Are You Getting the Most from Your Company's Benefits?
By Ric Edelman
Most workers don’t realize that their employers spend 20% to 40% of their income on benefits. In other words, if you work full-time and earn $50,000, your employer provides you with benefits that are worth an additional $10,000 to $20,000 per year. Make sure you’re taking full advantage of these programs.
Cafeteria plans. The idea is simple: Employers want to offer their workers benefits, but workers can’t agree on which benefits they want, and the budget is limited. For example, some want health care benefits. Others who already have those benefits, perhaps because they are covered by their spouse’s plan, would rather have paid parking. But parking is of no interest to those who use mass transit. Thus, the employer often is stymied because the budget is limited, and the company can’t provide everything to everyone.
Enter the cafeteria plan. Through these programs, the employer offers a wide variety of benefits -- everything from health care and child care to paid parking and elder services. Each of these benefits are offered a la carte, and employees use their allotted dollars to buy the benefits they want -- like eating in a cafeteria.
Flexible Spending Account. In many cases, employees pay for their own benefits, and again, the tax code offers you advantages. Say you expect to spend $2,000 a year on daycare, medical expenses, and eyeglasses -- costs the employer won’t pay for. If you were to pay for these costs routinely, you’d have to spend after-tax income to do so. But the FSA lets you handle these expenses pre-tax.
Here’s an example. Kim knows what her health insurance deductibles and co-pays are. She estimates that her out-of-pocket medical expenses will average $100 a month. So Kim, who is paid twice monthly, asks her employer to place $50 from each paycheck into her FSA account. Then, as she wishes, she withdraws the money from the account to pay the bills she knows she’ll incur anyway.
Why does she bother doing this? Simple -- for the tax savings. By diverting some of her paycheck to the pre-tax FSA account, she reduces her Social Security taxes and income taxes. Indeed, for every $100 she deposits into her FSA, she saves nearly $8 in Social Security taxes, $28 in federal income taxes and $6 in state income tax (based on a 28% federal income tax bracket and 6% state tax rate). That’s more than $500 a year!
To make sure this isn’t too good to be true, the IRS imposes one important restriction: Once you tell your boss to place some of your income into the FSA, you must spend all of it during the calendar year. If you don’t, you forfeit the unused balance. This is the IRS’s way of making sure workers don’t eliminate their entire tax liability by placing 100% of their income into these accounts. Also diverting money to the FSA could cause future Social Security benefits to be reduced, since less income is being taxed by Social Security during the working years. However, higher-paid employees are not affected by this issue.
You can use the FSA to reimburse yourself for the money you spend caring for dependent children and elders. Be aware, though, that every plan dollar that pays for dependent care reduces the dependent care tax credit that might be otherwise available to you. For this reason, lower-income workers may be better served by taking the IRS’s dependent care tax credit. To see which is in your best interest, compute the savings both ways, or ask your tax advisor for a recommendation.
Life, disability and long-term care insurance. If your employer pays for these coverages, get as much as you can. But if you must pay for some or all of the cost, talk to a financial advisor or insurance agent to see if you can get lower-cost coverage elsewhere. If you are young and healthy, odds are you can. And buying your own policies, rather than relying on your employer-provided one, is always a safer approach: If you leave the firm, you usually lose the coverage, and your employer or insurer might cancel coverage at any time. That can’t happen if you buy your policies directly from an insurer.
Health insurance. You don’t need me to tell you that you need health insurance for yourself and your family. You also know from experience that health insurance is expensive, complicated and confusing. Your employer is likely to offer at least two types of policies: An HMO and a Preferred Provider Organization. Premiums are usually lower for the HMO but you may not get to select the doctor you see. If you and your spouse are employed, you may each have your own policy because employers often pay employees’ premiums. But employees usually pay part or the entire premium for other family members. If you pay premiums, check to make sure you pay them on a before-tax basis.
If you are self-employed, get a comprehensive major medical policy with unlimited coverage. Select the largest deductible you can live with. You may be able to deduct part of the premiums on your federal income tax return.
Retirement plans. If your employer offers you the opportunity to contribute a portion of your paycheck to a company retirement plan, contribute the maximum. However, limit your contributions to pre-tax; do not make after-tax contributions. Some employers add money to employee accounts. If your boss does this, great. Even if your employer does not, do not allow that fact to dissuade you from contributing the maximum.