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    Cadillac Tax Is Flawed, But Fixable and Necessary, According to New Research
    1/5/2017



    By: DJ Nordquist

    The excise tax on premiums paid for high-cost employer-sponsored plans, also known as the Cadillac tax, is an important provision of the Affordable Care Act (ACA) and should be retained even if the larger law is repealed because it will not only help control the growth of health care spending but also will provide revenues needed to pay for any potential ACA replacement, according to a new research by experts at the Urban Institute and the Schaeffer Initiative for Innovation in Health Policy, a collaboration between the Center for Health Policy at Brookings at the USC Schaeffer Center. However, the tax should be improved to increase political acceptability and to correct genuine shortcomings in the current law.

    The Cadillac tax was originally projected to raise $90 billion over 10 years from a 40 percent excise tax levied on plans with annual premiums in excess of $10,200 for singles and $27,500 for families. Because Congress delayed implementation of the tax until 2020 the thresholds are to be adjusted and the revenue that the tax would be slightly higher yield than original estimates.

    In “Building a Better Cadillac,” Brookings Senior Fellows Henry J. Aaron and Paul Ginsburg (also Professor and Director of Health Policy at the USC Schaeffer Center for Health Policy & Economics) and Urban Institute Senior Fellows Linda J. Blumberg and Stephen Zuckerman propose modifications to the existing tax to meet several criticisms. For example, the paper proposes direct relief of low- and moderate-income households to relieve them of potentially burdensome out-of-pocket costs likely to result from changes in insurance plans induced by the tax. They endorse simple administrative changes to avoid an unintended side effect of the current law that would discourage the use of Flexible Spending Accounts, which allow people to set aside funds to help meet medical expenses.

    The authors also point out that the goals of the Cadillac tax could also be achieved by a cap on the exclusion of employer-sponsored insurance from personal income and payroll taxation, an approach that the authors favor and that some opponents of the Affordable Care Act have endorsed to help fund initiatives to replace it.

    Specifically, the authors recommend that a modified Cadillac tax:

    • Adjust the thresholds at which the tax applies—not just by age, sex, and or for high-risk industries, but also by employer size.  Consideration should be given to additional adjustments for geographic variations in medical costs and for differences in workers’ health status across employers.
    • Update the thresholds using an index based on per capita GDP, rather than with the Consumer Price Index. Current indexing mechanisms will extend the tax to a continually growing proportion of insurance plans and the employees covered by them. Although policymakers may have intended such “tax creep,” the authors believe current indexing rules will ultimately force employers either to stop financing health insurance or to impose overly onerous cost-sharing on workers.
    • provide direct aid either through tax credits or some other mechanism to financially vulnerable people with high medical needs whose out-of-pocket costs would likely increase.
    • Reduce administrative burdens under the Cadillac tax for employers who offer Flexible Spending Accounts (FSAs) to their employees.

    If the Cadillac tax proves to be politically unpalatable, the authors urge policymakers to adopt a cap on the exclusion of employer-paid premiums from personal income and payroll taxes. The authors compare effects of an excise tax and an exclusion cap under different assumptions, concluding that the differences are not large, but “In the end, we believe that an exclusion cap is somewhat preferable to the Cadillac tax (or any other excise tax on high-cost plans)…”

    Even with its acknowledged flaws, the authors stress that retaining the tax as is would be preferable to outright repeal. The tax raises considerable revenue in a progressive manner by limiting a regressive tax benefit that encourages the purchase of overly generous health insurance plans.

    “The Cadillac tax has significant positive attributes and fixable flaws. It raises considerable revenue in a fairly progressive manner. It will limit a regressive tax benefit that encourages the purchase of overly generous health insurance plans, weakening incentives for insured people to make cost-conscious insurance choices.  The Cadillac tax has some shortcomings,” they conclude. But they “believe that a modified version of the Cadillac tax can still play a valuable role both in fostering health care cost containment and in providing revenues to expand coverage, either under a modified version of the ACA or in an alternative that achieves a similar level of coverage.”