Commentary: Even if you are in the thick of open enrollment, it’s still the right time to prepare for the Cadillac tax. What’s the big deal about the Cadillac tax? Well, until very recently, a great way to attract and retain high-caliber employees was to offer the perk of great health insurance. But thanks to the Affordable Care Act, and the so-called Cadillac tax that goes into effect in 2018, employers are going to have to radically rethink their benefits strategies.
The Cadillac tax is a hefty federal tax that will apply to employer-provided health plans that cost more than a certain amount per year. Organizations of all sizes will have to strike a balance between how they reduce their risk of exposure to the Cadillac tax while still providing attractive benefits for employee recruitment and retention.
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The good news is there are clear-cut options for avoiding the Cadillac tax, as well as ways to proceed without alienating current and future employees. Companies that start preparing now can reduce their tax exposure, resulting in significant savings for employer and employees alike.
The Cadillac tax is a 40% excise tax on high-cost health benefits that exceed $10,200 for an individual and $27,500 for a family. Basically, the tax is 40% on every dollar spent above these thresholds — for large employers, the amount can add up very quickly to negatively impact the organization’s earnings per share.
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The intent of the Cadillac tax is to discourage overuse of care and generate tax revenue to fund the ACA. Although the tax goes into effect in 2018, companies really only have one open enrollment period left to educate employees and engage them in selecting the best health care benefits for their families.
Avoidance options
The reality is that the ACA is an evolving law, so some companies may try to hedge their bets and do nothing to avoid the tax in the hope that it will go away. But with health care costs often being the second largest budget item after payroll, many companies could benefit financially by taking a closer look at their plans — regardless of the tax impact. In fact, the time might be right to encourage employees, many of whom may be over-insured, to be smarter health care consumers and to avoid negative economic consequences in their own coverage choices.
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What’s more, the Cadillac tax is tied to an inflation benchmark that will increase at a slower rate than medical inflation. So, even if current plans will not trigger the tax, employers could be at risk of exposure in the near future. Thanks to rising medical costs, more plans may be deemed “high-cost health plans” faster than employers may expect.
What’s an employer to do? Some companies have looked at avoiding the Cadillac tax by dropping employee coverage, reducing the value of health plans and/or restricting spousal coverage. But all of these options are likely to drive away current and future employees.
Other employers have opted to tweak their health plans with smaller health care networks, value-based health plans and medical tourism. While these options have different pros and cons, a big consideration is whether the changes will be enough to mitigate the long-term risk of exposure to the Cadillac tax.
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Our recommendation is for employers to offer a consumer-directed health plan.Also known as high-deductible health plans, CDHPs can bring down health plan costs to address Cadillac tax concerns while still delivering quality care. These plans do require employees to pay more expenses out of pocket before insurance coverage kicks in, but they also have the potential to deliver a significant tax advantage that comes with the health savings accounts associated with this type of plan.
CDHPs are still a relatively new arrival on the health insurance landscape, so it’s important to educate employees on the how to use this type of plan to their greatest benefit. In fact, many employers might want to offer CHDPs as part of a menu of insurance options rather than as a full-replacement plan.
Moving forward
Employers can reduce a lot of turmoil by taking a phased approach to Cadillac tax avoidance. First, CFOs can determine their specific organization’s risk of exposure to the Cadillac tax. Then, they can work with HR teams to identify plans that will have the greatest economic benefit for the organization while still satisfying employees. To calculate the risk of exposure to the Cadillac tax, CFOs can:
- Calculate the total cost of employee health plans to determine whether any plan goes above the pay-or-play thresholds, including premiums paid by employers and employees as well as other costs, such as employee assistance plans. Pay-or- play requires employers with 50 or more full-time employees to offer minimum essential coverage to “substantially all full-time employees or dependents” or risk being fined $2,000 per employee per year.
- Calculate the tax liability associated with any plan that exceeds the threshold. The tax payment will be 40% of any plan costs that exceed the threshold.
To cultivate employee support, benefit and HR teams should be prepared to educate employees about the merits of different plans. For example, employees might not realize that CDHPs enable them to save tax-free for health care expenses or that there are investment opportunities associated with HSAs. A little education can go a long way in encouraging a move to lower-cost plans.
Scott Van Horn is the vice president of client services at Tango, a benefits administration and software company, where he manages all client-facing operations, including implementation, account management, and client service.
