Flexible Saving Plans, including Flexible Spending Accounts (FSAs) and Health Savings Accounts (HSAs), are excellent tools to help you save on medical expenses while reducing your taxable income. However, these plans come with specific rules, and failing to follow them can lead to penalties, or worse, the loss of funds. In this blog, we’ll discuss common penalties associated with Flexible Saving Plans and provide expert tips to help you avoid them, ensuring you get the most out of these valuable financial tools.

By the end of this guide, you’ll have the knowledge to manage your FSAs and HSAs with confidence and avoid common pitfalls that can cost you money.

What Are Flexible Saving Plans?

Flexible Saving Plans, such as FSAs and HSAs, are tax-advantaged accounts designed to help individuals save for medical expenses.

• Health Savings Accounts (HSAs): HSAs are available to individuals with high-deductible health plans (HDHPs). They allow you to contribute pre-tax money to pay for qualified medical expenses. The contributions grow tax-free, and withdrawals for eligible expenses are also tax-free. The best part about HSAs is that the funds roll over year to year, and the account is portable.
• Flexible Spending Accounts (FSAs): FSAs are typically offered by employers. These accounts allow you to set aside pre-tax dollars to cover medical expenses. However, FSAs often come with a use-it-or-lose-it rule, meaning that any unspent funds at the end of the plan year may be forfeited, unless your employer offers a carryover or grace period.

While both plans are incredibly useful, they come with specific restrictions that can lead to penalties if not properly managed.

Common Penalties in Flexible Saving Plans

Here are some of the most common penalties you could face with FSAs and HSAs, and how to avoid them:

1. Use-It-or-Lose-It Rule (FSAs)

One of the most frustrating aspects of FSAs is the use-it-or-lose-it rule. If you don’t use the funds in your FSA by the end of the year (or during the grace period, if offered), you will forfeit the remaining balance.

• Penalty: Any unspent funds at the end of the plan year (or grace period) will be lost.

How to Avoid It:

• Estimate your medical expenses: Try to predict your medical costs for the year and contribute an appropriate amount. If you’re unsure, focus on regular, recurring expenses like prescriptions and doctor visits.
• Take advantage of the grace period: If your plan offers a grace period (usually 2.5 months after the year ends), make sure to use your remaining funds during that time.
• Carryover option: If your employer offers the carryover option (which allows you to roll over a certain amount to the next year), consider contributing a lower amount to ensure you don’t lose any funds.

2. Ineligible Expenses (FSAs & HSAs)

Both HSAs and FSAs are meant for qualified medical expenses. If you use your funds for anything other than eligible medical expenses, you could face penalties.

• Penalty: For HSAs, using the funds for non-medical expenses before age 65 results in a 20% penalty, in addition to regular income tax. For FSAs, non-eligible expenses are disqualified and taxed as income.

How to Avoid It:

• Understand what qualifies: Familiarize yourself with the IRS guidelines on qualified medical expenses. Common eligible expenses include doctor visits, prescription medications, dental and vision care, and medical equipment.
• Track your spending: Keep receipts and records of your medical purchases to avoid mistakes and to prove eligibility during tax season.
• Consult your plan administrator: If you’re unsure about an expense, contact your FSA or HSA administrator for clarification.

3. Exceeding Contribution Limits (FSAs & HSAs)

Each year, there are contribution limits for HSAs and FSAs. Exceeding these limits can lead to penalties.

• Penalty: For HSAs, contributions over the limit may be subject to a 6% penalty. For FSAs, contributing more than the limit could result in additional taxes and penalties.

How to Avoid It:

• Know the contribution limits: For 2025, the HSA contribution limit is $3,850 for individuals and $7,750 for families. The FSA limit for 2025 is $3,050. Ensure you don’t exceed these limits.
• Monitor your contributions: If your employer contributes to your FSA or HSA, make sure you factor this into your total contribution to avoid going over the limit.
• Adjust contributions: If you’re unsure how much to contribute, adjust your contribution amount throughout the year. Many plans allow you to change your contribution on a monthly basis.

4. Failing to Withdraw Funds for Medical Expenses (HSAs)

While HSAs allow funds to roll over indefinitely, they must still be used for medical expenses to avoid taxes and penalties. If you use your HSA funds for non-qualified expenses before age 65, you will face a significant penalty.

• Penalty: If used for non-qualified expenses, HSA withdrawals before age 65 are subject to a 20% penalty plus taxes. After age 65, the penalty is waived, but you will still pay income tax on the withdrawal.

How to Avoid It:

• Use your HSA for qualified medical expenses: Only use your HSA funds for IRS-approved medical expenses. Keep careful track of medical bills, prescriptions, and other qualifying costs.
• Don’t use HSA funds for non-medical purchases: If you’re considering using HSA funds for something other than healthcare, be sure to understand the consequences, especially if you’re under 65.

5. Missing Key Deadlines (FSAs & HSAs)

Missed deadlines for submitting claims or making contributions can result in lost funds or penalties.

• Penalty: Missing submission deadlines for claims could mean that eligible expenses are not reimbursed. Missing the contribution deadline can prevent you from contributing the maximum allowed amount for the year.

How to Avoid It:

• Set reminders: Use a calendar to track key deadlines for claims and contributions. Many administrators offer email reminders or online alerts to help you stay on top of deadlines.
• Submit claims early: Don’t wait until the last minute to submit your claims for reimbursement. Submitting early helps prevent last-minute issues.

Tips to Maximize Your Flexible Saving Plans and Avoid Penalties

To fully benefit from your FSAs and HSAs, follow these best practices to avoid penalties:

• Review your plan regularly: Stay up to date with your plan’s rules, contribution limits, and eligible expenses. Plans can change from year to year, so it’s crucial to stay informed.
• Plan your contributions wisely: Estimate your medical expenses for the year and contribute an amount that covers those costs without going over the limit.
• Track your spending: Keep receipts and records of all medical expenses, and make sure they align with the IRS guidelines for qualified medical expenses.
• Seek advice if necessary: If you’re unsure about the rules or penalties, consider speaking with a financial advisor or tax professional who can help you navigate the complexities of FSAs and HSAs.

Conclusion: Stay Organized and Avoid Penalties

Flexible Saving Plans like HSAs and FSAs can be incredibly valuable tools to save on taxes and healthcare expenses. However, to avoid penalties and ensure you’re using your funds effectively, it’s essential to understand the rules and stay organized. By following the tips outlined in this guide, you can maximize the benefits of your FSAs and HSAs and avoid costly mistakes.