA balance is available on Day One. If you elect to contribute $2,000 to your FSA plan, your entire balance will be available to you on the first day of the new plan year (even though you’ll be funding the account over the course of the year). That’s not the case with HSAs, wherein the money at your disposal equals the balance in your account.

Other HSA details

Know that if you contribute funds into an HSA beyond the aforementioned limits, you’re on the hook for a 6% tax on these excess contributions—and that if you have an HSA through your employer, any contributions your employer matches also count towards your annual limits.

You should also not contribute more than what you can afford. That’s because if you’re under 65, any amount you withdraw for non-medical purposes will be subject to both income taxes and a staggering 20% early withdrawal penalty. Once you hit 65, any HSA withdrawals made for non-medical purposes are still subject to taxes but won’t incur this consequence.

Other FSA details

As you generally can’t alter the dollar amount you choose to contribute to your FSA beyond your open enrollment period, you'll want to ensure you only declare what you think you’ll spend.

Note that you can still qualify for an FSA even if you don’t have a health insurance policy through your employer, and if you leave your job but have elected COBRA coverage, you can continue to make contributions to your FSA on a taxable basis—with your entire FSA balance available for use on eligible expenses. However, know that your employer may charge you an administrative fee for continued access.

Can you have both an HSA and FSA?

If you qualify for an HSA, the IRS will prevent you from having a flexible spending account as well. However, if your employer allows, you can qualify for a limited-purpose FSA and in turn use this exclusively for vision and dental expenses such as dental cleanings, fillings, vision exams, contact lenses, lens solution/cleaner, and prescription glasses.

How to choose between an HSA and FSA

If your goal is to save money for future healthcare expenses, you may want to opt for an HSA. The same holds true if you’re young and healthy as you’re likely not paying for regular medications or seeking frequent medical care. Furthermore, if you plan on leaving your job (or currently have unstable employment), an HSA is likely a better option since its portable.

Alternatively, if you expect to incur high medical costs throughout the year, an FSA is perhaps a better choice (plain and simple).

In sum: HSAs and FSAs

Both flexible spending and health savings accounts can help you save money on qualified health and medical expenses. However, before you enroll in either, it’s often beneficial to speak with a financial advisor who can help you get the most out of your workplace benefits by reviewing your goals and identifying the best way to allocate money towards your health, savings, and retirement accounts.

Still have questions about HSAs and FSAs? Schedule a FREE Discovery call with one of our financial advisors.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and is not intended to provide specific tax advice or recommendations for any individual or business.