Flexible spending account : which income earner should contribute?

It’s that time of the year again to select the enrollment and elections for various employment benefits for the next year 2008.

One of the many decisions to make is whether to contribute to the flexible spending account (FSA) and the related dependent care FSA. For many people, it usually makes sense to contribute to the FSA to save on taxes if the employer offers them. In my opinion, I think enough has been written on the tax savings if one were to contribute to the FSA. So, no, this post is not on this issue; rather, the aim of this post is to examine which income earner, in a double income family, should contribute to the FSA.

In a double income family, where the couple are both working and eligible for the FSA, a common question is who should contribute to the FSA? Like most people, I used to think that the person with the higher income should bear more responsibility in contributing to these accounts. However, on closer scrutiny, I find that from the tax standpoint, this common sense is actually incorrect.

Although it seems counterintuitive, it actually makes sense for the lower-income earner to make the contributions if we take into account the social security tax income limits. This is assuming the case where one income earner has an income above the social security tax income limit and the second income earner has an income that is below the income limit. I shall illustrate why this is so with an example.

The following table is an example for a hypothetical couple for year 2008 (the social security income limit for 2008 is $102,000):


In the above example, the couple earns a income of $200,000 in total. Assuming that they both plan to maximize the 401(k) contributions and the full FSA elections, scenario 2, where all FSA deductions are made from the lower income earner, results in a lower social security tax by the amount of $620.

The reason is because every dollar deducted from the lower income earner for the FSA account results in a 6.2 cents social security tax saving; whereas no additional social security tax savings is possible with the higher income earner since the social security tax is max’ed out at the income level of $102,000 anyway.

Note that in general, the above strategy would also give state tax savings if there are certain state taxes that max’es out at a specific income level. Therefore it is worthwhile to examine these deductions and plan them accordingly.

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    1. The Finance Buff

      The analysis for the FSA contribution is correct but it’s not correct for the 401(k) contributions. 401(k) contributions are subject to FICA. In the second table, scenario 2, the income subject to FICA under income 2 should be $60,000. The tax savings is still $620, same as the first table.

    2. indexfundfan (Post author)


      Thanks for the correction. I have modified the post.

      Note to other readers: the earlier version of this post has a second example which illustrates the 401(k) deductions from FICA. This is incorrect and has been removed. To the best of my knowledge, the current post is now consistent with existing regulations.

    3. Daria

      Is there a per couple limit on the FSA contribution? Or if we need to put away $7k, could I put away $5k and my husband $2k.

    4. indexfundfan (Post author)

      I believe the IRA limit PER COUPLE is $5k for dependent care FSA and another $5k for health FSA.

      Many companies chose to use a lower limit for the health FSA because it is pre-funded, meaning that you can request a reimbursement at the beginning of the year even though you would contribute the entire amount only by the end of the year. Using a lower limit lowers the risks for the company because otherwise it is difficult to get money back from the employee if he or she claims the entire health FSA amount say in Jan and then resigns in Feb.

    5. Jon

      If both earners are below the social security income limit, should the higher income earner deduct for a FSA?

    6. indexfundfan (Post author)

      For the case of both earners being below the SS income limit, there would be no difference.

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    8. JN

      This is a very good topic — and probably missed by many people. Thanks for your input!

      per the same argument, does it make sense to sign up the whole family’s medical/dental insurance with the lower income earner’s plan (provided the two plans are similar in premium and service coverage) in order to save on SS and MedCare tax?

    9. indexfundfan (Post author)

      JN, yes, for medical/dental insurance, the same argument applies.

      Any premium you paid would reduce your income that is subject to social security tax.

      There is no advantage with regards to medicare tax though since there is no income cap for med tax.

    10. JN

      Thanks! This helps. And right, i forgot the medicare tax has no cap.

    11. Moria Ureda

      Can double income families double dip i.e. can we each enroll in our respective compancy programs and submit my daycare/medical reciepts to both companies FSA’s. I would appreciate your opinion on both the legality and the ethics of this question?

    12. indexfundfan (Post author)

      Legally, you can’t double-dip. The $5k FSA limit is per family.

    13. Pingback: How Much Should You Put Into Flexible Spending Account (FSA)? - The Finance Buff

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