For all their differences, Hillary Clinton, Paul Ryan, and Bernie Sanders agree on one thing: the “Cadillac tax” should be scrapped.
Scheduled to be implemented in 2018, the 40% excise tax on high-cost health-benefit plans (hence the nickname) has been controversial from the beginning. Both the U.S. Chamber of Commerce and the AFL-CIO opposed creation of the tax, a provision of the 2010 Affordable Care Act, along with scores of politicians on both sides of the aisle.
This year, Republicans and Democrats on Capitol Hill have launched several bills to repeal the excise tax. One, sponsored by Sens. Dean Heller (R–Nev.) and Martin Heinrich (D–N.M.), was introduced on September 17 as a companion to a House bill unveiled in April by Democrat Joe Courtney of Connecticut. Another Senate repeal effort was launched on September 24 by Democrat Sherrod Brown of Ohio and Sanders, a Vermont independent, while a bill in the House was filed in February by Frank Guinta (R–N.H.).
The legislative efforts are a nod to intense corporate pressure to repeal or at least modify the excise tax, which assesses a 40% levy on any health plan whose combined employer and employee contributions exceed threshold amounts. For 2018, those thresholds are $10,200 for self-only coverage and $27,500 for families, although they can be adjusted based on various factors.
A broad-based lobbying coalition opposed to the tax, called Alliance to Fight the 40, was launched in July. Members include the American Benefits Council (an advocacy group with more than 400 employer members), individual companies, insurers, and benefits consulting firms, among others. The National Business Group on Health, which represents the views of its 425 employer members on national health policy issues, also opposes the tax.
Based on internal estimates and analysis, the NBGH expects that 48% of its employer members will have at least one health plan triggering the tax in 2018 if they do not make any changes to the plan. Of health plans in which the most employees at a company are enrolled, only 28% would run afoul of the tax in 2018 without any changes, but that number rises to 51% by 2020, according to the NBGH.
In fact, by the mid-2020s, virtually all employer health plans will be over the cost limit, according to various analyses. Why? Because after 2018, annual increases in the thresholds will be indexed to the Consumer Price Index rather than to medical-cost inflation, which has been significantly outpacing the CPI for many years and presumably will continue doing so.
That’s why companies’ efforts to avoid the tax may, at some point, prove fruitless. In an NBGH survey of 140 employer members, most respondents said they could delay the tax through plan changes by only two or three years.
“No matter how rich or minimal the benefits, all plans will be eventually be affected,” says Steve Wojcik, vice president of public policy for the NBGH. The excise tax, he says, is “like the alternative minimum tax: it will continue to snare more and more plans until it’s repealed or legislation changes the way it’s indexed.”
Why this Tax?
Not everyone is opposed to the Cadillac tax, of course. Recently, for example, 101 economists and health care policy experts posted an open letter to members of Congress in defense of the tax. Generally, proponents advance three primary goals for the tax:
• To dilute the tax-preferred treatment of employer-provided health care benefits. According to a 2014 report by the American Health Policy Institute, “the exclusion of employer-sponsored health insurance premiums and medical benefits from taxable income is the largest federal tax expenditure. In 2013, it was estimated to reduce federal tax revenues by $303 billion.”
• To lower health care spending. “Many employers are making significant changes to their health care plans as a result [of the impending tax], which means that [it] is working at least in part as Congress intended,” the AHPI report said.
• To generate federal revenue to help pay for Medicaid expansion and for tax subsidies for lower-income people to buy insurance through the public health insurance exchanges. Projections call for $87 billion in new tax revenue over the first 10 years the tax is in effect.
But achieving these goals will not be simple or cost-free. Regarding the first one, while many existing health plans will eventually incur the excise tax if they are not changed, initially few will do so. “The vast majority of our clients have the going-in, working assumption, and guiding principle that they are not going to incur this tax,” says Joseph Kra, a partner in the health-benefits practice of consulting firm Mercer. “They will make the changes they need to make.”
Making those changes will help achieve the second goal of lowering health care spending, but likely at a cost to employees. To avoid incurring the tax, companies may have to reduce or end practices such as contributing to employees’ flexible spending accounts, health reimbursement arrangements, and health savings accounts, which are collectively referred to as consumer-driven health plans (CDHPs). In fact, since amounts that employees contribute to such accounts also count toward the calculation of total plan costs, some employers may modify or even eliminate these programs, according to Kra. The use of on-site clinics and employee assistance programs that provide some type of medical care may also be cut back, and medical-provider networks may be narrowed.
At the same time, employers are likely to make greater use of high-deductible health plans (HDHPs), shifting more of the cost burden to employees, whose out-of-pocket expenses will not count toward the calculation of plan costs unless they are contributed to CDHPs.
“You could see a ratcheting back of many things that keep employees engaged, productive, and healthy,” says Jody Dietel, chief compliance officer for WageWorks, an American Benefits Council member organization and a third-party administrator of CDHP accounts for some 45,000 employers.
The prospect of attaining the third goal, generating revenue to pay for some ACA provisions, may be even more dubious. The Congressional Budget Office anticipated that a large majority of the anticipated $87 billion in revenue would come in the form of increased individual income taxes, after employers raised wages to compensate for employees’ watered-down benefits.
The notion that companies are going to pass the savings they achieve from their health-benefits plans to employees in the form of higher wages “is like an urban legend,” says Dietel, who is also a board member of the Employers Council on Flexible Compensation. “Employers have been shouldering the brunt of high medical cost increases for decades. They’re going to capture any savings they get to reduce premiums, not increase wages.”
But that might be painting the situation with a too-broad brush. “It depends on the labor-market conditions in your industry,” Wojcik points out. “If the labor market is tight and experience and expertise are at a premium, employers may make up for benefits takeaways by increasing compensation or other benefits. In other industries the benefits takeaway will be the end of the story.”
Should Fairness Count?
There are also fairness issues associated with the Cadillac Tax; two stand out. One is the ACA’s lack of recognition that health care costs are heavily influenced by where they’re incurred. A company in Iowa with its workforce solely in Iowa, a low-health-cost state, probably could have a zero-deductible plan and not hit the Cadillac tax, says Dietel.
“Yet that employer would be providing the very plan that that the tax is intended to target, one that doesn’t encourage consumer engagement,” she says. “In fact, it encourages overutilization of benefits, because there is no skin in the game on the part of employees. But if I’m in San Francisco, Chicago, New York, or [Washington,] D.C., I probably have a pretty high deductible plan already, hardly one that people would consider to be a Cadillac. More like a Chevy, or worse.”
The other big fairness issue involves the inclusion of funds that employees direct into CDHPs in the calculation of plan costs.
“This is one of the craziest parts of the excise tax,” Dietel says. “Employees are getting used to employee-driven health care, and they like the ability to manage their own money. And you’re not going to get a working American to believe that a dollar that he earned and asked his employer to withhold from his paycheck, and put it into an account from which he could pay out-of-pocket medical expenses, is provided by his employer and thus should be part of the Cadillac tax.”
Despite the legislative efforts to repeal the Cadillac tax, many observers expect that relief will come in the form of modifications to it — because, they say, legislators will see that the tax will affect many more employers than originally intended.
But how many employers were intended to be affected is at least open to debate, notes Wojcik. “According to people like [MIT economics professor] Jonathan Gruber and other architects of the ACA, this was a political way to start taxing benefits,” he says. “No politician would want to say out-and-out that benefits are going to be taxed, so this is kind of a stealth way of doing it. This is a really serious threat to the future of employer-sponsored coverage.”
Indeed, at a conference in April, Gruber spoke candidly about his antipathy for tax-free health benefits. “Look at how we got here,” he said. “After World War II the government imposed wage controls, so employers got around that by offering health benefits, and the IRS ruled that the insurance would not be taxed like wages. But no economist would have ever supported that decision. It’s compensation.
“What that’s amounted to today is a system which has three flaws,” Gruber continued. “First, it’s expensive. If the U.S. taxed health insurance like wages, we would raise $250 billion more a year in revenue. Second, it’s unfair, because the richer you are, the higher your tax rate is and [thus] the bigger tax break you get. And third and most importantly, it causes excessive consumption of health insurance, because people are buying it with aftertax dollars.”
Indeed, treating health benefits as wages for tax purposes doesn’t do anything over time to help control the cost of health care, Gruber noted. “So an additional feature was an insurance mechanism,” he said. “If the cost of health care rises faster than general prices in the economy, we are going to hit more and more plans…. It’s a mechanism to help slow down costs.”
Another way the excise tax provision was structured to avoid political land mines, according to Wojcik, was to have the tax paid by insurers, in the case of insured plans, and plan administrators in the case of self-funded plans. Never mind that insurers and administrators surely will recoup those costs from their clients, one way or another.
Wojcik notes that the NBGH plans to ask the IRS, which is expected to issue regulations for implementing the Cadillac tax sometime in 2016, to make employers directly responsible for paying the tax. “It’s just easier that way, and we don’t want to risk having it passed through to us [from insurers and plan administrators] with a markup for making the payment.”
A Matter of Degree
Of course, companies have been trying to control their health care costs for many years, with modest results. Will it be any different when it comes to trying to avoid the Cadillac tax? In large part it depends on how much over the threshold a health plan is projected to be once the tax takes effect. “If a company has to reduce its costs by 3%, it will figure that out, the same way it figures out how to balance its budget every year,” says Kra of Mercer. “If it’s off by 10% or 15%, that won’t just require tweaking the health plan. It will require blowing it up and offering something dramatically different.”
Increased use of HDHPs is expected to be a fundamental strategy, notes Kra. Some companies also may offer an HDHP but not set up health spending accounts or provide employees with any functionality to do so. Employees would be free to set up their own accounts through bankers or brokers; contributions to those accounts would not count toward total plan costs for purposes of calculating the excise tax.
Kra also points out that companies should watch promising developments in the health care field that incentivize medical providers to improve their cost efficiency while maintaining high service quality. Still, he warns, as long as medical-cost inflation outpaces general inflation, avoiding the Cadillac tax will be difficult. “Just because an employer figures it out for 2018 doesn’t mean they’ve solved it long term. The problem will only become harder every year.”
That’s why Dietel and others are pushing Congress to modify the ACA’s excise tax provision sooner than later, or at least to delay the effective date, considering that the IRS regulations may not be finalized until a year or so before the tax’s effective date. “It can’t be, ‘Let’s wait until 2018 when the fallout happens to address it,’” Dietel says. “There are many of us who believe it should be delayed because of the timing and because it’s a very complicated tax and very burdensome on employers.”
David McCann is a deputy editor of CFO.