How to Use a HSA or FSA to Pay for Braces

To understand FSAs and HSAs, we need to begin with a bit of finance 101. What is an HSA, what is an FSA and how are they different? At a high level, both HSAs and FSAs are ways that the IRS has set up for you to save money on medical expenses. They are similar, but different important ways. So we will now describe each.

Let’s start with FSA. FSA stands for Flexible Savings Account. It is typically offered by large employers and is something that you would ask to have set up during open enrollment for the following year. The way it works is that you have your employer set aside a certain portion of your paycheck BEFORE ANY TAXES ARE APPLIED to be used for medical expenses. You may then use this money for medical expenses without these funds ever being taxed. Let’s look at an example. Let’s say you get $1000 of gross pay on your paycheck and you pay 30% in taxes. Normally you’d get a check for $700 after taxes. Now let’s say you put $100 of what you earned into your FSA account. Your paycheck would now be $900 less $270 in taxes, so $630. But you also have the $100 you can spend to pay medical bills (typically your employer will provide you with a credit card tied to your FSA account). As a result, in this example, you end up with $730, or $30 more than if you did not have an FSA. And the FSA funds, as long as they are used for medical expenses, are NEVER taxed. To use these funds, you do need to present evidence to the FSA administrators that the funds were actually used to pay for a medical expense. In most cases, a simple receipt from the doctor or store (there is a lot of flexibility in what is considered a medical expense, so often things like eyeglasses, over-the-counter medicines, and even things like massages may be acceptable depending on the rules of the plan provided) will suffice. Is there a downside or risk of using an FSA? Yes. The IRS rules say that if you do not use your FSA funds for the year, whatever balance is remaining gets forfeited to the IRS. Typically (those this does vary by FSA plan) there is a grace period of a couple of months beyond the New Year to spend these funds, but it is important that you plan and monitor this account. The net-net is that FSAs are a great way to save a significant amount in taxes if you have a known medical expense for the coming year (like paying for braces!) but is not something that most advisors would recommend doing if you do not know if you will have any medical expenses of any significance in the year to come. For 2020, employees can contribute up to $2,750 to health FSAs (and yes, spouses can BOTH do this).

An HSA (which stands for Health Savings Account) is similar to an FSA in that it can help pay for medical expenses tax-free, but is different in some key important ways. Unlike an FSA, you do not need your employer to offer an HSA. Setting up an HSA has two key components. First, you need to select and HAS-eligible insurance plan. This will be a high-deductible plan, but the tax savings from the HAS will almost certainly outweigh the added deductible expense you incur. Once you have an HSA eligible plan, you would open up an HSA account. This typically can be done at your local bank. You would then contribute to this account. While you are obviously funding the account with after-tax money, when you file your taxes the following year you will be able to deduct whatever amount you contributed to your HAS from your taxable income. This will either reduce the amount of taxes you owe or increase your tax refund. The tax benefit is based on the money you contribute, not on the money you use from this account. One key difference from an FSA is that the IRS will not take this money from you if you don’t use it. In fact, it can accumulate year-over-year. Every year, the amount you put in is the amount you will be able to deduct from your taxes when you file. The new HSA limits for 2020 are $3,550 for individuals and $7,100 for families.

Can you have both an FSA and an HSA? Generally speaking, FSAs and HSAs cannot be used at the same time, although a limited-purpose, or "HSA-compatible" FSA, will allow individuals to also receive benefits from an HSA. A limited-purpose FSA is a healthcare spending account that can only be used for eligible vision and dental (and orthodontic!) expenses. So, as it relates to paying for braces, if your employer offers a limited purpose FSA, you can indeed use both.

Another nice element in using these tax-saving tools for paying for braces is that our services are spread out over time. This offers two main advantages. First, depending on when during the year you start treatment, you can spread your payments across 2 or even 3 separate years and as such use FSA or HSA funds to pay for the entire cost of treatment—yielding you as much as $1500-$2000 in tax savings. Additionally, as our services are spread over time, we can, quite legally, adjust the timing of our payment arrangements to better optimize the use of your FSA and HSA accounts.