HSA vs. FSA: Understanding Tax-Advantaged Healthcare Accounts

Worried about paying for health care costs? You're not alone. A survey of 1,000 U.S. adults by AccessOne released in late 2020 found that 66% of respondents were worried about paying for their medical expenses in 2021.

There are two tools, though, that can help ease the financial burden of paying for doctor's visits, dental work, trips to the eye doctor and other medical costs: a health savings account, or HSA, and a flexible spending account, otherwise known as an FSA.

Both of these account types allow you to save dollars that you can use to cover the co-payments you make when you visit a doctor, the cost of your child’s braces, monthly prescription costs and other medical expenses. Both can also lower your yearly tax bill.

You usually can’t have both an HSA and an FSA, though. And there are key differences between both account types. So how do you determine whether an HSA or FSA is right for you? Here's a look at the pros and cons of both account types.

Differences Between HSA And FSA

Health savings accounts and flexible spending accounts both offer tax advantages to consumers who use them to save money for qualified medical expenses. The big difference between the two lies in who owns them: Your employer owns and offers flexible spending accounts while individuals take out health savings accounts on their own.

FSAs also tend to have a limited open enrollment period, set by the employers offering them, while you can open and fund an HSA whenever you’d like.

The other big difference is what happens to your funds after the plan year ends. With an FSA, the money that you don’t use will disappear. With an HSA, the money you don’t spend during the plan year remains in your account.

HSA

How does a health savings account work? Let's look at an example: Say Alex wants to save money to cover expenses such as her children's braces and the copayments she must make at her doctor's office.

First, Alex must determine how much she wants to contribute to her HSA. In 2022, an individual can contribute a maximum of $3,650 to an HSA throughout the year. Families can contribute a total of $7,300.

Alex decides that she'd like to contribute $100 a week to her HSA in 2022. That would give her a total contribution of $5,200 for the year, which is less than the limit for families. She has different options to make this contribution. She can take out an HSA on her own and set up a direct deposit so that $100 goes into her HSA each week. She could also write a check at the end of each month for the amount she'd like to deposit.

Many employers offer their own HSA plans. If Alex works at a company that does so, she can sign up for her employer's plan and have the appropriate amount deducted automatically from every paycheck, much like contributing to a 401(k) plan.

When Alex visits her doctor, takes her children to the dentist, stops by the optometrist's office or takes on any qualified medical debt, she pays with her HSA card – which looks like a debit card – upon checking out. The funds to pay for her medical expenses are then automatically removed from the card's balance.

If Alex ends 2022 with a balance remaining on her HSA card, those funds roll over into the next year. The funds in an HSA never expire.

Alex will also receive tax benefits by taking out an HSA. The money that she deposits in her account is not considered part of her income. This reduces her yearly income for taxes and lowers the amount of taxes she pays. HSA dollars are not taxed, either, when Alex withdraws them, as long as she spends the money on qualified medical expenses. Any interest her HSA earns or profits it makes through investments are also not taxed.

It's easy to qualify for an HSA, too. You must be covered under a qualifying high-deductible health plan and you must have no other health coverage except for what is allowed by the IRS. You also can't be enrolled in Medicare and can't be claimed as a dependent on someone else's tax return.

There are some drawbacks of an HSA plan. First, you will reduce your take-home income if you are funneling money in an HSA. These plans are also somewhat limited: You can only use the funds they hold for qualified medical expenses. If you have a non-medical financial emergency – say you need to buy a new transmission for your car – you can’t use the money you’ve saved in an HSA.

Then there’s the high-deductible health insurance plan you must also have if you want to qualify for an HSA. High-deductible plans are cheaper than other insurance plans, so you’ll pay less in premiums each year for your insurance coverage.

But, as the name suggests, these plans also come with far higher deductibles. This means you’ll have to pay more out of pocket every time you see a doctor, go in for surgery or receive other treatment before your insurance kicks in to cover the rest of your health costs. Because of this, high-deductible plans can be costly.

FSA

A flexible spending account (FSA) works much like an HSA but does have some differences. The big one? These accounts are only offered by employers. Individuals can only sign up for them through the companies for which they work. If Alex, then, wants to sign up for an FSA, she needs to work for a company that offers this perk to its employees.

If Alex finds a company that offers an FSA, she'll sign up and then determine how much of each paycheck she wants to contribute to the account. As of 2021, employees could contribute a maximum of $2,750 a year to their flexible spending accounts. There are no other eligibility requirements for an FSA. Unlike with an HSA, your other insurance coverage does not matter.

Alex can then use the money in her account to pay for qualified medical expenses. For Health FSAs, Alex could use the funds to pay for medical expenses not covered by her health insurance, including insurance deductibles, prescription drugs and medical devices.

Alex will need to be careful when deciding how much she wants to contribute to her FSA. Once you set your contribution amount, you'll generally have to wait until your company's next open enrollment period – which usually takes place once a year – to change it.

There are exceptions: If you experience a qualifying life event, such as the birth of a child or you get married or divorced, you might be able to change your contribution amount outside of your company's open enrollment period.

When Alex goes to her doctor, she can use a debit card provided by her company to cover her copayment. That money is then automatically deducted from her FSA. Some companies might require employees to cover medical costs upfront and then file a claim for reimbursement.

An FSA does offer tax benefits. When you deposit money into an FSA, you'll reduce your overall yearly income by whatever amount you contribute. This will also reduce your yearly income tax bill. The dollars you deposit in an FSA also aren't taxed when you use them to pay for qualified tax expenses.

The downside to an FSA? You can't roll over most of the money you don't spend into the next year. If you end the year with a large balance in your FSA, then, you might lose most of that money. There are some safeguards here.

Many employers offer a grace period of up to two-and-a-half extra months during which you can spend your unused FSA dollars. And some employers might allow you to roll over as much as $550 into the next year.

There is some legislative protection, too. Thanks to a measure passed by Congress in 2020, employers have the option to allow employees to rollover all their unused FSA funds at the end of 2021 into 2022. Be careful, though: Employers have the option to offer this benefit. They are not required to.

HSA Vs. FSA Comparison Chart

	HSA	FSA
Eligibility Requirements	Must be covered under a high-deductible health insurance plan; In most cases, must have no other health insurance coverage.	You must work for an employer that offers a flexible spending account. Unlike with an HSA, your other insurance coverage does not matter.
Account Ownership	Individual. You own your own account.	You can only get an FSA through your employer. If your employer does not offer such accounts, you can’t apply for one individually.
Annual Contribution Limit	Individual: $3,650 Family: $7,300	Individual: $2,750
End-Of-Year Rollover	Yes	No. Though employers can offer exceptions because of the COVID-19 pandemic.
End-Of-Employment Rollover	Yes. The money in your HSA stays with you even if you quit your current job.	No. You do have 90 days after leaving a job to spend the leftover money in your FSA.
Flexible Adjustments	You can change the amount you contribute to your HSA at any time during the year.	Can usually only change your contribution amount during your employer’s open enrollment period.
Investment Allowed	Yes. Once your HSA reaches a certain balance – often $2,000 – you can invest a portion of your funds in mutual funds.	No. FSA funds can’t be invested.

Common Qualified Medical Expenses

You can only use the funds in your HSA and FSA for what the IRS defines as qualified medical expenses. Fortunately, there are plenty of expenses that you can cover with the money you’ve saved in these accounts

Here is a list of some of the most common medical expenses you can cover with your accounts:

• Insurance copayments
• Insurance deductible payments
• Childbirth classes for expectant mothers
• Crutches
• Dental care, including braces, fillings, extractions and cleaning.
• Eye exams
• Eye surgery
• Eyeglasses
• Hearing aids
• Flu shots
• Infertility treatments
• Inpatient drug and alcohol treatment
• Occupational therapy
• Physical therapy
• Psychiatrist and psychologist visits
• Speech therapy
• Certain surgeries
• Wheelchairs
• X-rays
• Vasectomies

Be aware that this is just a partial list. It’s best to check with your medical providers to make sure that the treatment or medical care you are seeking counts as a qualified medical expense. It’s also easier today to shop for qualified items. You can try a site such as FSAstore.com, which will help you determine which healthcare costs can be covered by the funds in your accounts.

How To Decide Between An HSA And FSA

If you qualify for both an FSA and HSA, which one should you choose? Not surprisingly, that depends on several factors.

1. How healthy are you?

To qualify for an HSA, you need to be covered by a high-deductible health insurance plan. While these plans come with lower premiums, they also require you to pay more upfront when you receive medical treatment. After you pay your deductible – which, as the name suggests, will be higher – your insurer will cover the rest of your treatment.

If you are young and healthy, then a high-deductible plan might not be as costly because, theoretically, you won’t need as much medical treatment and your high-deductible plan’s premiums will be lower. In this case, an HSA, which requires participants to be covered by a high-deductible health plan, might make financial sense.

2. Do you schedule a lot of doctor’s visits or other treatments?

But if you do visit the doctor on a regular basis, or you have family members who do, an FSA might be the better choice. With an FSA, you don’t need to sign up with a high-deductible health insurance plan. You can instead choose a plan with lower deductibles. While you’ll pay more in premiums for such a plan, you won’t have to pay as much out of your own pocket each time you visit a doctor or receive treatment.

3. How much does flexibility matter?

You will have more flexibility with an HSA. You can contribute more to an HSA each year than you can to an FSA. And if you don’t spend all the money in your HSA, you can roll it over into the next year. You can’t do this with an FSA. If you’re worried that you won’t spend all the dollars you deposit in your account, an HSA might make more sense.

4. Do you want to invest some of your funds?

If you want to invest some of your savings into mutual funds, you’ll need to take out an HSA. After you reach a certain amount in your account, often $2,000, you can choose to invest the excess dollars into mutual funds. You don’t have this option with an FSA.

The Bottom Line: Evaluate Your Own Needs To Maximize Savings

Deciding whether an FSA or HSA is best for you? Consider whether you can afford the higher deductibles that come with the high-deductible health insurance plan you’ll need to sign up with an HSA. If you’re worried that the insurance deductibles will put too much of a strain on your savings, an FSA might be the wiser choice.

Consider, too, how likely you are to spend all the money you save each year in your account. If you’re worried that you won’t spend it all, an HSA, which allows you roll your funds over into the next year, might make more sense.