HRA, HSA vs. FSA Healthcare Saving Accounts - Which is best?

Take-aways:

1. HRAs are solely funded by employers and offer tax-free reimbursements for incurred medical expenses, FSAs allow employees to contribute a portion of their regular earnings for qualified expenses, and HSAs are personal savings accounts offering tax-free benefits for current and future qualified medical and retiree health expenses.  
2. Each account type has specific rules about what qualifies as reimbursable health-related expenses; while all three cover deductibles, co-pays, prescriptions, and some over-the-counter medications, only HRAs often cover dental and vision care not covered by regular health insurance.  (Source: IRS)
3. FSA can be beneficial for those with high healthcare needs due to immediate availability of funds, HSA can be a good choice for self-employed individuals providing tax-saving benefits, and for those with a High Deductible Health Plan (HDHP), an HSA can help cover higher out-of-pocket costs with pre-tax dollars.  

Understand HRA, FSA, and HSA

According to the Internal Revenue Service (IRS), an HRA is an employer-funded plan that reimburses employees for incurred medical expenses not covered by the company's standard insurance plan. An FSA is an account that allows employees to contribute a portion of their regular earnings to pay for qualified expenses, such as medical or dependent care expenses. An HSA, on the other hand, is a personal savings account that allows individuals to pay for current health expenses and save for future qualified medical and retiree health expenses on a tax-free basis.

Key Differences Between HRA, FSA, and HSA

While these three options share the objective of helping individuals save on healthcare costs, they differ in several key aspects. Some of these differences include eligibility criteria, tax advantages, and whether the employee or the employer owns the account.

Eligibility Criteria for HRA, FSA, and HSA

Navigating the eligibility criteria for HRA, FSA, and HSA can be daunting. Below is a simplified guide:

Eligibility for HRA

To qualify for an HRA, you must be an employee of the company offering the HRA. HRAs are solely funded by the employer, which means that employees cannot contribute to them, and the reimbursement from an HRA is tax-free.

Eligibility for FSA

In order to qualify for an FSA, you must be an employee of a company that offers an FSA plan. Self-employed individuals are not eligible for FSAs. The IRS does not mandate employers to offer FSAs, so it's at their discretion whether they provide this benefit.

Eligibility for HSA

An HSA is available to taxpayers who are enrolled in a High-Deductible Health Plan (HDHP). The IRS has set specific criteria for what constitutes a high deductible plan. Unlike HRAs and FSAs, HSAs can be funded by both the employee and the employer, and the funds belong to the employee.

What does being tax-free mean?

Tax-free" refers to certain types of financial transactions, accounts, or types of income that are not subject to taxes by the government. When something is tax-free, it means you are not required to pay tax on it. So in the context of Health Savings Accounts (HSAs), Flexible Spending Accounts (FSAs), and Health Reimbursement Arrangements (HRAs), "tax-free" refers to the fact that you don't pay taxes on the money as it goes into the account, as it grows within the account, or as it comes out of the account (provided the money is used for qualified healthcare expenses in the case of HSAs and FSAs). This results in significant tax savings and is a major advantage of these types of accounts. For example, if you make $50,000 a year and decide to contribute $1000 to a health saving account, you will only be taxed on $49,000 ($50,000 - $1000). 

How Much Can I Contribute to HRA, FSA, and HSA?

HRA: Unlimited Contributions and Tax Benefits

There is no maximum contribution limit for HRA, enabling employers to contribute as much as they deem necessary. The reimbursements from the HRA are generally tax-free, provided they are used for qualified medical expenses.

FSA: Use-it-or-Lose-it Policy and Tax Deductions

FSAs have a maximum contribution limit set annually. For 2022, the FSA contribution limit is $2,750 per employee. An important aspect of an FSA is its use-it-or-lose-it policy, which means any funds left unused by the end of the plan year are forfeited. Despite this drawback, FSAs offer great tax advantages as contributions are deducted from your paycheck on a pre-tax basis, reducing your overall taxable income.

HSA: High Contribution Limits and Triple Tax Advantages

HSAs are available to individuals enrolled in a High Deductible Health Plan (HDHP). HSAs offer triple tax advantages: contributions are tax-deductible, the account grows tax-free, and withdrawals for qualified medical expenses are tax-free.

For 2022, the HSA contribution limits are:
- Individual coverage: $3,650
- Family coverage: $7,300

What can I use HRA, FSA, and HSA to pay for?

Understanding what you can use your HRA, FSA, or HSA for is crucial in utilizing these accounts effectively. All three types of accounts can be used for a range of health-related expenses, but the specific rules about what qualifies can vary.

Note: In the table above, "Yes*" indicates that these categories were updated in 2021 to allow for over-the-counter drugs and menstrual care products to be purchased without a prescription

Qualifying Expenses for HRA

HRAs can be used for a wide variety of health-related costs. According to the IRS, qualifying expenses include deductibles, co-pays, prescriptions, and some over-the-counter medications. Additionally, HRAs often cover expenses like dental and vision care, which may not be covered by your regular health insurance.

Qualifying Expenses for FSA

FSAs cover a broad range of health expenses. These can include prescription medications, over-the-counter drugs with a prescription, health insurance deductibles, co-pays, and certain medical equipment like crutches or bandages. However, beginning in 2021, over-the-counter drugs no longer require a prescription to qualify for FSA reimbursement. Additionally, menstrual care products are considered qualified medical expenses.

Qualifying Expenses for HSA

HSAs have similar rules to FSAs regarding qualifying expenses. You can use your HSA to pay for deductibles, copayments, prescriptions, and other health-related expenses that your insurance plan doesn't cover. Like FSAs, HSAs can now be used for over-the-counter drugs without a prescription and menstrual care products.

What are some non-qualifying expenses?

• Over-the-counter Medications without a Prescription: Prior to 2020, over-the-counter medications without a prescription were not eligible for reimbursement. However, due to the CARES Act, these are now generally considered qualifying expenses. There could still be some exceptions depending on the specifics of your plan.
• Cosmetic Procedures: Procedures like cosmetic surgery, teeth whitening, and hair transplants are not considered medically necessary and are generally not covered.
• Personal Use Items: Items that are beneficial to general health like vitamins (unless prescribed), toiletries, and gym memberships are generally not covered.
• Non-prescription Drugs: Non-prescription drugs (except insulin) are not considered qualifying medical expenses.
• Household and Living Expenses: Things like diapers, toiletries, and other general living expenses aren't covered.

Can I pay health insurance premiums with HRA, HSA, or FSA?

Generally, you cannot use your HSA or FSA to pay health insurance premiums. Some HRAs may allow for this, but it varies by employer.

• HRA: Whether you can use your HRA to pay health insurance premiums will depend on how your employer has set up the plan. Some HRAs do allow for the payment of premiums, but this is not universal. Check with your employer for specific details.
• HSA: You can use your HSA to pay for certain insurance premiums including COBRA continuation coverage, health plan coverage while receiving unemployment compensation, and Medicare (but not Medigap) premiums. However, you can't use an HSA to pay for individual or family health insurance premiums unless you're on COBRA or receiving unemployment compensation.
• FSA: FSAs generally cannot be used to pay health insurance premiums. They are intended for out-of-pocket healthcare costs.

Choosing The Best Health Savings Option Based on Your Circumstances

When it comes to selecting the best health savings option, your personal circumstances and healthcare needs play a crucial role. Here are the best possible choices for various scenarios:

High Healthcare Needs - Opt for an FSA

If you regularly need medical care or medications, an FSA can be a good choice because of the immediate availability of the funds. You get access to the full annual contribution limit at the start of the plan year, regardless of how much you've actually put into the account so far. This is different from an HSA, which only allows you to spend what you have actually contributed. Note that FSA funds are generally "use-it-or-lose-it" each year, although some plans allow a grace period or a rollover of up to $550.

Self-Employed - An HSA Could Be Your Best Bet

For self-employed individuals, an HSA provides multiple benefits. Not only does it allow you to save pre-tax dollars for healthcare expenses, but it also provides a potential tax-saving investment vehicle. HSA contributions are tax-deductible, and withdrawals for eligible medical expenses are tax-free. Additionally, any interest or other earnings on the money in the HSA grow tax-free. Note that to qualify for an HSA, you must be covered under a High Deductible Health Plan (HDHP).

High Deductible and Employer-Sponsored Insurance - Consider an HSA

If your employer provides a High Deductible Health Plan (HDHP), an HSA can be a beneficial choice. HDHPs often come with lower premiums but higher out-of-pocket costs. An HSA can help you cover these out-of-pocket costs with pre-tax dollars. Also, many employers contribute to employee HSAs, which is essentially free money towards your healthcare expenses. Unlike FSAs, HSA funds roll over year after year, meaning you don't have to worry about losing unspent money at the end of the year.

Frequently Asked Questions

Can I Have More Than One Type of Account?

Generally, you can only have an FSA or an HSA, not both. However, under certain circumstances, you may be able to have a limited-purpose FSA along with an HSA.

Are My Contributions Tax-Deductible?

Yes, contributions to both FSAs and HSAs are made pre-tax, lowering your overall taxable income.

What Happens to Unused Funds at the End of the Year?

Unused funds in an FSA may be forfeited at the end of the plan year, depending on your employer's plan rules. HSA funds, on the other hand, roll over indefinitely, providing a long-term saving option.

What Is the Difference Between These Accounts and ICHRA and QSEHRA?

Individual Coverage Health Reimbursement Arrangements (ICHRA) and Qualified Small Employer Health Reimbursement Arrangements (QSEHRA) are employer-funded health benefits used to reimburse employees for personal health care expenses. Unlike the HSA and FSA that are funded by the employee, these are completely funded by the employer.

Can I Have These Accounts Without Health Insurance?

No, both FSAs and HSAs require you to have health insurance. An FSA is often part of an employer's benefits package, while an HSA requires a qualifying high-deductible health plan.

Source:

• HSA, FSA, and HRA Comparisons: https://www.irs.gov/pub/irs-pdf/p969.pdf
• HRA: https://www.irs.gov/government-entities/federal-state-local-governments/faqs-health-reimbursement-arrangements
• FSA: https://www.irs.gov/taxtopics/tc502
• HSA: https://www.irs.gov/publications/p969
• HSA: https://www.treasury.gov/resource-center/faqs/Taxes/Pages/Health-Savings-Accounts.aspx
• FSA: https://www.healthcare.gov/glossary/flexible-benefits-plan/
• HSA: https://www.healthcare.gov/glossary/health-savings-account-HSA/
• High-Deductible Health Plan (HDHP): https://www.mayoclinic.org/healthy-lifestyle/consumer-health/in-depth/health-savings-accounts/art-20044058
• Understanding HRAs: https://www.thebalance.com/what-is-a-health-reimbursement-account-hra-4147468
• Understanding FSAs: https://www.thebalance.com/flexible-spending-account-rules-4147461
• Understanding HSAs: https://www.thebalance.com/hsa-rules-and-regulations-4152945