Plan design can help employer plan sponsors avoid the objectionable task of paying excise taxes on health plan coverage they provide to employees.
The Cadillac tax is the Affordable Care Act’s way of taxing health benefits, in part to fund the law’s ambitious coverage objectives. As liability under the tax in 2018 approaches, employers are considering cutting plan costs to avoid or delay falling under it.
Shifting companion accounts to an after-tax basis funded by employees was one method that may be effective if done properly, a group of four speakers led by Tracy Watts, a senior partner specializing in employee health benefits at Mercer LLC’s Washington D.C. offices, said in a Sept. 24 webinar.
Designed to Capture More and More Employers
The 40-percent tax is applied to the amounts exceeding $10,200 for self-only and $27,500 for family coverage, with higher thresholds for retirees and workers in high-risk professions.
The tax is tied to the consumer price index plus 1 percent for its first two years of implementation but then just to the CPI. Of course, health cost inflation grows much faster than the CPI, as has been the case for more than a decade. Therefore, the Cadillac tax is designed to capture more and more employer plans, forcing them to cut benefits or pay the tax.
Using a conservative 6-percent growth rate for medical cost inflation (and not including health savings accounts, health reimbursement arrangements and health flexible spending accounts) about 33 percent of employers will hit the threshold in 2018, and 50 percent to 60 percent will hit it in 2022, the international business consultant found in a survey.
And, the total includes more than just the medical plan cost. Also included are health FSAs, employer contributions to HSAs, HRAs and some on-site clinics — as well as dental and vision coverage, if it is bundled with medical, and employee pre-tax HSA contributions.
How Not to Lower Plan Cost
Shifting premiums to employees cannot reduce Cadillac taxable plan costs because the tax is levied on the sum of the employee and employer contributions. Also, reducing the value of the coverage so the employee increasingly has to go out of pocket can result in crossing below health care reform’s 60-percent minimum value threshold, which can expose the health plan to tax penalties under the ACA’s employer mandate.
In addition, HRA, and HSA and health FSA contributions on a pre-tax basis will be counted when calculating the Cadillac tax. On-site medical clinics offering more than “de minimis” medical care will be counted too.
Illustration: While not many plans are at the $10,200 single-only level yet, if the sponsor offers a $2,500 health FSA, the sponsor could trigger it with a $7,700 medical plan. Complicating the picture further, some employees may choose to fund their health FSA at $1,000 and others may fund at $3,000, so the trigger may be set off by some workers and not by others.
Post-tax Contributions Do Not Count
But employee contributions made on a post-tax basis into those accounts will not be counted. And limited-scope dental and vision coverage will not be counted either. Of these, employee payments to HSAs are the most advantageous because individuals can get tax exemptions for those.
That led the Mercer experts to present the following coping strategies:
- Carve out dental and vision to get them out of the medical plan so they can be an excepted benefit not subject to the tax.
- Move spending from medical plan coverage and pre-tax accounts to an after-tax HSA, and make the employee pay part or all of that benefit. They can be compensated with a salary adjustment. Participants may take federal tax deduction for post-tax HSA contributions and in many states they can do the same on their state taxes.
Caveats: This after-tax approach is not completely tax effective because FICA taxes still apply, and adjusting compensation is not simple because of the payroll changes involved, the speakers noted. And such an approach would impact different employees differently; for example, employers will have consider whether they need to give bigger compensation adjustments to people with family coverage. - Move to a high-deductible plan, which converts premium spending that could be taxed into the risk of the covered employee having to shoulder expensive health costs if the need arises.
- Reduce the health FSA contribution limit or eliminate the health FSA entirely, particularly if the underlying plan is rich and costs a lot.
- Limit the health FSA or HSA to dental and vision only, again because like the stand-alone dental or vision benefits themselves, those accounts will not count in the Cadillac tax calculation.
- Move early retirees aged 55 through 64 into a separate program, because those plans get a 10-percent increase in the excise tax threshold.
Formal rules on the Cadillac tax do not exist yet (in proposed or final form), but two pieces of preliminary guidance do provide insight into the government’s preferred approach to certain questions. They are:
- Notice 2015-16, which covers who should be included in the tax; how actuaries calculate the cost of coverage; and whether aggregation of plans and tiers should be allowed.
- Notice 2015-52, which covers who should pay the tax if the tax is owed, and how age and gender adjustment should work.