The Cadillac tax: Driving down health costs or driving confusion?
What is the Cadillac tax?
Approximately 147 million Americans are covered under employer-sponsored health plans as part of their compensation and benefits packages. The Cadillac tax is a 40 percent excise tax (defined by the IRS as a tax on a specific good, often included in the price of the product) on employer-sponsored health plans with annual premiums over $10,000 for an individual and $27,500 for a family. A recent analysis by Kaiser Family Foundation shows that up to 40 percent of employers could be subject to the Cadillac tax by 2028.
Cadillac health plans are viewed as excessive insurance coverage that may make consumers feel comfortable because they can be over-insured for the purpose they serve. Over-insured benefits are even seen as a positive to some employers because it makes them more competitive and attractive to their employees. According to some economists, employer-sponsored health plans are an incentive for employers to offer their employees insurance because they benefit from the tax advantages and for employees to capitalize on the employer-sponsored health insurance because it’s offered at a lower rate.
Why does this tax exist?
There’s some debate on this question, but ultimately, its purpose is to reduce excessive spending and reduce overall U.S. national health expenditures. It also aims to decrease the current federal tax advantages for employer-sponsored insurance plans – which many industry leaders feel is a contributing factor to rising health costs. These tax advantages are called tax expenditures, because they purposely count against tax revenues, and are a form of government spending through the tax code.
Economists believe these luxury benefits are used excessively because the cost of the plan for the employee is not representative of the plans’ overall cost. Meaning: these Cadillac plans induce potentially unnecessary healthcare spending by providing health insurance with low deductibles and copayments. The argument is around moral hazard, which is the tendency for someone to spend money, or do something, if there are no consequences in doing so. If the insured doesn’t have visibility into the true cost of their healthcare, there is debate that they are more likely to spend more money because they don’t see the consequences of it. Thus, the theory is that Cadillac plans raise healthcare costs. The Cadillac tax seeks to reduce this alleged excessive use of Cadillac coverage while minimizing coverage disruptions.
Where does it stand today?
Not surprisingly, the Cadillac tax is facing heavy criticism. In fact, its implementation has been pushed back to 2020, and it may be repealed altogether. There’s a lot of uncertainty about the fate of this tax, and as a result, uncertainty about how to prepare for its implementation or its failure.
A huge criticism of the tax is that the cost of a health plan doesn’t always equal its value. There are some expensive health plans that are not excessive. Critics of the tax argue that some health plans are pricier through “no fault of insurance-plan sponsors or the workers who have them; cohorts with more ill, disabled, or older workers often have more expensive plans…as do people living in regions with high health-costs.” Is the tax incorrectly targeting expensive plans as being excessive? What about the health plans that have a sicker population and, as a result, more expensive premiums? How will this tax affect those plans?
The answer is: no one’s sure. This confusion is exactly why lobbyists are arguing for its repeal.
What should health plans do to prepare?
Health plans need to work with employer groups to manage their network and cost of care, so that they can forecast premium equivalents and make decisions to either avoid the Cadillac tax, or make the decision pay it.
What does this tax mean for consumers?
If the Cadillac tax goes through, the cost could likely pass through to individuals and households, either in the form of higher contributions to the annual premiums, or as higher out-of-pocket costs. These are the two main levers employers can pull to bring benefit-rich health plans below the Cadillac threshold and avoid paying the tax.
Insurance could also become too expensive for employers to provide, and instead of offering health insurance coverage as part of a compensation package, employers may encourage employees to purchase their own insurance on the exchange. Consumers would have to go to the exchange to select a health plan that fits both their lifestyle and coverage needs, as opposed to buying into the luxury coverage their employers may have offered in the past.
The tax could also change the way employer-sponsored benefits are offered. Wells Fargo completed a study of how employers are considering responding to the tax. The biggest focus of their responses: the health of their employees! Employers plan to:
- 51 percent: increase wellness initiatives and incentives to improve health of their population
- 46 percent: change employee health savings account contributions to post-tax
- 46 percent: reduce the value of the plan design
- 38 percent: implement a spousal carve-out plan
- 36 percent: eliminate a flexible spending account plan
- 2 percent: do nothing – they’ll pay the tax if the costs exceed the thresholds
If the tax is implemented and employers reduce or eliminate the health insurance coverage they offer, will they also eliminate other parts of the HR benefits package including life insurance, dental, and vision? It’s all uncertain.
The Cadillac tax is highly criticized, and its postponement until 2020 is viewed by some people as confirmation that it’ll be repealed. The two-year delay has caused a lot of confusion in the market and concern for how to prepare. The best thing consumers and employers can do is stay on top of the tax and the political lobbying for and against it. In addition, insurance companies, employers, and employees also need to work on how to get more value out of health insurance benefits instead of more expenses.