Focus, Government, and Health Care

Flexible accounts to have new limit

Employee benefit could increase tax liability for worker and company.

November 10, 2012
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It may not be as flexible next year as it was previously.

When the New Year arrives, another provision in the Patient Protection and Affordable Care Act will kick in —and this time it will affect the flexible spending accounts employees have established through their employers.

Starting Jan. 1, flex accounts will have a mandatory limit of $2,500 per year, per employee.

In previous years, a worker could be reimbursed for as much as $5,000 annually for expenses that involved caring for a dependent, or $2,500 each for couples who filed separate returns. And there wasn’t a statutory limit on expenses for an employee’s health care account.

Often, employers would set a limit for personal medical expenses.

The flexible spending accounts, found in Section 125 of the nation’s tax code, have offered significant tax advantages to both employees and employers.

For employees, they used pre-tax dollars to pay for their qualified expenses. That meant they didn’t pay federal, state or local income taxes or FICA taxes on the FSA dollars they spent. Employers had their shares of FICA and FUTA taxes reduced because employees were spending pre-tax dollars.

But those tax situations are likely to change, at least for some, when the limit drops.

“Flexible spending accounts already caused a stir last year when provisions of the health care law went into effect disallowing individuals to use FSA distributions for over-the-counter drugs, without a prescription,” said Amy Kaminski, vice president of Compdata Surveys, in a release.

“It will be interesting to see how employee enrollment rates to FSAs are influenced over the next year once the contribution limit goes into effect,” she added.

One concern is the new limit is likely to increase the tax burden for employees because they won’t be able to commit as much of their salaries to the FSAs, which will raise their taxable-income levels. They also will have to use more taxable dollars to pay for medical services and, say, child care costs.

Employers could see their shares of the FICA and FUTA taxes go up because fewer workers might enroll in an FSA, and fewer dollars might be contributed to the accounts because of the new limit.

Compdata Surveys recently released its latest Benefits USA report. In it, the firm found that 89.7 percent of companies offered a flexible spending account to their employees, and 23.6 percent of those workers enrolled in one. Compdata reported it compiled its information from more than 4,500 benefit plans that covered over 13 million employees across the country.

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