What's Up With the 'Cadillac Tax' Provision of the ACA?
The Affordable Care Act sets up a 40 percent tax on expensive insurance plans — so-called Cadillac plans. The tax itself is set to take effect in 2020, and the result is to discourage overpriced plans. The ACA taxes health insurance that you offer your employees on every dollar that the plan goes over the limit — $10,200 a year for individuals and $27,500 a year for families. Insurers are responsible for paying the tax on fully insured plans, while the administrator of the plan — you or the coverage provider — is responsible for taxes on self-funded plans.
The Cadillac tax, Obama administration officials wrote in The New York Times in 2013, will help combat the "hugely regressive" federal subsidy for employer-backed health insurance. They explained that the rich receive nearly triple the financial benefits from the tax exclusion than those with lower incomes because they're taxed at a higher rate and tend to have much more expensive health insurance. The health care tax exclusion is the single largest tax break in the U.S., reducing federal revenue by more than $250 billion per year.
Economists — 101 of them — co-signed a letter to Congress urging lawmakers to keep the impending tax in place. When companies limit their coverage, copayments go up, which discourages people from getting care for frivolous concerns. That saves the U.S. money and is exactly what the tax is supposed to do.
The IRS, for its part, began spelling out the nitty-gritty of exactly how the tax will work. After all, taxing these benefits represents a major shift in generations-old tax policy. For decades, companies have written off from their taxes the cost of providing workers with coverage — a byproduct of World War II-era wage controls.
The thing is, according to the nonpartisan Kaiser Family Foundation, the tax will hit more than just traditional health insurance. It also applies to health savings and flexible spending accounts, including money workers sock away tax-free for medical expenses. Supplemental insurance plans also will be included and, potentially, on-site clinics set up for workers, the IRS has noted.
While many employers have been trying to wring savings out of their plans in anticipation of the new rules, it may be only a temporary reprieve. Congress has pegged the tax threshold to a relative slow measure of inflation. It's linked to the consumer price index plus 1 percent, even though medical costs typically grow much faster — an average of 5.6 percent over the next decade, estimates the Congressional Budget Office, while inflation will increase by 2 percent per year.
This means the tax will ensnare more companies over time, with some likening it to the alternative minimum tax, originally aimed at the very wealthy, but which has trickled down the income ladder.
Many look at overly generous insurance as shielding beneficiaries from costs, which encourages them to use more services, driving up prices for everyone else. It's also a matter of fairness, some say, because forgoing taxes on health care benefits amounts to a major break for those with jobs offering coverage.
No matter how you look at this, it bears further consideration: Your employees are watching as well. Your goal right now should be to stay in close touch with financial professionals who can advise you of any changes.