HSA? HRA? FSA?

Posted By Paul

So just when you thought medical insurance couldn't get more confusing they added even more types of health related accounts for you to puzzle out. I've been trying to figure out what they all are so I thought I would share what I found.

Let's start with the FSA. For that I'm going to refer people to an earlier post which describes them in detail:
Are FSA's worth doing?

So then what is a Health Reimbursement Account (HRA)?
An HRA is an account setup by your employer that you can use for medical expense reimbursement. It's essentially your company telling you: "We're going to give you X dollars to help you pay for your health care costs this year."

Generally you have to submit proof of medical expenses to your company for reimbursement.

So what's the downside? As near as I can tell there really isn't one. However, the HRA might not be for everyone. For example, one thing I've seen are things where a company has two plans that you can choose from:

Plan A: Costs you $1000 a year and you don't get an HRA.
Plan B: Costs you $2000 a year and you get an HRA of $1500.

If you assume Plan A and Plan B have the same coverage, which one should you choose?

Well, if you are healthy Plan A might be better since you might have health care expenses that are so low that you might never even USE your HRA. However if you have some known health issues that makes you certain that you'll end up using that $1500, then Plan B becomes the better option.

Okay, so then the final account to cover is the Health Savings Account (HSA)

The first thing to know is that not everyone is ALLOWED to get an HSA. You only qualify for an HSA if you are in what is considered to be a High Deductible Health Plan (or HDHP...sigh all these abbreviations). If you are enrolled in an HDHP (your employer should let you know) then you are allowed to open an HSA.

So what does an HSA do? Well first lets cover how money goes INTO the HSA. Contributions come from YOU (not your employer like in the HRA), and contributions go in pre-tax (which is cool).

While in your account your money can be invested (the investment vehicles depend on the financial institution that holds your account usually a typical set of funds and a money market).

So how does money come out? You use it for reimbursement of medical expenses (by submitting paperwork to whoever is administering your HSA).

Now one cool thing about the HSA is that the money doesn't "expire" at the end of the year like it does with an FSA, it remains yours so if you have a lucky year you have that money saved up for the following year.

If you withdraw money from your HSA that isn't for a medical expense then you take a penalty, but from what I've read, this penalty disappears when you turn 65, so if you whatever money you don't use become yours without penalty when you turn 65, so in a way you can consider it part of your retirement funds.

Also, if you leave your job or change health plans such that you are no longer in a HDHP then your money doesn't disappear. If you leave your job your account remains yours. If you end up switching to a health plan later that ISN'T an HDHP then you're not allowed to contribute to your HSA any more, but you can still withdraw money for qualified expenses.

It seems to me that an HSA can be a good choice for people who are in a situation where they don't have many health expenses currently, but expect to in the future. They can put money in their HSA and if they are lucky enough to have a year without any significant medical costs then they have those contributions saved in case it happens the following year. If you manage to go several years without any significant medical costs then you could build up a pretty nice little rainy day fund for when something does happen.

I found a link to a pdf that did a nice comparison between the three accounts:

HRSFSAHSA.pdf

I also recommend the wikipedia entries as they all do a good job of explaining the accounts in further detail:

Wikipedia Entry - FSA
Wikipedia Entry - HRA
Wikipedia Entry - HSA

Daycare Flexible Spending Arrangements

Posted by Matt

My wife Leah and I went through our companies annual enrollment process recently and found that we had a new option to evaluate this year: the Dependent Daycare Flexible Spending Arrangement (aka Daycare FSA). If you aren't familiar with these, they are essentially an account that you automatically make pre-tax contributions to via payroll deduction and then claim reimbursements from when you incur daycare expenses.

Daycare is a significant expense, even though our son only goes three days a week and we have him in a home-based center instead of one of the larger "institutions" like KinderCare. Quick aside; the home based daycare:

• has two care providers and only about 5 or 6 kids, which is a much better ratio than we found at the larger centers
• offers three organic meals a day plus snacks
• has a crib or bed for each child in a dark bedroom away from the play area
• offers "Parent's Night Out" on some weekends, so we don't have to find a babysitter and our son can be in an environment he knows. It is fun for him, too, as the kids usually watch a movie and eat a special dinner (breakfast food, pizza, etc.)

All these great features and more mean that our daycare dollars are money well spent, but it is still a lot of money. Even at three days per week, the cost would exceed the $5000 annual maximum contribution for an FSA, and our son will probably switch to full time next year, so we'll appreciate the tax break.

There is also a federal tax credit available for dependent daycare expenses, but expenses paid via the FSA can't be claimed for a credit, so we had to go through a worksheet to figure out which was better. The one we used is proprietary to my company, but you can easily find similar worksheets online (click here). Essentially you have to calculate the tax benefit for each option and take the larger of the two. Make sure you have last year's tax forms available as the calculations require you to know things like your tax bracket and adjusted gross income. I also found a nice rule of thumb:

As a general rule, if your adjusted gross income (AGI) is more than $ 14,000, the Dependent Day Care FSA may provide greater tax savings.

We determined that the FSA was our better option and decided to set aside the full $5000. We'll probably spend more than that and I believe that we will be able to claim the tax credit for those additional expenses. I should note here that the money set aside it "use or lose" for the designated year, so be careful when determining how much to set aside. (In 2005, this was softened somewhat with the addition of a 2 1/2 month grace period to carry over unused money to the following year.)

We signed up through my employer, though the plan from my wife's employer was fairly similar. Starting in January, my take-home paycheck will be reduced in order to fund the FSA. As we make payments to the daycare, we just have to submit a claim form (with receipt) for reimbursement. The reimbursement is done via direct deposit, which is nice.

If you have children in daycare (care for senior dependents living at home is also eligible), definitely consider this option. It just takes a little effort to submit the claim forms, but the savings are definitely worth it. I did the calculations on scrap paper, so I don't have the exact number, but I think our projected savings from using just the FSA will be about $1600.