6 things to know about FSA compliance

Flexible spending accounts (FSAs) allow your employees to use pre-tax dollars to cover eligible out-of-pocket healthcare expenses, providing a tax-efficient way to manage medical costs. But there are some FSA rules you need to follow to stay compliant. Keep reading to learn more about FSA compliance and how to design an FSA plan at your company.

Check out our other compliance blog posts on HSAs, HRAs, LSAs, and voluntary benefits.

Employee eligibility

Employee eligibility for FSAs typically requires enrollment during your company’s open enrollment period, or at the time of hire or a qualifying event. Employees must be eligible for your company’s health insurance plan to participate in an FSA. The four common types of FSAs are:

Medical FSA: Allows employees to use pre-tax dollars to cover eligible medical expenses not covered by insurance, such as copays, deductibles, and certain over-the-counter medications.

Limited medical FSA: Similar to a medical FSA, but can be paired with high-deductible health plans (HDHPs) and health savings accounts (HSAs), covering dental and vision expenses.

Combination FSA: A limited FSA that converts into a medical FSA once the IRS deductible is met.

Dependent care FSA: Lets employees use pre-tax funds for qualified dependent care expenses, including daycare, preschool, and after-school care. Only employees with a legitimate tax-dependent status can use FSAs to cover dependent care expenses.

Contribution rules

The IRS sets an annual limit on the amount that can be contributed to an employee’s FSA. The 2024 medical FSA contribution limit (including limited and combination FSAs) is $3,200 per year. While you have the option to contribute to your employees’ FSAs, it is not mandatory. The funds your employees choose to contribute will be deducted from their paychecks before tax deductions and then placed into their FSA.

The use-it-or-lose-it rule

The FSA use-or-lose rule means that any funds remaining in an employee’s FSA at the end of the plan year are forfeited. In other words, they lose those funds if they don’t spend the money they contributed to their FSA on eligible expenses by the end of the plan year. However, there are two exceptions to this rule:

• Carryover: You can offer your employees a carryover option, allowing them to carry over a limited amount of unused funds (up to $640 per year in 2024) into the next plan year.
• Grace period: Or you can include a grace period (usually up to 2 ½ months after the plan year ends) during which participants can use the remaining funds for eligible expenses.

FSA eligible expenses

FSA eligible expenses vary depending on the type of FSA. Here are some common categories of eligible expenses for different types of FSAs:

Medical FSA:

• Doctor visits
• Prescription medications
• Dental care
• Vision care
• Over-the-counter medical supplies
• Certain medical equipment

Limited medical FSA:

• Eligible dental expenses
• Eligible vision expenses
• Preventative care services

Dependent care FSA:

• Child care
• Day camp, not primarily for educational purposes
• Before or after school programs
• Babysitting
• Adult day care center
• Elder care

Discover more about how participants use their FSA funds:

FSA fund purchases

When your employees spend their FSA funds, they should follow this general guideline:

Use a benefits card: Some FSAs offer a benefits card that can be used for eligible purchases directly at the point of sale. Swipe the card at the point of purchase, and the funds will be deducted from the FSA account.

Save receipts for FSA-eligible purchases: Documentation is crucial for substantiating expenses, especially in case of an audit or verification. Even some benefits card purchases will require receipts for substantiation. 

Submit claims: For purchases made out-of-pocket, participants will most likely need to submit a claim for reimbursement. Depending on the FSA provider, this might involve filling out a claim form and providing documentation.

Designing an FSA

Here are some important considerations when designing an FSA at your company:

• Conduct surveys or gather feedback to understand the specific healthcare and dependent care needs of your employees. 
• Consider offering different types of FSAs to provide employees with flexibility based on their circumstances.
• Decide whether to include a carryover or grace period. Keep in mind this can improve employees’ willingness to participate in an FSA.
• Consider providing a benefits card for easy point-of-sale transactions.
• Clearly communicate the FSA plan details, including eligibility criteria, contribution limits, and a comprehensive list of eligible expenses. Share educational materials with your employees to help them understand how to use and maximize their FSA.

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The information in this blog post is for educational purposes only. It is not legal or tax advice. For legal or tax advice, you should consult your own legal counsel, tax and investment advisers. 

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