Monthly Health Care Reform Update THE CADILLAC TAX

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1 Brown & Brown Monthly Update Newsletter provided by Miller Johnson Update #7 - August 2014 Monthly Health Care Reform Update THE CADILLAC TAX This update is part of a Brown & Brown series summarizing new guidance issued in connection with the Patient Protection and Affordable Care Act (also known as Health Care Reform). We are joining forces with our business partner, the law firm of Miller Johnson, to provide these updates to you. For this edition, we are focusing on the excise tax on high cost employersponsored health coverage (more frequently referred to as the Cadillac tax). The Cadillac tax is effective for taxable years (i.e., not plan years) beginning on or after January 1, Because the Cadillac tax may potentially subject employers to a significant liability, employers especially those negotiating collective bargaining agreements that extend into 2018 should begin to consider the implications of the Cadillac tax now. What Employer Coverages are Subject to the Cadillac Tax? The Cadillac tax applies to applicable employer-sponsored coverage. This means that all group health plans made available by an employer which includes federal, state, and local governmental employers to employees is subject to the Cadillac tax, unless it is expressly exempted. The following types of employer-sponsored insurance coverage are exempt from the Cadillac tax: Fully insured dental or vision insurance that is issued under a policy, certificate or contract of insurance that is separate from the group health plan; Long-term care insurance; Coverage only for accident, or disability income insurance, or some combination of the two; Liability insurance, including general liability insurance and automobile liability insurance; Coverage issued as a supplement to liability insurance; Workers compensation or similar insurance; Automobile medical payment insurance; Credit-only insurance;

2 Insurance, specified in the Treasury regulations, under which benefits for medical care are secondary to other insurance benefits; Specified disease or illness insurance; and Hospital indemnity or other fixed indemnity insurance. Based on these exclusions, here are some notable employer coverages that are subject to the Cadillac tax: Medical Flexible Spending Accounts ( FSAs ) (regardless of whether the FSA qualifies as a HIPAA excepted benefit ); Health Savings Accounts ( HSAs ); Health Reimbursement Arrangements ( HRAs ) and Medical Expense Reimbursement Plans ( MERPs ); and On-site medical clinics. How is the Cadillac Tax Calculated? The Cadillac tax is 40% of an employee s excess benefit. (The taxable period in which the excess benefit is calculated is generally the calendar year. But, the IRS may select a shorter period or impose periods of different lengths based on the size of the employer.) Excess Benefit The excess benefit for a month is the amount that the aggregate cost of the applicable employersponsored coverage exceeds 1 / 12 th of the annual limitation. Aggregate Cost of the Applicable Employer-Sponsored Coverage The aggregate cost of the applicable employer-sponsored coverage is sum of the costs (as explained below) of each employer-sponsored coverage that is subject to the Cadillac tax in which an employee is enrolled. Group Health Plans (Major Medical Coverage, HRAs and MERPs) The cost of coverage under a group health plan is calculated using the same principles as calculating the applicable premium for purposes of COBRA (less the 2% administrative fee). However, regardless of how the applicable premiums for different tiers of coverage are calculated for COBRA, for purposes of the Cadillac tax, separate costs must be calculated for self-only coverage and other than self-only coverage (i.e., employee-plus-one and family coverage). Medical Flexible Spending Accounts

3 The cost of coverage under a Medical FSA is the sum of an employee s salary reduction contributions to the Medical FSA, plus any reimbursement in excess of the employee s salary reduction contributions (i.e., due to employer contributions to the employee s Medical FSA). Health Savings Accounts The cost of coverage under an HSA consists of employer contributions to the HSA. Additionally, if an employee makes pre-tax HSA contributions through a Section 125 Cafeteria plan, the employee s pre-tax contributions are treated for purposes of the Internal Revenue Code as employer contributions. In other words, employee pre-tax HSA contributions are included in the cost of coverage for purposes of the Cadillac tax. After-tax contributions made outside a Section 125 Cafeteria plan, however, are not included. Annual Limitation In 2018, the first year that the Cadillac tax is imposed, the annual limitation for self-only coverage is $10,200 and for other than self-only coverage is $27,500. (There is a special, more favorable rule for multiemployer plans. Under this special rule, all coverage under a multiemployer plan is treated as other than self-only coverage, regardless of the type of coverage the employee is actually enrolled in). For participants in a plan sponsored by an employer in which the majority of the employees enrolled in the plan are engaged in a high-risk profession, or employed to repair or install electrical or telecommunications lines, the annual limitations above are increased by $1,650 and $3,450 respectively. (High risk professions are police officers; firefighters; emergency medical technicians, paramedics, and first-responders; longshoremen; and employees engaged in the construction, mining, agriculture (but not food processing), forestry, and fishing industries.) These annual limitations may also be adjusted as follows: Health Cost Adjustment The health cost adjustment is a one-time adjustment designed to increase the annual limitation amounts in the event that the actual growth in the cost of U.S. health care between 2010 (i.e., the year that Health Care Reform was enacted) and 2018 (i.e., the year the Cadillac tax is effective) exceeds the projected growth for that period. The adjustment is based on the extent that the per employee cost of providing health coverage under the standard benefit option in the Federal Employees Health Benefits Plan exceeds 55% from 2010 to Cost-of-Living Adjustment The annual limitations will be annually adjusted to reflect the changes in the cost-of-living. (Note: for 2019 only, the cost-of-living adjustment is increased by an additional 1%.) Age and Gender Adjustment

4 The annual limitations will also be annually adjusted by a complicated calculation to factor in age and gender characteristics of the standard benefit plan option in the Federal Employees Health Benefits Plan compared to the age and gender characteristics of the national workforce. Presumably, the IRS will provide tables or formulas to assist employers calculate this adjustment. Who Calculates the Cadillac Tax? Regardless of whether the plan is fully insured or self-funded, the employer that sponsors the group health plan(s) subject to the Cadillac tax is responsible to calculate the tax. As explained below, the insurer in fully insured arrangements is responsible for paying the Cadillac tax. So, in addition to the IRS, employers that sponsor fully insured plans must also report the amount of the excess benefit to the insurer. Who Pays the Cadillac Tax? For fully insured arrangements, the insurer is responsible to pay the Cadillac tax. For HSAs, the employer is responsible to pay the Cadillac tax. And, for all other self-funded coverages that are subject to the Cadillac tax, it is the plan administrator that is responsible to pay the Cadillac tax. (In typical single-employer plans, the employer, plan administrator and plan sponsor are the same entity. However, other arrangements, such as a multiemployer plan, may require several different entities to pay the Cadillac tax. There is a special rule that applies to Medical FSAs. If the Medical FSA is self-administered, the plan administrator is responsible to pay the Cadillac Tax. However, in a typical arrangement where the Medical FSA is administered by a third party administrator, it is the third party administrator that is responsible to pay the Cadillac tax. Allocating the Cadillac Tax Because different entities are required to pay the Cadillac tax for different types of coverage, but the Cadillac tax is calculated by using the aggregate cost of the applicable employer-sponsored coverage, the Cadillac tax may need to be allocated pro rata to the different entities responsible for paying the Cadillac tax. Here is an example: In 2018, an employee elects family coverage under a fully insured major medical policy with a value of $28,500 and contributes $2,500 to a Medical FSA, which is administered by a third party administrator. The employee s aggregate cost of applicable employer-sponsored coverage is $31,000 ($28,500 + $2,500). If the adjusted annual limitation for other than self-only coverage is $28,100 for 2018, the amount of this employee s excess benefit is $2,900 ($31,000 - $28,100). The employer must allocate a portion of the excess benefit to the fully insured medical policy for which the insurer is responsible to pay the Cadillac tax and a portion to the Medical FSA for which the third party administrator is responsible to pay the Cadillac tax. $2,666 is allocated to the insurer ($2,900 x ($28,500/$31,000)) and $234 is allocated to the third party administrator ($2,900

5 x ($2,500/$31,000)). The total Cadillac tax is $1,160 (40% x $2,900), of which $1,066 is paid by the insurer and $94 is paid by the third party administrator. Retiree Coverage It doesn t appear that a retiree-only plan (i.e., a retiree-only plan is a plan that, on the first day of the plan year, covered less than two participants who are current employees) is subject to the Cadillac tax, because a retiree-only plan is not a group health plan. Having said that, group health plans that cover retirees in addition to current employees must include retirees in determining the Cadillac tax. However, plans that cover retirees may treat retirees who have not attained age 65 as similarly situated to retirees who have attained age 65, so both have the same cost of coverage. Since employers are permitted to use the same cost of coverage for pre-age 65 retirees as retirees age 65 and older, this should reduce the aggregate cost of the applicable employer-sponsored coverage for pre-age 65 retirees. This is because retiree coverage for retirees age 65 and older is typically cheaper because it will pay on a secondary basis to Medicare. The increased annual limitations for employees engaged in high-risk professions may also be used to calculate any applicable Cadillac tax for qualified retirees and retirees of high-risk professions (if the retiree was in a high-risk profession for at least 20 years). A qualified retiree is a retiree who is receiving coverage by reason of being a retiree, is at least age 55 and is not eligible for enrollment in Medicare. MJ_DMS v