Are FSA Contributions Pre-Tax? How They Lower Your Taxes

Flexible Spending Accounts (FSAs) are employer-sponsored plans allowing individuals to set aside money for eligible healthcare or dependent care costs. Contributions to an FSA are made on a pre-tax basis, reducing an individual’s taxable income and leading to potential tax savings throughout the year.

How Pre-Tax Contributions Work

Funds are deducted directly from an employee’s paycheck before the calculation of federal income tax, Social Security (FICA) tax, and Medicare tax. This means money allocated to an FSA is not considered part of an employee’s gross income for tax purposes. Consequently, the employee’s taxable income is reduced, leading to immediate savings on federal income tax liability.

This pre-tax treatment also lowers wages subject to FICA taxes, which fund Social Security and Medicare programs. For example, if an employee earns $50,000 annually and contributes $3,000 to a health FSA, their taxable income for federal income and FICA purposes effectively becomes $47,000. This reduction translates into lower tax withholdings from each paycheck, increasing net take-home pay. This pre-tax benefit applies equally to both Health FSAs and Dependent Care FSAs.

What You Can Spend FSA Funds On

FSA funds are for eligible expenses, which differ based on the type of FSA. For Health FSAs, eligible expenses include medical, dental, and vision costs not covered by insurance. Common examples are deductibles, co-payments, prescription medications, and certain over-the-counter medications. The IRS provides guidance on eligible medical expenses in Publication 502.

Dependent Care FSAs cover care for qualifying dependents, enabling the account holder and their spouse to work or look for work. Eligible dependents include children under 13 or a spouse or other dependent incapable of self-care. Covered expenses include payments for daycare centers, after-school programs, and summer day camps. These expenses must be incurred to allow the taxpayer to be gainfully employed.

Managing Your FSA Funds

Managing Flexible Spending Account funds involves understanding annual limits and specific usage rules. For 2025, the IRS allows employees to contribute up to $3,300 to a Health FSA. For Dependent Care FSAs, the contribution limit for 2025 is $5,000 per household. These limits are set annually by the IRS and can be adjusted for inflation.

The “use-it-or-lose-it” rule requires funds to be spent by the end of the plan year or they are forfeited. However, employers may offer exceptions, such as a grace period (allowing an additional 2.5 months to incur expenses) or a carryover option (permitting unused Health FSA funds, up to $660 for 2025, to roll into the next year). Employers choose one exception, not both. Maintain accurate records and receipts for all eligible expenses for proper reimbursement from an FSA.