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Capping FSA doesn't benefit the employee

"Hi, I'm from the government, and I'm here to help."

While many chuckle at the thought, this punchline from an old joke reminds me of one of my favorite lines: "If things get any worse, I'm going to have to ask you to stop helping."

Today, we are going to look at how the government is helping -- or not helping -- with one particular area of health care reform: the Flexible Spending Account.

An FSA allows employees to set aside funds on a pre-tax basis to pay for eligible medical expenses for the employee, the employee's spouse or the employee's dependents. FSA funds can be used for expenses such as office visit copays, medical deductibles, prescription copays, dental and vision services and a number of other eligible expenses. Many employers offer an FSA to their employees as part of the benefits package.

The funds an employee redirects from salary are deposited into an account established in the employee's name. The tax-favored status of the FSA is a tremendous benefit to the employee since funds are deducted pre-tax thus reducing an employee's taxable income.

In addition to providing a benefit for employees, the employer can benefit from an FSA because the employer is not required to pay the FICA match of 7.65 percent on the deferred money. This employer savings is usually more than enough to cover any administration expenses associated with offering an FSA.

Employees also are exempt from federal, state and FICA taxes on their salary deferrals. As many of you found out when you received your first paycheck in January 2013 the employee's portion of the FICA contribution rose to 7.65 percent plus an additional 0.9 percent.

The 7.65 percent breaks down to a 6.2 percent Social Security tax and a 1.45 percent Medicare tax. The additional 0.9 percent is a Medicare surtax required under the health care reform law.

So, we are we now taxing our taxes? Hi, I'm from the government, and I'm here to help.

But, back to the FSA. Let's say an employee knows she has to have a surgery and her medical deductible is $1,000. The employee could elect during the open enrollment period to set aside $1,000 on a pre-tax basis in the FSA to cover that deductible when it is incurred.

It would be nice if you could plan for all medical expenses like this, but the unexpected does happen so it is difficult to plan for every situation.

Without an FSA, the employee would need to earn about $1,400 to cover that $1,000 deductible, depending on the employee's tax bracket. With an FSA, the employee can set aside $1,000 tax-free to cover that medical deductible, thus reducing the employee's tax exposure.

It's easy to see how FSAs can help individuals and families.

Under health care reform, that changed effective Jan. 1, 2013. The law mandates that employee pre-tax contributions allowed for the medical FSA be capped at $2,500. For plans that renew after Jan. 1, the new cap will be effective with the new start date of the subsequent FSA plan year.

Prior to January, many employers did not place a cap on the FSA for their employees or, if they did, it was often capped at $5,000. In many cases this was more than enough to cover most deductibles and the actual out-of-pocket expenses for individuals and families.

But as more employers are moving to higher deductibles and higher office visit and prescription drug copays in an attempt to control increasing medical premiums, a $2,500 cap for medical expenses could be a problem for many employees -- especially those with families.

As some of you will recall, the law took a first step at limiting FSAs in 2011. At that time, one of the provisions of health care reform prohibited FSA reimbursements for over- the-counter medications unless you had a prescription for those OTCs.

Many people used their FSA deferrals to purchase OTC medications to treat minor aches and pains, and many did this in an attempt to stay out of the doctor's office and save their money. Now, those same people are required to go into the health care system to get that prescription for ibuprofen, for example, if they want to use their FSA money for the OTC purchase. This simply adds to the overall costs of the health care model.

I know what some of you are thinking -- health care reform is supposed to reduce costs. If you believe that, please call me if you are interested in some oceanfront property in northern Arizona.

So, why the OTC change and the FSA cap? In my opinion, you don't have to look much past this simple explanation: the less money you set aside on a pre-tax basis the more money the government has to tax ... and spend.

I'll let that sink in until next week.

Questions or comments? Feel free to email me at twilson@nfp.com.

Tony L. Wilson is a principal with NUVISION Financial Corporation based in Conyers. NUVISION is a subsidiary of National Financial Partners Corp. (NFP), which provides benefits solutions for companies.