What is an LSA?
An LSA is a set amount of money an employer gives to its employees to spend on everyday lifestyle expenses. They’re becoming increasingly popular with employees and can be an excellent way to augment your benefits package by covering things employees value such as wellness, personal finances, or home office setup. Here are the important details:
The LSA is completely funded by the employer.
The employer has flexibility over how it designs the plan.
Employer chooses how much it will make available to employees and at what cadence (Ex: they get $100 per month or $1,000 a year).
Employer chooses what happens to unused money once the outlined time period expires.
Employer chooses the non-medical expenses for which employees can use the allowance.
Employers can offer multiple LSAs for different purposes (Ex: one for wellness, and one for home office expenses). They can have different allowance amounts, different time periods and apply to different employees (as long as those policies aren’t discriminatory in nature).
LSAs are a post-tax benefit which means it’s subject to income tax. However, employees only pay taxes on the money they spend.
LSA reimbursements are typically a tax-deductible business expense for the employer.
Former employees cannot access their LSA through COBRA.
Qualifying to either offer an LSA or participate in an LSA is pretty straightforward and is determined by each employer. Any employer can offer an LSA. Since this post-tax benefit is completely funded by the employer, employees qualify to participate in one if their employer offers it and they meet the employers’ qualification requirements. Lifestyle spending accounts can have different allowance amounts, different time periods, and apply to different employees, as long as those policies are not discriminatory in nature.
What employers need to know to stay in compliance
IRS regulations regarding LSAs are not as stringent as they are for pretax benefits like HSAs and FSAs, but there are some rules employers must follow. First, employers must make sure they include the amounts employees spend in their gross income (which is subject to withholding and payroll taxes). Second, employers must ensure their LSA-approved expenses do not include medical expenses that are otherwise covered by health insurance. Employers can include expenses that benefit an employee’s health like gym memberships or wellness apps. If employers do include traditional medical expenses as part of its LSA-allowable expenses, the LSA becomes a group health plan and triggers a host of regulations including ERISA and COBRA.
What employees need to know about spending their LSA money
Before employees choose to participate in their company’s LSA, they should be aware of the following:
The LSA is a taxable benefit. Employees are only taxed on what they spend and forfeit any unused funds.
The LSA’s allowable expenses. Sometimes the employer sets up a virtual “LSA Store” from which employees can purchase pre-approved items for things like home gyms or home offices. Sometimes, the employer requires the employee to pay for the item or service and then reimburses them. If the employer has this model, employees want to make sure their expense is LSA approved and will get reimbursed.
The way their employer approaches income taxes on their LSA. Some only withhold income taxes on the money employees spend, some on the entire LSA allowance, regardless of how much the employees actually use.
What is it used for?
Employers typically use LSAs to augment their existing benefits such as their group health benefits and the other tax-advantaged accounts they offer. The expenses they choose to support often reflect the company values and aim to address challenges that employees are facing in their personal lives. If the company values physical and mental health, it’s common for them to offer a monthly allowance for gym memberships, fitness classes, home gym equipment, healthy eating apps, and meditation apps. If the company aims to support their employees’ financial wellness, they could cover a financial advisor or financial planning services, or personal finance classes or apps.
What expenses are eligible?
The list of expenses that are eligible for reimbursement through an LSA is not mandated by the IRS and is up to the discretion of the employer, so it can be long and varied, but cannot be a medical expense. As long as the expense doesn’t run afoul of ERISA rules and isn’t something that would typically be covered under a group health plan, it may be eligible for reimbursement via an LSA. Therefore, when designing your plan, it’s important to think about the challenges your employees face and their lifestyles so that you can offer an impactful benefit. Here are some common expenses that are eligible for reimbursement through an LSA:
Financial advisor and planning service.
Personal finance and budgeting seminars and classes.
Estate planning costs.
Purchasing a home. You can use your LSA to help employees pay for costs associated with buying a home including their downpayment and closing costs.
Student loan consulting services.
Fitness and physical wellbeing
Fitness classes and gym, health club and spa memberships.
Healthy eating apps.
Athletic equipment and accessories.
Sports lessons like golf or tennis.
Race entry fees.
Sports league costs.
Passes for things like skiing and snowboarding, and national parks.
Massage therapy and equipment.
Meditation classes and apps.
Non-medical counseling services like couples therapy, life coaching and parenting skills workshops.
Leadership and spiritual retreats.
Desks and chairs.
Computer and accessories.
Personal development classes like art or cooking. But these should not be traditional education classes otherwise the expense could be considered “tuition assistance”. See the ineligible expenses section below for more information.
Class materials and supplies.
Child services platforms.
Baby equipment and accessories.
Child care that is ineligible for reimbursement under an FSA.
Which expenses are ineligible?
Since LSAs are a post-tax benefit, they should not reimburse for anything that could be covered as a tax-advantaged benefit. The reason being, they want to ensure employees receive the tax breaks on those tax-advantaged expenses. Examples of tax-advantaged expenses are:
Medical care costs like copays, health insurance premiums and anything that’s considered a qualified medical expense for the purposes of an HSA or FSA. That includes acupuncture, smoking cessation programs, and chiropractic care.
Dependent care expenses. Since the IRS allows for employers to offer employees a dependent care FSA into which employees can deposit pre-tax money to pay for dependent care expenses that allow them to work, these same expenses aren’t eligible for reimbursement through a post-tax account like an LSA.
Student loan reimbursement. Due to the CARES Act, employers can offer employees up to $5,250 per year in student loan repayment assistance, tax-free, through 2025.
Tuition assistance. Employers can also offer employees up to $5,250 per year in qualified education cost assistance on a tax-free basis.
Identity theft protection. IRS allows employers to provide employees with credit and identity monitoring services and exclude said services from their gross income.
What are the tax implications of an LSA?
LSAs are post-tax benefits for employees and tax-deductible business expenses for employers, so they will affect each party’s taxes differently. Employees must pay income taxes on their LSAs, but employers can choose how these taxes are calculated. Employers can choose to withhold taxes based on the total amount available via the LSA even if employees don’t use it all, or they can withhold based on the amounts employees actually reimburse.
What are the benefits?
The flexibility an LSA offers gives employers a way to support their employees’ lives outside of work however fits their budget, the needs of their employees and their company values. This flexibility is key to building the truly tailored benefits package that employees want and value. For employees, the support they receive in paying for everyday expenses can lead to less feelings of financial stress, a healthier body and mind and more. Let’s dive into the specifics.
How an LSA benefits employers
First and foremost, employees whose employers support their life outside of work are more likely to be healthier, feel happier and use less work time to deal with financial stresses. In fact, 49% of employees report feeling financial stress and spend 3-4 working hours each week dealing with related issues. LSAs give employers a tool they can use to support the financial needs of their employees and direct that support to behaviors that will in the end benefit the company. Here some examples:
By lowering employees’ financial stress your workforce will be more productive and company culture can improve. LSAs can help lower the financial stress employees feel by reimbursing for financial planning, budgeting and counseling services so employees can manage their money better. You can also lower financial stress by reimbursing for expenses they are already paying for like gym memberships and wellness apps that are not an HSA or FSA-eligible expense.
By improving employees’ physical health, you improve productivity because they miss fewer work days and are more productive on the days they are working. You increase company morale and attract more high quality candidates. LSAs can help you improve employees’ physical health by reimbursing for fitness-related activities and services, healthy food delivery and healthy eating apps and physically active hobbies.
Improving employees’ mental health has similar benefits to lowering financial stress and improved physical health– increased productivity, increased employee loyalty, improved retention and recruitment efforts and a boost in company culture and morale. LSAs can help improve employees’ mental health by reimbursing for costs associated with hobbies like race entry costs, personal interest classes like art, marriage counseling (that’s not covered by the group health plan), meditation apps, and more.
Supported employees are healthier, happier employees that experience greater well-being in and out of the office. Greater well-being is something that 61% of employees are looking for in their next job. So by offering an LSA, you can help prevent turnover and become more attractive to potential talent.
How LSAs benefit employees
Everything is more expensive now: rent, buying a home, groceries, child care, medical care– just to eat a healthy diet a family must spend an average of $2,000 more a year. An LSA can help employees manage these rising costs. It supports costs associated with their hobbies that they might forgo in the interest of paying for other expenses deemed more necessary. It supports the health of their relationships by helping to pay for therapy. It supports all aspects of their physical, mental and financial health, which means they will feel better, happier and have a higher quality of life.
LSA versus HSA or FSA?
HSAs, FSAs, and LSAs all support employees’ physical, mental and financial health, they just do it in different ways. The good news is, you can offer your employees all three as part of a comprehensive benefits package and they can choose which best fits their needs. They’ll have to choose between an HSA and FSA since they can’t contribute to both at the same time but both of these accounts pair well with an LSA. Here’s how an LSA is different from an HSA or an FSA:
They’re taxed differently. HSAs and FSAs are pre-tax benefits and LSAs are post-tax benefits. That means all contributions to an HSA and FSA are made before an employee’s income taxes are assessed and are thus made “tax-free”. Distributions from HSA and FSAs are also tax free (HSA contributions can earn interest or be invested in the market and grow tax-free as well). Money employees use from their LSA is subject to income tax.
They’re used for different types of expenses. The tax-advantaged nature of HSAs and FSAs causes the IRS to tightly regulate the expenses that qualify for payment out of these accounts. The expenses eligible for payment from HSAs and FSAs are those that are deemed “qualified medical expenses” that aren’t already covered under the group health plan. LSAs are post-tax and the expenses eligible for reimbursement are not as tightly regulated with one exception: they can’t be used to reimburse for medical expenses. That’s why LSAs can be paired with HSAs and FSAs, they’re used for different purposes.
Only employers can fund LSAs. Employers and employees can deposit money into HSAs and FSAs, but only employers can fund an LSA.
Employees lose access to their LSA once they leave the company. Employees own their HSA, so they always have access to the account, regardless of whether or not they’re with the company and former employees can retain access to their FSA via COBRA. But an LSA is not eligible for COBRA nor is it employee-owned, so employees only have access to these funds while they’re employed with the sponsoring company.
Employers have great freedom in how they design their LSA. The pre-tax nature of HSAs and FSAs means these accounts are subject to ERISA rules, as well as other federal regulations like COBRA. HSA balances roll over from year-to-year automatically, but FSAs don’t. Employers can choose to offer employees a 2 1/2 month grace period in which to use their remaining FSA balance, or they can choose to allow employees to roll over a predetermined amount, with the maximum set by the IRS, to the following year, but not both. LSAs are different. Employers not only get to choose how much is deposited into each account, they can offer multiple LSAs, each with different purposes and termination periods. LSAs can expire at the end of their term or employers can choose to allow the unused balances to roll over.
Should I get an LSA?
Most companies and employees alike can benefit from offering or participating in an LSA. The determining factors for employers will be budget and plan design, and for employees, the tax liabilities and expenses that are covered.
If you’re looking for a way to financially support your employees’ health and well-being without increasing everyone’s salary across the board, an LSA is a great way to do that. You just have to determine a few things:
Your budget. Typical LSA contributions range from $500-$2,000 per account. The amount contributed will depend on the cadence in which it’s deposited or made available and what the account will be used for. For instance, an LSA strictly for gym memberships will probably have a lower deposit amount than one intended for adoption and surrogacy. Determine how much you can afford to deposit per account and see if that’s enough to serve the purpose you’ve intended.
How you want to design your plan. When looking at plan design, you’ll want to take your budget then ask yourself these questions: What are the company values you’re trying to espouse by offering the LSA? How often do you want to renew the contributions? Is there another way to support your employees’ well-being that is more economical or effective? If you have enough in your budget to match your desired plan design, an LSA could be a great fit for your company.
The first thing for employees to determine when deciding whether or not they will participate in their employer’s LSA is if the covered expenses will benefit them. Are the eligible expenses something they need or would enjoy? If the answer is yes, then the employees should determine whether or not they can afford the income taxes they’ll owe. The income taxes employees will pay is dependent upon how the employer withholds for the account. Will their employer assess income taxes on the entire available allowance, regardless of how much they spend? Or just on the expenses that were reimbursed? If it’s the former, employees will want to make sure they can afford to pay the income taxes on the entire available balance. If it’s the latter, employees will want to determine how much they can afford to pay in income taxes, then spend their allowance appropriately.
How to get started with an LSA
To get started with an LSA, employers should first determine their budget then rank their allowable expenses by how they contribute to company values. Employers should use this ranking to determine whether or not they should have a single LSA or multiple with different terms. Once employers have a good handle on what they’re looking for in terms of plan design, they should engage with an LSA administrator like Lively. Their administrator can help them finalize their plan design, handle employee communications and onboarding and make the rollout of this benefit smooth and effective.
Sign up with Lively
Lively is your partner in offering the most comprehensive benefits package for your budget, including Lifestyle Spending Accounts. We specialize in saving and spending accounts like HSAs, FSAs, HRAs, LSAs and MTAs that augment your group health and dental plans with support your employees need and value. Our accounts are well-designed and easy to use, and when employers or employees need help, our best-in-class customer support is available.
Frequently Asked Questions
What is a typical LSA benefit design?
Since employers have a wide latitude in designing their LSAs, there is no “typical” benefit design. Most LSAs don’t offer less than $250 a year, and most fall within the $500-$2,000 range. You’ll just want to make sure the money you offer is sufficient to meet the need.
What are the benefits of offering an LSA?
Employers can support employees' everyday lives in ways that aren’t available through group health plans and medical savings and spending accounts like HSAs and FSAs. Employers have a lot of control over how they structure the plan so that it doesn’t just meet their budgetary needs but can match company values as well.
Why should I offer an LSA to my employees?
LSAs give employers an important tool to support their employees’ everyday lives holistically and financially. They also empower employees to choose how they engage with the company values, like physical health, by using the money in ways that work for them and their lives and goals.
What should an employer's budget be for an LSA?
Not every employee will participate in the LSA, but you should budget as if they will. The typical allowance range is $500-$2,000 a year per account and obviously the amount is relative to the expenses that employees can reimburse. Your LSA administrator will most likely also charge fees, either per account or a lump sum, so you will have to budget for that as well. To find the administrator that offers the best value, you can shop around yourself or use a benefits broker.
Can remote employees get an LSA?
Yes, in fact remote employees might benefit greatly from an LSA. Remote employees may typically miss out on employee activities and need home office supplies and setups, all of which can be reimbursed for through an LSA.
LSA Guide - Are LSA funds taxable to the employee?
Yes. Employers can choose how those taxes are withheld. They can choose to withhold income taxes on the entire amount available or they can choose to withhold income taxes on only the amount spent.
Is it expensive?
You will pay the appropriate income tax rate on at least the money you spend, or on the total allowance as a whole (depending on how your employer has designed the plan). The average federal income tax rate in the U.S. in 2020 (most recent available data) was 13.9% and typical LSA allowances range from $500 to $2,000. If your employer allows you to reimburse $1,000 in expenses, and you pay 13.9% tax on that amount, you will owe $139. Assuming these expenses were things you would have paid for anyways, you saved $861 just by participating in the LSA.
If you can’t afford the income taxes that you’ll owe for participating in the LSA, then it probably wouldn’t benefit you to participate.
How does an employee get an LSA?
Your employer must offer one. If your employer does offer an LSA, you will need to opt in during open enrollment. If you join the company after their open enrollment period has come to a close, you will be given a special enrollment period in which you can choose your benefits.
Do employees have to be enrolled in a health insurance plan in order to participate?
LSAs are available to all employees regardless of whether or not they’re enrolled in a health plan. They just have to meet the employer’s internal qualifications for receiving benefits.
Are there any funding limits or minimums?
Every administrator will have different funding rules but, what’s important is that employers fund each account to an amount so that it meets its intended purpose.
Do employers have to offer the same amount to all their employees?
No. Employers can set different rules for different employee classes or demographics as long as those rules aren’t discriminatory in nature.
What information should employers communicate to their employees?
Employers should tell employees: how much they have to spend, the time frame within which they have to spend it, how often that amount renews (monthly, quarterly, yearly), the expenses that can be reimbursed, how the income taxes will be withheld, and how employees can access the money.
Disclaimer: the content presented in this article are for informational purposes only, and is not, and must not be considered tax, investment, legal, accounting or financial planning advice, nor a recommendation as to a specific course of action. Investors should consult all available information, including fund prospectuses, and consult with appropriate tax, investment, accounting, legal, and accounting professionals, as appropriate, before making any investment or utilizing any financial planning strategy.