Think Tank

Is the ‘Cadillac Tax’ a Good Idea?

The Affordable Care Act calls for a new tax to be levied in 2018 on expensive employer-provided health insurance.

Known as the “Cadillac tax,” the new rules will require health plans for employees that cost more than $10,200 annually for an individual — or $27,500 for a family — to pay a 40 percent tax on any amount over the limit.

Proponents say the tax will help keep health care costs from rising as quickly as they would without it and point out the new tax will produce significant revenue. The Congressional Budget Office estimates the tax will generate $87 billion for the federal government in its first eight years.

Opponents say costs will be passed along to employers and consumers and will end up hurting the system

Efforts are under way in Congress to repeal the tax before it starts. The issue is also popping up in early presidential campaigning.

We asked consumer advocates, employers, insurers and other stakeholders if the Cadillac tax is a good idea.

We received responses from:

Cadillac Tax Could Start Race to the Bottom

Although CalPERS remains committed to continued collaboration with the federal government to help ensure the successful implementation of the ACA, we believe the Excise Tax on High Cost Employer-Sponsored Health Coverage, also known as the Cadillac tax, is deeply flawed.

As both a health care purchaser and a public employee retirement system, we have a vested interest in the health of our members, not only during their tenure as employees, but also throughout retirement. CalPERS does not consider our health plans “Cadillac,” in the sense of providing extravagant and extraneous benefits to our members. Rather, we see our plan design as offering a level of coverage that, for more than half a century, has helped ensure that the employees who serve the people of California are not forced to choose between seeking necessary health care and experiencing a medical bankruptcy or other extreme health-related financial hardship — a level of coverage that is quickly eroding in the current employer-sponsored health care marketplace.

Although the ACA imposes the tax on coverage providers to ostensibly lower the growing cost of health care, in all likelihood the tax will be passed directly to both employers and employees through higher premiums, and to employees through greater cost sharing. And while the law attempts to ease the tax thresholds based on certain demographics, these mitigating factors are not sufficient over the near or long term to prevent plans from falling subject to the tax.

CalPERS believes the Cadillac tax could initiate a race to the bottom and potentially weaken the health security of Americans fortunate enough to have employer-sponsored health coverage. CalPERS has worked diligently over the years to keep our rate increases modest while continuing to provide employees, retirees and their dependents high-quality, comprehensive and affordable coverage. We believe our level of coverage, rather than that likely to result from the Cadillac tax as employers cost shift to employees, better embodies the spirit of the ACA.

Coverage for 175 Million Americans at Risk

While the Cadillac tax sounds like it applies to a small handful of individuals with luxurious health coverage, the truth is the health care that 175 million Americans like and want to keep is at risk because of this tax. Hardest hit will be retirees, low- and moderate-income families, public sector employees, small businesses and the self-employed. The tax must be repealed.

The Cadillac tax is a 40% non-deductible excise tax on the value of employer-sponsored health coverage that exceeds certain benefit thresholds — initially, $10,200 for self-only coverage and $27,500 for family coverage in 2018.

The tax was clumsily constructed and thus penalizes employers for factors that are completely out of their control, impacting employers that have a higher number of disabled workers, unusual cases of high-cost cancer, premature babies or larger families, for example. Employers with locations in high-cost areas or in specific industries, such as manufacturing or law enforcement, are also unequally targeted by the 40% tax. Every year an increasing number of moderate health plans will be subject to the tax because it is indexed to the consumer price index, which is lower than health care inflation. In fact, 82% of employers believe their plans will be affected by the tax within the first five years of implementation.

It is urgent that Congress repeal the 40% tax as employers are already taking steps to avoid it by cutting benefits and changing plan designs. A recent study found employers are increasing deductibles and implementing other cost-sharing programs right now, in 2015, to avoid being on a trajectory to trigger the tax when it goes into effect in 2018.

Supporters of the tax argue it is necessary to drive down health care costs — but the reality is the tax does nothing to make health care more affordable. It is not decreasing the cost of hip or knee replacements or prescription drugs. It is merely forcing employers to shift costs to employees in the form of higher deductibles and copays. 

Thankfully, a majority of members of Congress agree the tax should be eliminated and have cosponsored bills to repeal the tax. This bipartisan group recognizes the harmful impact the tax is already having and will continue to have on their constituents. Congress can’t wait — the time to repeal the tax is now.

Cadillac Tax a Bad Idea for Employers, Consumers

The Cadillac tax is not only a misnomer, it’s a bad idea for the more than 150 million Americans who rely on and value the health coverage that their employers offer. Economists argue that it will discourage waste caused by excessive coverage. But because the thresholds that trigger the tax are not based on the generosity of the coverage, the tax will also affect plans that Americans would hardly consider excessive, like account-based, high-deductible plans and plans with limited networks.

Moreover, the Affordable Care Act indexes the thresholds to the consumer price index, not to changes in health care spending, meaning that all plans will trigger the excise tax eventually. That’s because health care spending, though slower in recent years, is still growing twice as fast as the general inflation rate. From 2008 to 2013, it grew 3.9% annually according to CMS. During the same period, inflation grew an average of 2.1% annually, according to the Bureau of Labor Statistics.

If these trends continue, the average employer plan will exceed the thresholds in the not-to-distant future, no matter what measures employers and employees take to reduce costs.

Because of these problems, it’s unclear how the Cadillac tax promotes efficiency and reduces waste as economists claim. If left unchanged, the tax appears to be nothing more than a built-in revenue generator for the federal government, indiscriminately affecting people of all incomes, irrespective of the richness of their health benefits and whether their health care spending is for needed or unnecessary care. Moreover, the tax bite will keep growing each year that medical inflation outpaces that of the economy overall, affecting more and more people.

We all want more effective, more efficient health care. The Cadillac tax, which focuses solely on reducing the demand for health care services is not the best way to address the really hard aspects of health reform — eliminating the widespread inefficiencies and uneven quality on the supply side.

Employer plans have been at the forefront in driving value in health care delivery with initiatives like medical homes, centers of excellence, accountable care organizations, and alternative sources of primary care. The Cadillac tax jeopardizes their ability to continue to do so. Until policymakers tackle comprehensive payment and delivery reform, it would be wise to follow one of the first precepts of medicine in deciding the fate of the Cadillac tax — first do no harm.