Spending v. Saving: The difference between FSAs and HSAs — and what’s critical to HR

Offering the right benefits involves a lot of decision-making and can be challenging for many employers: How do you give employees the coverage they need without breaking the budget? 

Two pre-tax accounts make the decision easy: Flexible Spending Accounts (FSAs) and Health Savings Accounts (HSAs). But what’s the difference between FSAs and HSAs?

Knowing the difference between FSAs and HSAs

Both of these accounts come with perks for both employers and employees. Though both are beneficial, the differences between the two should be understood.

Knowing how to position FSAs and HSAs can help employers determine which option (or options) is best for their workforce.

What is a Flexible Spending Account?

A Medical Flexible Spending Account is an employer-sponsored program designed to allow employees to set aside pre-tax dollars from their paychecks that can then be used to pay for eligible medical expenses. FSAs are very popular for their ease of use and are currently being used by 37 million Americans to receive the healthcare they need.

Due to the use-it-or-lost-it nature of FSAs, the utilization of this account tends to spike in December as the risk of losing funds increases. While it may seem hectic, most users buy what is necessary and plan throughout the year to ensure the funds don’t go to waste. This can include everything from pain relief ointment to sunscreen.

FSA utilization differs by age. While the average age of account holders is 47, the contributions among users tend to increase the older a participant becomes. Account holders under 25 contribute an average of $421 v. $1,405 for those 65 and older.

FSA Opportunities

A significant benefit of FSAs is that they enable employees to save money on taxes since contributions are deducted from their paychecks pre-tax. In addition to their plan flexibility, FSAs also give employees more control over spending their healthcare funds because they decide how much to contribute each year.

FSA Limitations & Challenges

One limitation of a Medical FSA is that participants can only enroll if they are not enrolled in an HSA. Employees can opt for a Limited FSA, however, this limits them to only covering select vision and dental expenses. Employees can still enroll in a Dependent Care FSA (if offered by their employer), to help cover child or adult care costs, while also enrolling in an HSA.

It’s important to note that funds in FSAs must be spent within a certain period, or they will expire. Any unused funds are forfeited at the end of the plan year; however, employers may opt to offer a grace period, allowing participants to roll over funds the following year.   

What is a Health Savings Account?

An HSA works similarly by allowing individuals to set aside pre-tax dollars from their paycheck for certain health-related expenses. Like with FSAs, individuals who contribute pre-tax dollars to an HSA also benefit from not having those contributions taxed at the end of the year.

HSAs are continuing to grow in popularity. As many as 34 million Americans currently have an HSA as of June 2022, which is up 9% since June 2021. Most HSA users are savers and spenders, while only about 10% invest and another 10% are retirees. When it comes to HSA spending, there are two key points that employers should be aware of:

1. HSA users only spend HSA funds when they need to, and
2. HSA users only buy health-related products when they need to.

HSA Opportunities

However, unlike FSAs, HSA funds roll over from year to year and accrue interest, similar to a savings account. This means participants don’t have to worry about wasting money, as any unused funds can be rolled over into future years and accessed as needed without penalty. Additionally, HSAs provide more flexibility than FSAs as they allow individuals to use their saved money for virtually any health care expense – not just those related directly to medical needs like doctor visits or prescriptions – which opens up more opportunities for saving on out-of-pocket costs. Additionally, HSAs are portable – meaning if an employee leaves your company, they can take the account with them.  

HSA Limitations & Challenges

The most significant limitation of HSAs is that participants can only enroll if they are also enrolled in a high-deductible health plan (HDHP). Additionally, if they are on Medicare, covered by a health care plan that is not an HDHP, or claimed as a dependent on someone else’s tax return, they cannot enroll in an HSA.

HSA pros outweigh the cons; however, with an HSA, participants have to pay a higher deductible. But if they don’t anticipate any major medical emergencies, then an HDHP will cost less per paycheck.

Another challenge with HSAs is the wait for the money to grow. This is just like a regular savings account, and it will take time, but the payoff will be well worth the wait.

Spending v. saving

FSAs and HSAs offer great ways for employees to save money on taxes while also helping manage their healthcare costs. But how should these accounts be used? Should the focus be on saving or spending?

The benefits of saving

Saving is always beneficial regarding finances, especially since employees can use these accounts to reduce their tax burden each year. While FSAs don’t offer much when it comes to long-term savings, they are great for short-term relief.

The pre-tax benefit from both FSAs and HSAs is a big bonus as the accounts can let employees’ savings accumulate throughout the year. HSAs specifically have the added benefit of allowing participants to invest or build up a nice nest egg for future medical expenses or other healthcare needs.

The benefits of spending

On the other hand, spending FSA or HSA funds can also be beneficial. For example, if employees find themselves facing expensive medical bills that would otherwise require out-of-pocket payments, having access to extra pre-tax dollars in their accounts can help cover those costs without leaving them strapped for cash. Or if specific preventive care measures may not be covered by insurance but are essential for maintaining good health, such as vision exams or dental checkups, being able to pay for those out of pocket using pre-tax dollars can save employees some much-needed money.

How FSAs and HSAs can work together

Whether it comes to saving or spending, the key difference between an FSA and an HSA is that a Medical FSA can only be used for medical expenses. At the same time, money from an HSA can also be used for non-medical expenses like retirement savings or investments. In other words, funds from an FSA cannot be transferred into an HSA, but funds from an HSA can be transferred into an FSA if needed.

For employees, combining both accounts provides maximum flexibility when paying medical bills. Employees who want to save money on taxes can contribute to both accounts as much as possible – up to the contribution limits – and use funds in the appropriate account when needed.

While FSAs may provide short-term relief through their flexibility and shorter expiration period; HSAs provide greater savings potential over time with added tax benefits that can help reduce costs in the future.

The bottom line

When choosing between offering FSAs or HSAs as part of an employee benefits package, employers must understand each one’s unique features to determine which one is best for their workforce. Offering both accounts can be an excellent way for employers to offer comprehensive benefits packages while still managing costs.

By providing these two options, employers give their employees more control over spending their healthcare dollars while providing greater flexibility when saving for future medical expenses. Ultimately, this helps ensure that your workforce is happy and healthy no matter what life throws at them.