What’s the Difference Between a Grace Period and a Run Out Period?

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A health flexible savings account, or health FSA, is an account that you contribute money to where the funds are dedicated to medical expenses, such as deductibles and copays. In 2021, you can contribute up to $2,750 to your health FSA, but that money must be spent during the plan year. A grace period and a run-out period are two important terms for those who have a health FSA.

Key Takeaways

  • A health flexible savings account, or health FSA, is an account that you contribute money to where the funds are dedicated to medical expenses, such as deductibles and copays.
  • An FSA grace period is an extended period of coverage at the end of every plan year that allows you extra time to incur expenses to use your remaining FSA balance after the close of the plan year. 
  • An FSA run-out period is a timeframe in the new plan year during which you can file claims for expenses incurred in the previous plan year. 

What Is an FSA Grace Period?

An FSA grace period is typically a two month and 15 day period following the end of the plan year, although employers decide if you get a grace period and how long it lasts. During this time, FSA owners must use any remaining funds leftover from the previous plan year. If the funds are not used during the grace period, they are forfeited.

Your employer decides the length of the grace period, although the maximum grace period (per Internal Revenue Service (IRS) rules) is two months and 15 days. If your employer doesn’t allow a grace period, they might offer a rollover option. A rollover enables FSA owners to rollover up to $500 of unused health care FSA dollars from the previous year to spend at the start of the new plan year. Only one of these options can be used, but an employer is not required to use either of these options.

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It is important to check with your company’s benefits administrator or HR representative to learn more about your options.

The IRS has released new guidance that allows employers more flexibility for benefit plans during the Covid-19 crisis, including special provisions for health FSAs. Employers can elect to allow employees to apply unused amounts remaining in a health FSA at the end of a grace period or plan year ending in 2020 to pay or reimburse medical care expenses incurred through December 31, 2020. However, these provisions are entirely at the discretion of the employer. If you’re not sure about your options, check with your HR or benefits person.

What Is an FSA Run-Out Period?

A run-out period is a timeframe in the new plan year during which you can file claims for expenses incurred in the previous plan year. The timeframe for a run-out period is set by your employer, not the IRS. However, it is common for run-out periods to last 90 days after the end of the plan year. So, if your plan year is from Jan. 1, 2020, to Dec. 31, 2020, you have until March 31, 2021 to file a claim.

If you have a grace period, it will overlap with your run-out period. It is important to keep in mind that all expenses incurred during the grace period must be claimed before the run-out period ends.

Any money remaining in the account at the end of the run-out period that cannot be carried over into the next plan year is forfeited. Since you do not have to put the full, allowable account ($2,750 for 2021) into your account every year, you should carefully decide how much to contribute so that you don’t lose money, especially if you have low medical expenses and your employer does not offer a grace period or a carryover.

Despite this use-it-or-lose-it downside, the biggest advantage of a health FSA is that you can contribute the money before taxes are deducted, essentially making the money tax free. Since the top tax bracket in 2021 is 37%, the highest potential tax saving on the full contribution amount of $2,750 is $1017.50. Those who are in lower tax brackets and those who do not contribute the full amount have lower tax savings, but if you know you will spend the money anyway, you can put some of your tax money towards medical costs.

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