The Internal Revenue Service (IRS) continues to rev their regulatory engine as the agency proceeds with implementation of the excise tax on high cost health coverage, otherwise known as the Cadillac Tax. The Cadillac Tax is a 40% excise tax on health coverage exceeding certain thresholds ($10,200 for self-only coverage, $27,500 for coverage other than self-only) beginning with the 2018 tax year.
On July 31, 2015, the IRS published a second notice (Notice 2015-52) requesting comments on which entities will be required to pay the tax, how the tax is to be paid, and other issues. Here are the highlights from Notice 2015-52 for employers who sponsor group health plans:
- Who pays? The tax is paid by “coverage providers.” A coverage provider is a health insurance carrier for an insured plan, and the employer for an HSA or Archer MSA. A coverage provider for a self-insured group health plan is “the person who administers the plan benefits.” Notice 2015-52 points out that “the person who administers the plan benefits” is not specified in the ACA or other laws that the ACA amends. The IRS is considering whether the coverage provider for self-insured plans should be defined as the third-party administrator who pays claims for the self-insured plan, or the employer plan sponsor for the self-insured plan. NOTE: Although a health insurance carrier is responsible for paying the tax, the IRS has anticipated that health insurance carriers will likely pass through the cost of the excise tax to employer plan sponsors. Since the excise tax is not a deductible expense, health insurance carriers may pass through an additional amount to account for any taxes associated with the pass through of the initial income tax amount. Notice 2015-52 proposed a formula for health insurance carriers to use when calculating the income tax reimbursement amount. However, if these amounts are not separated from the premium, they could inflate the amount included for purposes of the determining the cost of coverage. In order to avoid this trap, the IRS has proposed that these amounts may be excluded for purposes of calculating the applicable cost of coverage only if the income tax reimbursement amount is separately billed and attributed to the cost of the Cadillac Tax. If this rule is finalized, employers with fully-insured group health plans should pay close attention to their bills and ensure that these amounts are billed separately and attributed to the Cadillac Tax.
- How will the tax be paid? The IRS contemplates the tax will be paid using IRS Form 720, a quarterly federal excise tax form, and that a particular calendar quarter will be specific for payment. IRS Form 720 is also used for the payment of the Patient Centered Outcomes Research Institute (PCORI) fee, due by July 31 of each year for the plan year ending in the prior calendar year. Employers paying the PCORI fee for their self-insured major medical plans, HRAs, and non-excepted health FSAs should be familiar with Form 720.
- Who calculates the amount of the tax? Generally, the employer plan sponsor is responsible for determining the cost components that must be included when calculating the tax (for example, the combined cost of coverage for a fully-insured major medical plan, health FSA contributions, and amounts available through an HRA) and for calculating the total applicable cost compared to the thresholds identified above. However, the employer’s obligations do not stop there. If the total cost exceeds the applicable threshold, the employer is also obligated to determine the proportion of the excise tax for any amounts in excess of the threshold attributable to each specific coverage provider. The employer must then notify the IRS and each coverage provider of the amount owed. For example, if the premium for a fully-insured major medical plan accounts for 70% of the total cost of applicable coverage that exceeds the threshold, then the employer must allocate 70% of the total excise tax amount to the health insurance carrier and notify the carrier of the amount owed. Note that the tax is calculated on an employee-by-employee basis. Depending on elections, HSA contributions (both employer and employee), FSA contributions (both employer and employee), and amounts available through an HRA, the applicable cost of coverage may be different for each employee. This will place a significant new burden on employers, and it is not yet clear what type of tools may be available to assist employers if the Cadillac Tax is implemented in its current form (more on this later in the post).
- When is the tax calculated? The tax is generally paid on a calendar year basis. Practically, an employer may not be able to calculate the applicable cost of coverage a calendar year immediately after the calendar year ends due to various timing issues with different types of plans. For example, self-insured plans may not be able to calculate the applicable cost of coverage until the close of the plan’s run-out period. Similarly, employers with experience-rated contracts may need to factor in any premium discounts or rebates. The IRS identified a variety of timing issues and is considering different methods for addressing them. Account-based plans, like rollover HRAs and health FSAs with a carryover feature, are also addressed.
- Do the controlled group rules apply? The answer is yes. Commonly owned entities may be considered a single employer for federal tax purposes. The IRS has solicited comments about the Cadillac Tax and its application to a controlled group, including which entity within the controlled group may be responsible for calculating and reporting the tax, and which entity may be liable for any penalties for failure to properly calculate or pay the tax. Employers who are members of a controlled group should watch these provisions closely. Work with your legal counsel to determine if you are part of a controlled group.
- Special Issues for Account-Based Plans: Although the tax is paid on a calendar year basis, the tax must generally be calculated monthly. This means that a pro rata amount of the threshold will be allocated for each calendar month, and the applicable cost of coverage for that month will be compared to the pro rata amount of the threshold to determine if the applicable cost exceeds the threshold for that month. This approach may be problematic for employers who provide seed contributions to an employee’s HSA or health FSA during one month of the calendar year, as the applicable cost of coverage for that month could exceed the monthly threshold and trigger the tax, even though the annual cost is less than the annual threshold. To remedy this problem, the IRS has proposed a “smoothing” rule to allow contributions to be allocated ratably for each calendar month, regardless of when the contribution is actually made. This rule is generally beneficial for employers, and we hope it survives during future rulemaking.
Keep in mind that Notice 2015-52 is informational only, and is intended to solicit comments and input from stakeholders as part of the rule-making process. It doesn’t require any employer action. However, it does provide important insight into many practical issues and obligations that employers may face when (or if) the Cadillac Tax is implemented. This provision is unpopular with politicians on both sides of the aisle and bipartisan legislation has been introduced in an effort to repeal the tax. Additionally, multiple groups have been formed to lobby for repeal of the Cadillac Tax.
The provision is expected to raise a significant amount of revenue – revenue that may need to be replaced somehow if the Cadillac Tax is repealed. Lobbying groups argue that the revenue intended to be raised by the Cadillac Tax will never materialize if the tax is implemented in its current form because most employers will restructure their plans to avoid crossing the thresholds. Nevertheless, the question of revenue is likely to be a prominent one in repeal discussions. Employers, benefit advisers, and other industry stakeholders should not only keep a close eye on regulatory guidance as it continues to trickle out of the IRS, but also on the question of repeal and what might replace the Cadillac Tax if repeal occurs. We are monitoring the developments and will post updates on the Healthcare Reform Digest as new information is released.