Should We Keep the ObamaCare “Cadillac” Tax?

 

Is the ObamaCare “Cadillac” Tax a good thing or a bad thing? That’s today’s question as Republicans continue to tinker with President Obama’s legacy healthcare system.

The ObamaCare “Cadillac” Tax was originally slated to begin in 2018 but thus far it has been delayed until 2022. House Republicans want to pass a bill further delaying this tax by another year to 2023. Is this a good idea? 

First, let me explain the ObamaCare “Cadillac” Tax. It is a 40% excise tax on high-cost employer-provided healthcare insurance plans. It applies only to those insurance premiums costing greater than $11,000 for individuals and $30,000 for families.

The tax is actually paid by the insurance companies, but the impact on the insured is ultimately the same as if they paid it themselves. As ObamaCare co-architect Jonathan Gruber famously noted, ““We just tax the insurance companies, they pass on higher prices that offsets the tax break we get, it ends up being the same thing. It’s a very clever, you know, basic exploitation of the lack of economic understanding of the American voter.” This was one of many deceptions of the American people Gruber bragged about in his candid remarks that were caught on videotape.

The Cadillac Tax Purpose

The pre-ObamaCare tax treatment of insurance policies has been unequal since the 1950’s. In the post WW II era of wage and price controls, employers were limited in their ability to attract new and better employees with higher wages. To offset these limitations, employers began offering health insurance benefits as an incentive to attract better workers. The IRS did not treat the cost of the insurance policies as extra income. Those who purchased their insurance as individuals apart from an employer did not enjoy this tax exclusion. This unfair and unequal tax treatment of insurance premiums has continued to this day.

ObamaCare imposed the Cadillac Tax as a method to discourage employers from increasing spending on insurance benefits as a means of avoiding higher taxes. By imposing the Cadillac Tax on amounts above the limits, the Obama administration hoped to lower expenditures on health insurance, which they falsely labeled “lower costs” to support their narrative that ObamaCare “bends the cost curve” of healthcare.

James C. Capretta, a healthcare economist at the American Enterprise Institute, writes in The Wall Street Journal that the ObamaCare Cadillac Tax is worth keeping. He explains the current tax system encourages employers to shift compensation toward generous health benefits. “Overly rich health plans encourage consumers to use more health services than they otherwise would, which drives up costs. On average, employer plans cost 35% more than they would if health benefits were fully taxed like cash compensation, according to a 2008 study.”

This issue has been a political football kicked around by both parties for years. President Reagan tried to cap the tax exclusion in 1983 and President George W. Bush tried in 2007. These efforts failed due to opposition by business and labor unions. In 2008, John McCain campaigned on a proposal to tax job-based health benefits to level the playing field but Barack Obama hammered him in political ads for “taxing health benefits for the first time in history.” Then Obama reversed himself, once he was president, when he supported the Cadillac Tax.

Pros and Cons

Capretta says the Cadillac Tax impact would be higher wages for workers as employers were forced to use savings on the expensive plans (which they would avoid) to raise wages in a competitive labor market. He says this tax is essential for a market-based approach to cost control. The current system, which is subsidized by the tax exclusion, undermines the incentive for employers and workers to seek out lower-cost options.

In 2015 I did a three-part series on the Cadillac Tax. (Understanding the ObamaCare Cadillac Tax – Part I, Understanding the ObamaCare Cadillac Tax – Part II, Understanding the ObamaCare Cadillac Tax – Part III) In that series I explained the impact of the tax using the work of Duke University economist Chris Conover. The conclusions of that series were:

  • The Cadillac Tax would eventually affect nearly everyone
  • The impact would be greater on larger businesses than smaller businesses
  • The impact would be harsher for low-income workers than high-income workers

 

Capretta concedes that while the initial impact would affect only 4% of all employer plans, over time, more employer plans would be affected. But he believes the Cadillac Tax should nevertheless be retained. He says, “Many provisions in ObamaCare should be repealed, but the Cadillac tax isn’t one of them. Republicans should look past its origin as part of ObamaCare and leave it alone. They don’t have the will to replace it with something better, and killing it would help those who say the only answer to rising costs is more government regulation.”

Below is a chart put together by former Senate Majority Leader Bill Frist (R –TN) that projected the impact of the Cadillac Tax over time:

The chart shows that in 2018 only about 15% of employers would be impacted by the Cadillac Tax. But by 2029 the tax will impact 76% of employers.

The problem is the tax exclusion of health benefits paid by employers. The playing field must be leveled by some means. Eliminating the tax exclusion for everyone would be an obvious solution but it is politically impossible. The Cadillac Tax provides a disincentive for abusing the current tax exclusion but has drawbacks as we have discussed above. It’s a complex issue that deserves greater study and bipartisan compromise to achieve the greater good. Unfortunately, that’s unlikely to happen in Washington today.

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