Our daughter will get braces next week. When I was her age, I needed them too. As she prepares to give up bubble gum for a couple of years while we shell out thousands of dollars for treatment, I’ve been comparing our experience to that of my parents over 30 years ago. My husband and I have access to a tax benefit—a Flexible Spending Account—that my parents did not have back in 1984.
The overall story has not changed much in the years since. Today, some of us have FSAs at work, but most don’t. And among those who do, tax benefits are not equally distributed. The reasons point to a much larger dilemma facing tax and healthcare policymakers alike.
What is a Flexible Spending Account, or FSA?
Employers who offer major medical coverage can offer their employees the option to deposit up to $2,600 in pre-tax wages in 2018 into an employer-owned account. Over the course of a year, employees can spend the money for a wide range of medical expenses for products and services including orthodontia as well as coinsurance payments, deductibles, and prescription drugs. If the employees plan well, they’ll use exactly what they set aside. If they don’t, they can carry over up to $500 into the following year. Anything more than that goes back to the employer.
My husband’s employer—a large corporation—offers a Health Care FSA. We’ll increase the amount we contribute to the account this fall and over the course of our daughter’s 2.5-year treatment. If we max out our contribution, we can pay for it all using only the pre-tax income we put in our FSA.
The staff at the orthodontic office said using our FSA was a “smart move.” Indeed, four parents we know have used the tax-favored accounts to pay for their children’s orthodontic care. But are we smart, or just lucky?
Who has an FSA? Not as many as you might think.
There is little hard data about FSA-holders. Thus, TPC has not done a distributional analysis of the beneficiaries of the accounts. But thanks to the Bureau of Labor Statistics, we know that about 43 percent of civilian workers had access to an FSA in 2016. We don’t know how many participated, or how much they contributed, although the Congressional Research Service reports that the participation rate of federal employees was about 10 percent from 2003-2008.
Do all FSA holders enjoy the same level of benefit? No.
Generally, higher-income workers and employees of larger employers are more likely to have access to FSAs. Only about 10 percent of low-income workers could contribute in 2015, while 70 percent of top earners could. And, since the federal income tax savings per-dollar-contributed to an FSA are based on an employee’s income tax rate, the more you earn, the more you benefit from using an FSA.
For example, an employee who sets aside $200 a month ($2400 per year) to an FSA will save $360 in federal income taxes if she is in the 15 percent tax bracket. If she is in the 35 percent tax bracket, she’ll save $840 per year.
What about those without an FSA?
Well, they might be like my parents in the mid-1980s. Although FSAs were created in the 1970s, my parents did not have access to them. My father was an independent consultant and my mother was a homemaker. My dad purchased health insurance for himself and our family but didn’t offer himself an FSA. My straightened teeth were not subsidized by the federal government.
Does this make sense?
Tax Policy 101 says: If you want less of something, tax it. In turn, if you want more of something, cut its price, with say… a tax subsidy. That subsidy should encourage a “net positive” behavior for the public, like maintaining healthy bodies—or in the case of orthodontia—better functioning bites.
By effectively limiting participation to higher-earning employees or employees of larger firms, FSA’s assign more value to my daughter’s braces than to those of child in a lower-income family, even though there might be no difference between their orthodontic needs.
How much does this matter?
Even with the tax subsidy, braces are still really expensive. But as a matter of principle, FSAs are important. Here’s why.
Even though FSAs are just a modest tax giveaway to a relatively small share of well-off workers, I can’t say I’d easily give it up. It also might be awkward for me to urge policymakers to take it away from my friends who use it for their children’s braces. People tend to like paying less in federal taxes.
My Urban Institute colleague Linda Blumberg describes the political challenge of creating fairer health care and tax policy, “You want people to get necessary health services, but providing enough assistance to make that affordable for the broader population requires a redistribution of tax liability that has politically always been extraordinarily difficult to achieve.”
How about a minor adjustment?
Let’s think beyond braces. If we want to use the tax code to subsidize the cost of health care expenses, can we find a way that is fairer? Perhaps. For example, a tax credit at a fixed rate for all FSA contributions would be fairer than the current exclusion that provides the biggest benefit to those with the highest incomes.
It’s a small and imperfect step, but at least it would go in the right direction.
The Tax Hound, publishing the first Wednesday of every month, helps make sense of tax policy for those outside the tax world by connecting tax issues to everyday concerns. Have a question or an idea? Send Renu an email.
