How Grace Periods for Flexible Spending Accounts (FSAs) Work

Some employers offer a grace period option for their employees' flexible spending accounts (FSAs).

With an FSA, you pay money into an account during the year, and you can use this money to cover healthcare costs. But you might have some money left over at the end of the year. Your employer might give you a certain amount of time to spend this money: This time is called a grace period.

Grace periods are applicable to both health FSAs and dependent care FSAs. The period begins the day following the end of the plan year and normally lasts 2.5 months. However, employers will be able to extend the grace period through the end of the 2022 plan year.

Key Takeaways

  • Some flexible spending accounts (FSAs) offer grace periods. The employer sponsoring the plan decides whether to offer this period.
  • The grace period gives employees a little more time to spend their unused FSA funds, which normally expire at the end of the year.
  • Grace periods begin the day following the end of the plan year and normally last for 2.5 months. However, for the 2021 and 2022 plan years, they may be extended by up to 12 months.
  • Claims submitted during the grace period automatically come out of the prior year's remaining funds before drawing from the current plan year.
  • An FSA grace period is not the same as an FSA carryover provision, which allows you to carry over a certain sum for the next plan year without a time limit on when you have to spend it.

What Is an FSA?

An FSA is an account that you pay into throughout the year via payroll deductions. These medical spending accounts are offered by your employer. If you have a health plan through your job, you can use an FSA to pay for copayments, deductibles, some drugs, and certain other healthcare costs. Using an FSA can reduce your taxes.

You pay money into an FSA before it is taxed. In other words, you do not pay any taxes on the money you put into your FSA, thus reducing your taxable income. This means you’ll save an amount equal to the taxes you would have paid on the money you set aside. The savings you can make in this way can be substantial. If you earn $50,000 a year and have a tax rate of 30%, TurboTax estimates that putting $2,000 in an FSA account will net you $600 in savings.

You generally must use the money in an FSA within the plan year. But your employer may offer one of two options:

  • It can provide a grace period of up to 2.5 extra months to use the money in your FSA. However, for the past two years, this period has been extended by up to 12 months (see the section below)
  • It can allow you to carry over up to $550 per year to use in the following year.

Your employer can offer either one of these options but not both. Offering either of them is not required.

At the end of the year or grace period, you lose any money left over in your FSA. So it's important to plan carefully and not put more money in your FSA than you think you'll spend within a year on things like copayments, coinsurance, drugs, and other allowed healthcare costs.

You can use the funds in your FSA for a huge variety of costs and products, even alternative treatments like acupuncture. With a doctor's prescription, you may be able to use the FSA to help pay for a gym membership or massage therapy. First aid products are generally covered, including items like bandages. Many over-the-counter medications and remedies are covered, but only if you have a doctor's prescription for them. These include common products like aspirin, cold medicine, antacids, acne cream, ear wax removers, and wart removers.

Changes to FSA Grace Periods 2021-2022

Under the Consolidated Appropriations Act, 2021 (CAA), employers can extend FSA grace periods for the 2021 year. This means they can extend your grace period for 2021 out to December 2022. At the moment, this change will expire at the end of the 2022 plan year, at which point the grace period will revert to 2.5 months.

How FSA Grace Periods (Normally) Work

Funds remaining in the FSA from the prior plan year can reimburse any eligible medical expenses accrued during this grace period. The inclusion of the grace period extends the plan year to 14 months and 15 days as opposed to the 12-month actual plan. For calendar year plans, the grace period normally begins Jan. 1 and ends March 15. At the end of this period, you will lose all of the money in the account.

Claims submitted during the grace period are automatically taken out of the prior year's remaining funds before drawing from the current plan year; however, if you use a debit card for these expenses, the funds are drawn from the current plan year.

How FSA Grace Periods Work for 2021 and 2022

Major changes were made to FSA in late 2020 as part of the Consolidated Appropriations Act, 2021 (CAA). Among other changes, this legislation allowed employers to extend their FSA grace period.

Here's how it works. If you already have the FSA grace period extension built into your plan, and your plan year ends on Dec. 31, you have a deadline coming up on March 15. But thanks to the CAA, employers can expand this grace period up to 12 months from your deadline.

It's important to note two things, though:

  • This extension is at the discretion of your employer, so you should check with them as to what your FSA grace period deadline is.
  • These changes are temporary. They will expire at the end of the 2022 plan year, at which point the grace period will revert to 2.5 months.

FSA Grace Period Example

Imagine, for example, that your plan year ends on Dec. 31, 2022. At that point, you still have $150 left in unused funds in your FSA. On Feb. 5, 2023, you incur $400 in eligible medical expenses.

After your claim is submitted:

  1. The remaining $150 from the 2022 plan is used first for reimbursement.
  2. The other $250 comes out of the funds from the 2023 plan.

Grace Period vs. Carryover Provision

Employers can provide a grace period or a carryover provision for FSAs but not both. A carryover provision allows you to carry over a certain sum for the next plan year without a time limit on when you have to use it: That amount is $550 in 2021, rising to $570 in 2022. However, with both the grace period and carryover option, there was still a maximum $2,750 annual contribution limit in 2021, rising by $100 to $2,850 in 2022.

It is important to remember that you have until March 15 of the following year to incur eligible expenses but can submit claims for reimbursement up until March 31. This 16-day window is known as the run-out period. After the run-out period expires, all unused funds are forfeited.

How Long Do You Have to Spend 2021 FSA Money?

You usually have to spend FSA money by the end of the year or by March 15 of the following year if you have a grace period. However, the COVID-19 relief bill Congress signed in 2020 means you might have until Dec. 31, 2022, to spend FSA money earmarked for 2021. You should check with your employer if this deadline applies to you.

Can You Use 2021 FSA Funds for Prior Year Expenses?

No. You must incur expenses during the current plan year. The only exception to this rule is orthodontics: You can use your FSA funds to pay for braces, even if the braces were put on before the start of the current plan year.

What Happens to Unused FSA Money?

Unused FSA money returns to your employer. The funds can go toward offsetting administrative costs incurred during the plan year, or employers can also reduce annual premiums in the next FSA year, or the funds must be equally distributed to employees who enroll in an FSA for the next year.

The Bottom Line

FSA grace periods allow you to spend any money that is left in your FSA on medical expenses, even after the end of your plan year. Some employers offer this grace period, and some do not. It normally lasts for 2.5 months, but for the 2021 and 2022 plan years, your employer can extend it again at their discretion.

You should check with your employer to see if your FSA has a grace period, and if so, what the deadline is to spend the money in your account. Otherwise, you will lose this money at the end of the grace period.

Article Sources
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