This complicated calculation adds insult to injury beginning with your 1998 filing, considering that only a few years ago, all benefits were tax free. Now, depending on your income, either 100 percent of your benefits are tax-free or up to 80 percent of your benefits can be taxed. When income falls between those amounts, no more than half of your benefits can be taxed. Many employers offer a cafeteria plan to their employees. The plan may also allow employees to pay for these expenses with pre-tax salary or wages.
Some plans allow employees to choose a combination of the two options.
If the cash option is chosen, the cash is taxable. However, medical expenses paid for with plan money may be deducted on Schedule A, and a credit may be claimed for the child care expenses. Some special considerations regarding the pre-tax option are shown below. Amounts set aside are not subject to FICA or Medicare taxes. Because the amount you set aside is pre-tax, the actual reduction in your paycheck will be less than the amount set aside.