HSA vs. FSA: Your GoodRx Guide

Overview

Health savings accounts (HSA) and flexible spending accounts (FSAs) both provide tax savings on qualified medical costs. However, there are a few key differences that distinguish the two accounts: 

• Eligibility requirements 

• Roll-over options 

• Tax benefits  

FSAs were established under the Revenue Act of 1978. Employees who have access to an FSA can contribute pretax dollars to pay for qualified healthcare expenses. You may receive an FSA debit card or submit receipts for reimbursement. If you don’t use your money by the end of the plan year, you risk forfeiting your unused funds. This is known as “use it or lose it.” Some employers may offer a grace period or carry-over option to give you more time to use your FSA dollars.

HSAs were created by Congress in 2003 to help people save for future healthcare costs. You can contribute pretax dollars to the account and invest your unused funds. The money can grow in your account tax-free. Unlike a flexible spending account (FSA), your HSA dollars can carry over from year to year if you don’t spend them.

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Eligibility

Not everyone will qualify to open an FSA or HSA. Make sure you understand the eligibility requirements for both accounts before determining which one is best for you.  

FSAs are part of an employer-sponsored benefits plan. You have to work for a company that offers an FSA to open an account. If you’re self-employed, you are not eligible to open an FSA. Qualified individuals can pair an FSA with an HMO, PPO, or other types of qualified insurance plans. 

HSAs have stricter eligibility requirements. You can only pair the account with a qualified high-deductible health plan (HDHP). Your plan must meet minimum deductible and maximum out-of-pocket expense amounts for the year. Generally, you’re not allowed to be covered under any other health plan if you want to contribute to an HSA. 

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Contribution limits

There are limits to how much you can contribute to an FSA or HSA. The IRS evaluates maximum FSA and HSA contribution limits every year to keep up with inflation. Before you determine your contribution amount for the year, review the IRS limits for your age and coverage type. If you deposit too much money into your HSA, the excess contributions could become taxable income and subject to penalties.

You can only contribute to an HSA during the months you were eligible to contribute. If you were not HSA-eligible for the entire year, you should prorate your contributions based on the number of months you were eligible. There is a special exception if you qualify for the last-month rule. 

Generally, you can’t contribute to both an HSA and FSA during the same plan year. If you have an HSA-compatible FSA, you can contribute to both accounts. An account like a limited-purpose FSA is HSA-compatible, but a healthcare FSA is not.

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Taxes

Money that you contribute to an FSA or HSA can reduce your current-year tax bill. Typically, these accounts are funded with pretax dollars. As long as the funds are used to pay for qualified expenses, you won’t have to worry about ever paying taxes on the money.

The tax benefits of an FSA are limited to the year of contribution. Since the money in your HSA rolls over every year, this account has more tax advantages.

Here are three benefits an HSA offers: 

• Contributions are not taxed: The money that you set aside in an HSA is not subject to tax. You can contribute money with pretax dollars through an employer. You can also contribute after-tax dollars and get a tax deduction if you open an account on your own. 

• Money grows tax-free: Unused funds can be invested. You can watch your investments grow tax-free.  

• No taxes on qualified withdrawals: As long as your money is used to pay for qualified expenses, you don’t have to pay taxes on the distribution.

If you use your HSA to pay for nonqualified expenses, you could be on the hook for taxes and penalties. 

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Qualified expenses

You can use your FSA or HSA to pay for IRS-approved medical, dental, and vision expenses. The money set aside in these accounts can cover qualified expenses for your spouse and eligible dependents, too. This is possible even if they are covered by another insurance plan. 

The IRS provides a list of medical and dental expenses that are considered qualified. Some common expenses that are HSA- and healthcare FSA-eligible include: 

• Annual exams 

• Birth control pills 

• Prescription contact lenses

• Prescription glasses 

• Root canal

• Tooth removal 

The Coronavirus Aid, Relief, and Economic Security (CARES) Act expanded the list of healthcare items that are FSA- or HSA-eligible expenses. Newly qualified medical expenses include menstrual products, over-the-counter medications, and personal protective gear.

Before you make a purchase, contact your FSA or HSA plan administrator to confirm if your expense is eligible. Some expenses like a weight-loss program or Theragun can be considered qualified with a letter of medical necessity (LOMN) from your doctor. Make sure you keep your receipts to confirm eligible expenses.

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Retirement

HSAs can be an effective way to pay for healthcare costs during retirement. It’s important to understand your HSA benefits and restrictions to avoid unexpected taxes and penalties.

As long as you are eligible to contribute to an HSA, you can add more money to your account. When you enroll in Medicare, you are not allowed to make contributions to an HSA. You could face penalties if you try to contribute to an HSA while enrolled in Medicare. But this doesn’t mean you can’t continue to withdraw the funds in your account to pay for qualified expenses, tax-free.

Typically, you are subject to a tax penalty if you use your HSA funds to purchase nonqualified expenses. The rules change after you turn 65. At this point, you are free to use your HSA dollars however you want. You’ll just have to pay taxes on your withdrawal if you use your money for nonqualified expenses. But you won’t have to worry about penalties.

You may not be able to use all the money in your HSA while you are living. The money in your HSA is transferred to your beneficiary when you die. Who you choose as a beneficiary will determine the tax treatment of your HSA upon death. Work with an estate-planning attorney or tax advisor to determine the tax impact of your beneficiary selection.

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