October 2, 2006
For millions of Americans, workplace benefits open enrollment for 2007 is just weeks away. Consider this: By simply checking "same as last year" on your enrollment form, you may miss an opportunity to save hundreds of dollars on your taxes.
Check to see if your company provides health care and dependent care flexible spending accounts (FSAs), also known as reimbursement accounts. These accounts let you pay for eligible out-of-pocket medical and child care expenses on a pre-tax basis – that is, before federal, state and Social Security taxes have been deducted from your paycheck.
By contributing to an FSA to cover expenses you would have paid for anyway, you reduce your taxable income by that amount, which in turn lowers your tax bill. Here’s how it works: Say Frank earns $35,000 a year and has a marginal tax rate of 25 percent. If he put $1,000 in the health care FSA and $3,000 in the dependent care FSA, his taxable income — the number the IRS uses to determine how much tax is owed — would be reduced to $31,000. Frank’s taxes would be lowered by $1,000 — money that stays in his pocket instead of going to Uncle Sam. While your own tax situation will likely vary, depending on marital status, deductions and other factors, the savings could still be significant.
You can use a health care FSA to pay for any IRS-allowed medical expenses not covered by your medical, dental or vision coverage, including: deductibles and co-payments for office visits and prescription drugs; braces or dental work over plan limits; contact lenses, glasses or lasik surgery; over-the-counter medicines (aspirin, cough syrup, etc.), acupuncture and chiropractic care; smoking cessation programs; and many more. Check IRS Publication 502, Medical and Dental Expenses, for a complete list of allowable expenses (www.irs.gov/pub/irs-pdf/p502.pdf).
A dependent care FSA lets you use pre-tax dollars to pay for eligible expenses related to care for your child, disabled spouse, elderly parent, or other dependent incapable of self-care, so you (and your spouse) can work.
Keep in mind these FSA restrictions:
You can learn more about how FSAs work on Practical Money Skills for Life, a free personal financial management site sponsored by Visa Inc.
If your company does not offer FSAs, talk to a financial advisor about other ways to save taxes on health and dependent care-related expenses. A few minutes of your time filling out a simple form can add up to big savings for you next year.
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