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When To Bump Up Your FSA Contributions

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If your employer offers flexible spending accounts (FSAs) for health care or dependent care, you have a short window of time to maximize your FSA contributions.

The pandemic threw many people’s medical and child care budget plans out the window, leaving some FSA holders with extra funds in their accounts that normally went to these expenses—money they’d ordinarily forfeit to their employer at year’s end.

Thanks to new federal legislation, employees can keep unspent FSA money, change contributions in the middle of the year, contribute higher amounts, and access FSA funds after leaving a job—at least until the end of 2021. That means this year could be the ideal time to stash more money in an FSA.

How do FSA contributions work?

Is Now A Good Time To Bump Up Your FSA Contributions? - How do FSA contributions work?

Generally offered by an employer, a flexible spending account is a place to stash savings for health care or dependent care costs. A key advantage to FSAs is that they’re made up of pre-tax dollars directly taken out of your paycheck, so you don’t have to pay taxes on any funds you withdraw.

FSAs are regulated by the IRS, so they have certain restrictions regardless of your employer. They have annual contribution limits, much like retirement accounts. And any money you don’t spend within the plan year gets forfeited and returned to the company—so you don’t want to contribute more than you expect to use.

There are two kinds of FSAs, and employers can offer either or both.

Health Care FSAs (HCFSAs)

Health Care FSAs (HCFSAs) pay for medical costs like deductibles, copays, medications, dental procedures, and other specific health needs. They’re different from individual health savings accounts or HSAs, which aren’t connected to an employer (you can have either an HSA or a health care FSA, but not both). Some companies offer limited-purpose FSAs for a smaller range of health care expenses like dental and vision.

The HCFSA yearly contribution limit is $2,750, and the employer usually fronts this money at the beginning of the plan year. That way you can start making withdrawals immediately if you need to, and pay it back as the year goes on. Unused funds up to $550 can be “carried over” to the following year.

Dependent Care FSAs

Dependent Care FSAs (DCFSAs) pay for child care, like daycare, preschool, and summer camps, for dependents under 13. If you care for elderly adults who you claim as dependents on your tax returns, DCFSAs can cover some of their needs as well.

In most years the annual contribution limits for DCFSAs have been $5,000 for single taxpayers and married couples filing jointly, and $2,500 for married taxpayers filing separately. The funding process works differently than health care FSAs since you need to contribute funds directly before spending them. But the “use it or lose it” policy is still in effect—when the year ends you’ll forfeit any unused funds.

When can you contribute to an FSA?

Usually, companies have limited annual enrollment periods before new “plan years,” starting either in January with the calendar year or in another month the employer chooses (such as the beginning of the company’s fiscal year). If you want to sign up for an FSA or change your contribution amount, you have to do it during this time.

The exception is if you experience an IRS-determined “qualifying event” outside of the enrollment period — a major life event like changing jobs, getting married or divorced, or having a child. Contribution changes within 30 days of a qualifying event are permitted.

FSA usage during the pandemic

The COVID-19 pandemic changed a lot of spending priorities, including the way people used (or didn’t use) their FSA funds.

Let’s say you set aside money for daycare expenses in a DCFSA. Your children’s daycare facility closed because of the pandemic, so you no longer had the expense — but since FSA money was earmarked for that specific cost, you can’t use it to pay other bills. Or you were planning on using HCFSA funds for an elective medical procedure, but you and your health care provider decided to put off the procedure and avoid COVID-19 risk. Again, you’re stuck with funds you can’t use.

The opposite scenario happened to FSA holders as well; the contribution limits weren’t enough for their needs. Some people had higher medical bills than they anticipated, and others faced unexpected school closures and had to find, and fund, care for school-age children while they went to work.

Planning for FSA contributions in 2021 hasn’t been easy for employees either, with so many factors still up in the air. If parents don’t yet know whether schools, summer camps, or daycare centers will be open or closed during the year, it’s hard to decide how much to budget for these expenses. And health care costs are always a little unpredictable — much more so during a pandemic when hospitals and care facilities are still scrambling to get everyone treated.

Fortunately, the federal government realized these unusual circumstances mean employees need a lot more “flexible” in their flexible spending accounts.

How new legislation affects FSAs 

Is Now A Good Time To Bump Up Your FSA Contributions? - how new legislations effect FSAs

Several federal laws passed in 2020 and 2021, designed to ease the burden of the pandemic, including temporary fixes for FSAs. The new rules are short-term, lasting only until the end of 2021 (unless any provisions are extended). But for now, FSA holders can:

  • Carryover more money in unused funds.
  • Contribute more pre-tax dollars to dependent care FSAs, OR claim a larger dependent care tax credit.
  • Make a one-time midyear contribution change without a qualifying life event.

…and make more changes described below.

Higher contribution limits for DCFSA

For the 2021 calendar year, dependent care FSA holders have a chance to double their pre-tax contribution limits, plus a little extra.

Single taxpayers, and married couples filing jointly, can contribute up to $10,500 this year. Married couples filing separately can contribute up to $5,250 each.

The health care FSA contribution limit is still the same for 2021, at $2,750 per person.

Increased dependent care tax credits for non-FSA holders

If your employer doesn’t offer a dependent care FSA (or if you opt not to enroll), you can still claim a child care tax credit. For the 2021 tax year, you can claim $8,000 in expenses for one qualifying dependent and $16,000 for two or more dependents.

These changes are also temporary for 2021, but they’re a huge bump from the normal child care tax credit cutoffs of $3,000 for one dependent and $6,000 for two or more.

Extended enrollment periods

At least for 2021, you don’t have to wait for the special enrollment period to roll around again before signing up for an FSA. You can start a health care or dependent care FSA, or cancel an existing one, during the year without waiting for a qualifying event.

Extra time for contribution changes

Similarly, you don’t need a qualifying event to increase or decrease your contribution amount — you can make what’s called a “mid-year election change” for a plan year ending in 2021, though you’re limited to a one-time change.

Longer carryovers for unused funds

The “use it or lose it” guidelines weren’t working for many FSA holders after the 2020 pandemic changed their financial priorities.

For health care FSAs, you can carryover all your unused funds from 2020 into 2021, and from 2021 into 2022. Compared to the usual rollover limit of $550 per year, this is a huge savings for people with leftover cash stuck in their HCFSA.

Dependent care FSA holders can also rollover any unused funds from the same years. Ordinarily, DCFSAs don’t allow any carryovers at all, so this perk is unusual.

If you didn’t tap your FSA funds last year but you know you’ll need the money this year, see if your employer offers temporary carryovers. You can add the leftover funds to a new account and top it off with another contribution to increase your pre-tax nest egg.

Longer grace periods

Employers who don’t permit FSA carryovers might use “grace periods” instead, which are extended windows of time to spend FSA money after the plan year ends. Normally, the grace period only lasts two and a half months, so you need to spend down the balance quickly — which could be difficult if you have thousands left over.

The new rules extend grace periods to 12 months for both types of FSAs. If you have extra FSA money at the end of 2020 or 2021, you basically have the entire next year to spend it on qualifying expenses.

You probably won’t be able to choose between a carryover or a grace period — employers can only offer one option, not both, and they’re not required to provide either.

Access HCFSA funds after leaving your job

In a typical year, you lose unspent FSA money once you leave a job for any reason, though you can sometimes extend health care FSAs by signing up for COBRA coverage.

For 2020 and 2021 plans, former employees get until the end of the plan year to spend their extra health care FSA funds, or get reimbursed for the excess amount by their old employer. This applies even if you don’t opt for COBRA after leaving the job. 

If you’re one of the many, many employees who got laid off or furloughed in 2020, you can take FSA funds with you as a cushion to meet medical expenses, without the hassle (or cost) of signing up for COBRA.

More products eligible for HCFSA spending

The government expanded the list of items you can purchase with HCFSA money — the major inclusions are menstrual products and over-the-counter medicines with or without a prescription. Since these products make up a sizable portion of many people’s everyday health care expenses, you’ll have a lot less trouble spending down HCFSA funds.

This change is permanent; unlike the other provisions, it doesn’t expire after 2021. And it applies to any purchases made after January 1, 2020, which means you may be able to get older expenses reimbursed (as long as you kept receipts).

Should you make changes to your FSA contributions?

Is Now A Good Time To Bump Up Your FSA Contributions? - Should you make changes to your FSA contributions?

The FSA perks are designed as a temporary fix for COVID-related financial disruptions, not a permanent overhaul. Unless new legislation is passed to extend them, the new guidelines will expire at the end of your FSA plan year 2021 (which may or may not coincide with the end of the calendar year, depending on your plan specifics).

This means if you’re going to take advantage of increased flexibility for your FSA contributions, now is the time to do it. Keep in mind employers can offer any of the new FSA benefits, but they don’t have to, so find out what your employer’s willing to provide.

Adding an FSA

Maybe you didn’t think you needed an FSA during the enrollment period, but you’re facing more health or dependent care costs than you anticipated, or you want to reduce your taxable income while the more flexible FSA rules are in place.

While you can enroll in an account midyear during 2021 (employer permitting), you can’t use the money for any costs incurred before you enrolled — so the new FSA won’t cover old medical bills or child care debt, just expenses from here on out.

Increasing contributions

Should you bump up your contributions if you already have an FSA, and take advantage of the higher dependent care limits? There’s a huge bonus to contributing more than usual this year — with longer carryovers and grace periods, you’re a lot less likely to risk forfeiting unspent money.

Consider adding to your contributions if:

  • You spent more on health or child care in 2020 than you planned, and you expect to spend as much or more in 2021.
  • You saved FSA cash in 2020 by avoiding some health or child care costs, but you’re planning for these costs to ramp back up in 2021.
  • You spent most of your FSA balance earlier in the year and you want coverage for the rest of the year.
  • You had or plan to have a life change (like starting a medical treatment or sending a kid to preschool) that will increase your spending in FSA-qualifying areas.

Before you settle on an amount, estimate your potential 2021 health and/or dependent care costs as best you can — planning makes it easier to contribute the magic number that’s just enough but not too much.

And find out if your employer offers carryovers or grace periods, so you know just how long you have to spend the balance.

Decreasing contributions

Since you can make midyear changes, there are a few reasons you might consider decreasing contributions to an FSA:

  • You’re deferring an elective non-essential medical procedure to save money.
  • Your child care expenses will decrease for the foreseeable future (for instance, if you or someone else plans to watch the kids while working from home, or you opted for a “staycation” over summer camp).
  • You joined a partner or spouse’s health care plan and you don’t need as much HCFSA cash.

FSA contributions reduce your taxable income, so keep the tax bill in mind when calculating how much you might save — it’s possible upping your contributions will actually save more money in the long term.

Find out if your employer allows changes

The new FSA laws allow employers to pick and choose which changes they’ll let employees make to their accounts. Your employer may not approve the increased contribution amounts, for instance, but they may approve the grace period for spending old funds. Or they may set their own limits for how much money you can carry over. Some employers haven’t changed their FSA structure at all.

Get the specifics through your plan administrator, HR representative, or whoever handles FSAs at your workplace. They’ll tell you which benefits your employer is on board with, and what that means for your individual plan. Employers need to officially amend their plans, which takes time, so don’t worry if your workplace hasn’t done this yet — changes can be retroactively applied to your 2020 or 2021 plans even if your employer adopts them later in 2021.

Summary

This FSA flexibility is rare and only available for a limited time; 2021 will go by more quickly than we think. If you’re eligible for FSA changes and they make sense for your financial planning, don’t wait too long. 

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