How do FSAs differ from HSAs in terms of carryover and tax treatment?

How do FSAs differ from HSAs in terms of carryover and tax treatment?

• A. FSAs have unlimited carryover; HSAs have no tax advantages
• B. FSAs are funded by employer contributions; HSAs are funded by after-tax dollars
• C. FSAs and HSAs have identical carryover rules and tax treatment
• D. FSAs are funded via employee pre-tax salary reductions with limited or no carryover; HSAs are funded with pre-tax contributions and may roll over year-to-year and have tax-advantaged growth

Answer: (D)

The key idea is how carryover and tax treatment differ between FSAs and HSAs. FSAs are usually funded through the employee’s pre-tax salary reductions, but the money is generally use-it-or-lose-it within the plan year, with only limited or no carryover allowed. HSAs, on the other hand, are owned by the individual and can be funded with pre-tax contributions (through payroll deductions) or with after-tax dollars that are deductible; the funds roll over year after year and build up, and earnings grow tax-free. Withdrawals for qualified medical expenses are also tax-free. So the description that matches this distinction—FSAs with pre-tax contributions and limited or no carryover, HSAs with pre-tax contributions, year-to-year rollover, and tax-advantaged growth—is the best fit.

The key idea is how carryover and tax treatment differ between FSAs and HSAs. FSAs are usually funded through the employee’s pre-tax salary reductions, but the money is generally use-it-or-lose-it within the plan year, with only limited or no carryover allowed. HSAs, on the other hand, are owned by the individual and can be funded with pre-tax contributions (through payroll deductions) or with after-tax dollars that are deductible; the funds roll over year after year and build up, and earnings grow tax-free. Withdrawals for qualified medical expenses are also tax-free. So the description that matches this distinction—FSAs with pre-tax contributions and limited or no carryover, HSAs with pre-tax contributions, year-to-year rollover, and tax-advantaged growth—is the best fit.