In the first significant congressional modification of the Affordable Care Act (ACA) since its passage, the notorious "Cadillac tax" on high-cost employer health plans has been delayed two years, from 2018 to 2020. The delay is included in the omnibus spending and tax extenders bills President Obama signed on December 18. Delay of the Cadillac tax has been sought by both employers and labor unions concerned about the tax’s wide impact and the need to take action to avoid or minimize it before it was to become effective in 2018. Employers and employee representatives will now have an additional two years to prepare—perhaps increasing the prospect the tax may never take effect as originally envisioned.
The Cadillac tax is the principal revenue raiser for the ACA, and will impose a 40 percent tax on the cost of employer-sponsored health coverage over a threshold amount. In additional to its high marginal rate, the tax would have been non-deductible and therefore especially onerous. However, the tax will now be deductible, which will reduce its effective cost.
Conceptually, the Cadillac tax provides an indirect means of confronting a distortion in the Internal Revenue Code that Congress has refused to address directly by eliminating or capping the exclusion from taxation of employer-provided health benefits, which has been in place since World War II. The federal government expects the Cadillac tax to raise revenue, but not so much from employers paying the tax. Rather, employers are expected to provide less generous health benefits to avoid the tax, and raise their employees’ current taxable wages. It remains to be seen whether converting the tax from non-deductible to deductible will frustrate this transition, but the delay in implementing the Cadillac tax will likely cause, in the short run, a shortfall in the expected revenue needed to finance the costs of the ACA.
The Cadillac tax is imposed on the value of employer-provided coverage above the thresholds of $10,200 for single coverage and $27,500 for family coverage. Because these dollar thresholds are indexed to the general inflation rate rather than the medical services inflation rate, indexing will draw more and more plans and employers into the Cadillac tax’s net, assuming that future medical inflation continues to outpace general inflation. The delay in the Cadillac tax does not change the indexing formula, which begins in 2019 even though the tax is delayed until 2020. So when the Cadillac tax is first applied, the dollar thresholds will already have been increased to reflect approximately two years’ increase in the general rate of inflation. But if medical spending increases faster than the general inflation, a higher percentage of employers will be potentially subject to the Cadillac tax in 2020 than in 2018.
While the delay is welcome news, employers should begin planning soon to right-size their plans to levels that will avoid the tax. Planning sooner rather than later will help employers and their workers adjust to the new compensation paradigm favoring current taxable compensation over generous non-taxable health benefits.
As the federal health care reform effort gained steam, Ballard Spahr attorneys established the Health Care Reform Initiative to monitor and analyze legislative developments. With federal health care reform now a reality, our attorneys are assisting health care entities and employers in understanding the relevant changes and planning for the future. They also have launched the Health Care Reform Dashboard, an online resource center for news and analysis on developments under the Affordable Care Act.
