Employers shouldn’t throw away their Cadillac tax-mitigation report just yet
As a benefits professional, you’ve likely noticed that the special tax treatment of employer-sponsored health plans (aka Section 125) is in big trouble. Scaling back the ability of employees to reduce their taxable income to pay for medical, dental and vision premiums seems to be something that many leaders in our federal government, including Speaker Paul Ryan and Health and Human Services Secretary Tom Price, actually agree upon. And if the eyes of Capitol Hill staffers are a harbinger of what happens next, Council of Insurance Agents & Brokers representative Joel Kopperud’s quote in his recent essay, Balancing Act, might increase our uneasiness:
Every time I raise the [Section 125] issue with a staffer on Capitol Hill, I’m met with a look of angst and concern. It is one of the most frequently considered expenditures to subsidizing lower tax rates.
The reason Congress and the executive branch gaze covetously at Section 125 is simple: It’s where the money is. At $260 billion, it’s the single largest tax expenditure. And of that $260 billion, $140 billion comes from the FICA break. In comparison, the mortgage-interest deduction is $70 billion.
An astute CBIZ colleague keeps asking me, “Zack, if we keep all of the aspects of the Affordable Care Act that folks like and eliminate all of the funding sources, how are we supposed to pay for it?”
To which I reply, only half-kiddingly, “Sell more T-bills?”
Section 125 costs so much because it is used so much. With all of the media focus on the individual health insurance market, we need to remind ourselves from time to time that only about one out of every 10 pre-Medicare age adults in this country actually has an individual health insurance policy (on or off exchange). About 60 percent of us access health coverage through our employers. As of 2015, the source of health coverage for adults aged 19–64, per the Kaiser Family Foundation, is as follows:
Other Public (e.g., Tricare, Medicare)
Meanwhile, as EBN reports, it remains unlikely that the so-called ACA repeal will occur any time soon.
Thus, if employers and their consultants want to worry about something, perhaps we should worry more about Section 125 curtailment than about next steps for the ACA. However, I’m not very good at worrying — I always end up worrying about the wrong thing. How about you?
Instead of worrying, what risk-management steps can we take now to put our minds at ease? Remember the Cadillac tax that was delayed until 2020 and might be repealed this year? In lieu of curtailing Section 125, that tax was designed to, introduce a 40% excise tax that essentially did the same thing. Of course, one fallacy in this back-door approach was the premise that all employees enrolled in Cadillac plans have a marginal tax rate of 40%.
If you proactively developed a Cadillac tax-mitigation plan, the good news is that you already have a framework for mitigating any initial Section 125 curtailments. Chances are your mitigation study featured a few thousand calculations and then these recommendations:
· Eliminate all non-high-deductible health plans (non-HDHPs)
· Eliminate the health care flexible spending account plan
· Cease allowing employees to contribute to health savings accounts (HSAs) via the Section 125 plan. Instead, allow after-tax HSA contributions (with the income tax deduction taken on individual Form 1040s)
· Eliminate all employer contributions to HSAs
These four strategies remain great arrows in your quiver. A new arrow to add is the elimination or replacement of high-cost dental and vision plans. Of note, under Speaker Ryan’s proposal, the HSA arrow would not be needed.
As with Cadillac tax mitigation, the new strategy will be to shimmy under whatever Section 125 threshold limitation emerges from Congress. The goal will be to ensure or at least enable all employees to choose a package of benefits that retains 100% of the tax-favored nature. The hope is that the limbo bar is at least a few feet off the ground.
What can an employer do at its next open enrollment to get ahead of any Section 125 plan changes, short of prematurely making sweeping benefits cuts?
1. Repeatedly remind all employees, especially the highly compensated (HCEs), that the most expensive health, dental or vision plan offered may not provide the most financial value. Encourage everyone to do the math. Provide a calculator.
2. Remind employees of the likelihood that all non-HDHPs will eventually be eliminated. Double-check that your plan documents allow for the amendment, modification and termination of the plan.
Demonstrate to the HCEs not enrolled in an HDHP the tax advantages of an HSA. Encourage them to compare the differences in spending, for example, $3,000 in extra premiums versus investing $3,000 into an HSA. Show them the advantages of an HSA over an FSA. Ask them to discuss and model these topics with their financial planner and tax adviser.