Health Reform as Tax Law

The engine behind health care reform under the Patient Protection and Affordable Care Act (PPACA) is a tax law designed to impose an estimated $570 billion of new taxes over 10 years. Along with estimated cuts of $525 billion from Medicare, PPACA will support new governmental spending on health care of about $1.2 trillion, as estimated by the Congressional Budget Office and the staff of the Joint Committee on Taxation. PPACA will closely regulate most employers to encourage them to provide employees with health coverage that is comprehensive and “affordable,” but not “Cadillac” coverage, or coverage that discriminates in favor of the highly paid.

The Supreme Court Decision

On July 26, 2012, following more than two years of litigation brought by 26 states, the U.S. Supreme Court upheld the “individual mandate” of PPACA, which requires individuals to buy health insurance or pay a penalty. The Court held that while Congress cannot mandate the purchase of health insurance directly, it has the power to tax those who fail to buy it under the Spending Clause. The Court also struck down the provision of the new law allowing the government to cut all federal Medicaid funding to states that refuse to expand their Medicaid programs as an unconstitutional federal coercion of the states. Except for the Medicaid funding cuts to the states, PPACA stands as law.

Individual Mandate: Buy Insurance or Pay a Tax

The Court rejected the federal government’s argument that Congress has power under the Commerce Clause to eliminate the societal costs of the uninsured “free riders” by imposing on them a mandate to buy health insurance. Because the mandate does not regulate any existing commercial activity, and because the government cannot create the commerce it seeks to regulate, the Court held that the mandate fails under the Commerce Clause of the U.S. Constitution. However, as stated above, the Court upheld charging individuals a penalty for not buying health insurance under the federal government’s constitutional power to tax.

Thus, an individual may legally choose not to buy health insurance and pay the tax for that choice. Since the cost of health insurance now far exceeds the amount of that tax, the choice to self-insure is especially attractive to the healthy. However, if a significant number of healthy Americans choose to pay the tax instead of buying health insurance, then the cost of health insurance will increase. The rise in premium costs will be exacerbated if a greater concentration of unhealthy Americans become insured, as expected, because under PPACA they cannot be refused health insurance, insurers cannot surcharge the unhealthy, and the healthy now cannot be required to purchase insurance, subsidizing the unhealthy. Thus, the Court’s decision leaves Congress with the “free rider” problem it sought to solve unless it chooses to increase the mandate tax on the uninsured very significantly or substantially cut medical services (or both).

Other Taxes Under Health Care Reform Affecting Employers

Since most of PPACA is left standing, employers with at least 50 full-time equivalent employees must deal with its requirements beginning in 2014. The taxes that can be triggered under PPACA on employers are significant and not always avoidable or predictable. If an employer with at least 50 full-time employees offers no health care coverage or offers “unaffordable” health care coverage (i.e., a “Cadillac” plan for highly paid employees) and has any employee who receives premium tax credits to buy health insurance through a state exchange, the employer is subject to tax based on the total number of its employees exceeding 30. For example, an employer with 100 employees would owe an annual excise tax of $140,000 ($2,000 times 70 employees) if it does not offer health care coverage and one of its employees enrolled each year in a policy through the state exchange and received a premium tax credit. The excise tax would be $210,000 ($3,000 times 70 employees) if the same employer had offered “unaffordable” coverage and has an employee who obtains a tax credit for insurance purchased through the state exchange for a year.

Employers sponsoring either fully insured or self-insured group health plans will be subject to heavy excise taxes under PPACA for failure to meet non-discrimination requirements. The penalty for a plan that discriminates in favor of the highly compensated is $100 per day, per discriminated individual. However, the definition of nondiscriminatory coverage has still not been clarified and this provision is not yet in effect. Beginning in 2018, these discriminatory excise taxes on “Cadillac” group health plans will drive up the costs of employers’ more generous health plans. Beginning in 2013, employers must withhold an additional 0.9% Medicare payroll tax for employees with earnings and wages above $200,000. Employers should speak with their Burns & Levinson attorney about the effects and options that these new health care reform changes present, and the deadlines for compliance.