Should I Use an HSA or FSA? A Comprehensive Guide

Anders Skagerberg CFP, EA
Should I Use an HSA or FSA? A Comprehensive Guide

The cost of medical care in the United States has risen dramatically over the past few decades—increasing by 115% since 2000, compared to a 78% increase for all goods and services over the same time frame.

Naturally, this has led many to seek ways to optimize and minimize their medical expenses. And one powerful way to do that is by using a Health Savings Account (HSA) or a Flexible Spending Account (FSA). But generally, you’re unable to have both an HSA and an FSA in the same year, leading many to wonder which is right for them.

Answering the question of "HSA or FSA?" requires an understanding of their differences and how they can benefit you. This blog post will dive into the basics of Health Savings Accounts (HSAs) and Flexible Spending Accounts (FSAs), highlighting their unique advantages, eligibility requirements, contribution limits, and rollover rules.

Lastly, we will provide practical tips and considerations to help you determine which account best suits your needs and circumstances. By the end of this comprehensive guide, you will have a clearer understanding of both HSAs and FSAs, empowering you to make an informed decision that can significantly impact your healthcare spending and financial plan.

HSA vs. FSA: Understanding the Basics

Health savings accounts (HSAs) and flexible spending accounts (FSAs) are tax-advantaged savings accounts designed to help individuals cover certain medical and other expenses. HSAs and FSAs can cover eligible medical costs; however, there are distinctions between the two that should be considered when selecting which is right for you.

What Is An HSA?

An HSA (Health Savings Account) is a tax-advantaged account that allows individuals with high-deductible health plans to save money for qualified medical expenses. The benefits of an HSA include tax-free contributions, growth, and withdrawals when used for eligible healthcare costs, ultimately helping individuals save on healthcare expenses. For example, someone can use their HSA to pay for a medical bill by withdrawing funds tax-free from their account to cover the cost of a doctor's visit or prescription medication. Or they can invest the funds within the account and grow them tax-free for the future.

What Is An FSA?

An FSA (Flexible Spending Account) is an employer-sponsored, tax-advantaged account that allows employees to set aside pre-tax income for eligible healthcare and dependent care expenses. By reducing their taxable income, FSAs help you save on taxes while providing a convenient way to cover out-of-pocket medical and dependent care costs. They come in three different types, which we will cover below.

Eligibility Requirements for HSAs and FSAs

The most notable difference between HSAs and FSAs is the eligibility requirements.

To open an HSA, you must be enrolled in a high-deductible health plan (HDHP). On the other hand, FSAs have no specific health insurance plan requirements. However, FSAs are only available if they are offered through your employer. Alternatively, you can open an HSA with or without your employer if you have an HDHP.

Contribution Limits and Rollover Rules

It's important to note that both HSAs and FSAs are limited-purpose accounts, meaning they can only be used for certain qualified medical expenses or dependent care expenses for dependent care FSAs. While HSAs can also be used for non-medical expenses after age 65, they will be subject to income tax.

When it comes to choosing between an HSA and FSA, it ultimately depends on your individual needs and financial situation. For an informed decision, consider consulting a financial advisor to determine which option is most suitable for you.

Three Different Types of FSAs

One crucial aspect to understand with FSAs is that there are three types: Healthcare FSAs, Dependent Care FSAs, and Limited Purpose FSAs. Each type has unique advantages and considerations, which we will explore below.

1. Healthcare FSAs

Healthcare FSAs are employer-offered pre-tax accounts that can be used to pay for qualified medical expenses. These expenses may include doctor visits, prescriptions, dental and vision care, and other eligible medical costs. Healthcare FSAs have an annual contribution limit set by the IRS

2. Dependent Care FSAs

Dependent Care FSAs (DCFSAs) are employer-offered pre-tax accounts that can be used to pay for qualified daycare expenses. These expenses can include daycare for a child, adult daycare for a spouse or parent who is disabled, and even summer camp expenses. The annual contribution limit is up to $5,000 for a married couple or $2,500 for each individual. Notably, a dependent care FSA does not impact your eligibility for an HSA, meaning you could have both simultaneously.

3. Limited Purpose FSAs

Limited Purpose FSAs (LPFSAs) are similar to DCFSAs in that they can also be used with an HSA. However, they are exclusively designed to pay for qualified out-of-pocket dental and vision expenses. Annual contribution limits are set by the IRS.

Advantages of Health Savings Accounts (HSAs)

HSAs possess various advantages over FSAs, making them an appealing choice for many individuals and families.

One significant advantage is the potential for tax-free growth on investments within the account when used for qualified medical expenses. This allows your HSA funds to grow over time, providing a valuable nest egg for future healthcare costs.

Tax-Free Growth On Investments When Used For Qualified Medical Expenses

Unlike FSAs, HSAs can be invested in various investment vehicles such as stocks, bonds, or mutual funds - similar to a 401(k) or IRA. The earnings from these investments are not subject to federal income tax as long as they're used for eligible healthcare expenses. This makes HSAs particularly appealing if you have a high-deductible health plan and anticipate ongoing medical costs.

Portability Feature Allowing Easy Transfer Between Employers Or During Retirement

An additional benefit of HSAs is their portability; you can take your HSA with you if you change jobs or retire without losing any accumulated savings. In contrast, FSAs are typically tied to specific employers and may require forfeiting unused balances upon leaving the company. 

Funds Rollover Each Year

Another critical benefit of HSAs over FSAs is that any funds left in the account roll over yearly, allowing you to accumulate funds for future medical expenses. In contrast, FSA balances are reset at the beginning of each plan year and cannot be rolled into subsequent plan years. That said, in 2023, you can carry over up to $610 of unused funds in your FSA to the following year. But details vary by employer, so check your specific plan details.

Benefits of Flexible Spending Accounts (FSAs)

While FSAs may not have the same long-term investment potential as HSAs, they still offer immediate tax savings through pre-tax payroll deductions without investing funds into long-term growth strategies like stocks or mutual funds. 

Immediate Tax Savings from Pre-Tax Payroll Deductions

An FSA allows you to set aside a portion of your paycheck before taxes are taken out, effectively reducing your taxable income and providing instant tax relief. Alternatively, contributing to an HSA will save you income taxes, but if your HSA plan is held outside of your employer, your contributions won’t also benefit from payroll tax savings. This gives FSAs a tax advantage over HSAs in some instances.

Choosing Between an HSA & FSA Based on Your Healthcare Plan Type

When deciding between an HSA or FSA account, it's essential to consider your current healthcare plan type - high-deductible health plans (HDHPs) vs. non-HDHPs - since this will determine whether or not you are eligible for an HSA. 

HSA Eligibility with High-Deductible Health Plans (HDHPs)

Remember, to qualify for an HSA, you must be enrolled in a high-deductible health plan (HDHP). HDHPs typically have lower premiums yet higher deductibles and out-of-pocket costs. If you're generally healthy and don't anticipate significant medical expenses, pairing an HDHP with an HSA can offer substantial tax savings and investment opportunities.

FSA Availability Regardless of Healthcare Plan Type

In contrast to HSAs, FSAs are available regardless of your health insurance plan type but must be offered by your employer. You can contribute pre-tax dollars from your paycheck to cover eligible medical expenses like copayments, deductibles, prescriptions, dental care, and vision care. However, FSA funds usually do not roll over year-to-year, so using the money within the designated time frame is essential.

Maximizing Benefits from Either Type of Account

To effectively maximize the potential benefits from either an HSA or FSA account, it's crucial to consider your unique healthcare needs and consult professional financial advice. For those with changing healthcare needs, such as couples in their 30s and 40s or parents of young children, it is essential to weigh up the pros and cons of each account type.

Assessing Your Unique Healthcare Needs

  • Determine your annual medical expenses: Estimate how much you'll spend on doctor visits, prescriptions, and other out-of-pocket costs throughout the year.

  • Evaluate your health insurance plan: Consider whether a high-deductible health plan (HDHP) paired with an HSA or a more traditional plan with FSA access better suits your family's needs.

  • Analyze tax implications: Understand how contributions to HSAs or FSAs will impact your taxable income and overall financial situation.

Consulting a Professional Financial Advisor

Taking advantage of expert guidance can help ensure you're making an informed decision about which type of account best aligns with your specific circumstances. 

A qualified financial advisor can provide personalized recommendations based on eligibility requirements, contribution limits, rollover rules, and investment opportunities within accounts like HSAs, and more. By carefully considering these details and seeking professional guidance, you'll be better equipped to make the most out of an HSA or FSA account while maximizing savings for future medical expenses.

FAQs in Relation to Should I Use an HSA or FSA?

Why You Might Want to Skip the HSA

An FSA might be a good option if you don't have a high-deductible health plan or prefer immediate tax savings.

Learn more about HSA eligibility.

Can You Use Both an HSA and FSA?

You can only use both accounts if your FSA is limited to dental and vision expenses or dependent care expenses; otherwise, it's not allowed.

Should You Use Your HSA Funds Now Or Invest Them For Later?

Using HSA funds now provides immediate tax-free relief for qualified medical expenses, ensuring you can afford necessary healthcare without financial strain. However, investing HSA funds for later allows the money to grow tax-free, potentially increasing your savings and providing a more substantial cushion for future medical costs or retirement. Ultimately, deciding between using HSA funds now or investing them depends on your current financial situation, healthcare needs, and long-term financial goals.

Do You Need an FSA?

An FSA can be beneficial for qualified medical expenses or dependent care expenses, but remember that funds must be used each year, and contribution limits are lower than HSAs. 


HSA or FSA: Which is the Better Choice for You?

Deciding between a Health Savings Account (HSA) and Flexible Spending Account (FSA) requires understanding their features and advantages to choose the best option for your situation.

HSAs offer tax-free growth on investments when used for qualified medical expenses, while FSAs provide immediate tax savings from pre-tax payroll deductions and come in three different types.

Your healthcare plan type will also play a role in determining which account is available for you, so it's essential to assess your unique healthcare needs and consult professional financial advice.

In the end, you can maximize the benefits from either type of account by doing your research and choosing what works best for your family's health, both physically and financially.

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Anders Skagerberg CFP, EA Personal Finance Writer

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