NCPA - National Center for Policy Analysis

The Vagaries of Health-Care Flexible-Spending Accounts

August 8, 2001

Congress has long dithered over whether to permit tax deductions for medical expenses. Once upon a time it did -- but then it decided the allowance was too costly to government revenues. So it largely eliminated the deduction, with the exception of flexible-spending accounts for health care.

FSAs allow workers to divert some of their salary, before taxes, into such an account for medical expenses during a calendar year. But there are two catches. Workers have to guess the total of their medical outlays before the year begins, and they forfeit some of their hard-earned money if they guess too high. Second, employers are required to hand a windfall to FSA participants who leave their job.

  • For example, say an employee signs up for a $4,800 FSA -- with $400 a month to be deducted from his paycheck.
  • If he quits on Jan. 31 -- with only $400 having been deducted so far -- he can hit his employer up for $4,800 in unreimbursed expenses.
  • The forfeiture rule makes participants timid with the FSA -- and the windfall rule makes employers timid.
  • As a result, just one-fifth of workers eligible to put money into FSAs do so.

Actually, forfeitures average only about $16 per participant at present. The major reason that figure is so low is that participants with large balances left in their accounts as the year draws to a close go on a medical spending binge -- with designer eyeglasses being a favorite purchase.

Critics accuse Congress with coming up with a medical subsidy that is both complicated and stupid.

Source: Ira Carnahan, "Time to Operate," Forbes, August 6, 2001.


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