Obamacare's Cadillac Tax Forces a Tough Decision on Governments

The law's new excise tax on high-cost health insurance plans leaves government officials with three choices -- all of which have undesirable consequences.
November 2013

For years, the philosophy on compensation for public-sector workers has been fairly straightforward: The pay isn’t always great, but the benefits are. But that’s changing, and the political implications could be big for public officials.

Under the terms of the Obama health reform law, so-called “Cadillac” health insurance plans worth more than $10,200 for individuals or $27,500 for families face a 40 percent excise tax starting in 2018. The logic behind the plan is that rapidly exploding health costs are driven partly by overconsumption of health-care services by Americans who have little skin in the game thanks to low co-pays and deductibles. The goal is to tax the most generous Cadillac plans to drive people toward plans that make them contribute more. Taxes collected from those who stay in Cadillac plans could be used to fund other aspects of the law.

But these taxes are proving be a thorn in the sides of public-sector employers and workers, who have long understood that strong health-care benefits are often granted in lieu of less-than-stellar pay. Because the threshold is indexed to inflation—not health-care costs, which historically increase at a much faster rate—the assumption is that more plans will be subject to the tax each year. Already, it’s started coming up in multiyear negotiations between governments and workers.

The Cadillac tax will be levied on health insurance companies, which many expect will pass the tax along to governments. That leaves government officials with a big decision: They can cut employees’ health plans so they fall below the Cadillac threshold; pass the tax cost on to workers; or eat the tax themselves and make other budget cuts. Each choice has consequences. “Quite honestly, the decision is almost unmakeable for a local official,” says Sonny Brasfield, executive director of the Association of County Commissions of Alabama.

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The feds estimate that 12 percent of all insured workers will be in plans affected by the excise tax in 2019. It’s hard to say how many of that percentage will be public-sector workers, but most assume they’ll be impacted at a much higher rate than the average worker. Barbara VanEpps, deputy director of the New York State Conference of Mayors and Municipal Officers, estimates that at least two-thirds of her members’ employees could be impacted. She says her organization is trying to educate both sides about the tax so that when it’s time to negotiate, it’s something employers and employees will understand.

Unlike private-sector CEOs—who might damage their relationship with employees but wouldn’t risk losing their own jobs—the stakes are higher for government leaders who cut benefits. Politically powerful unions could cost officials their jobs if they’re unhappy with potential health-care cuts. If taxes have to rise or other services are cut to pay the Cadillac fee, then elected officials will likely anger taxpayers. Essentially, state and local politicians are in the unenviable position of being thrown into a fight they didn’t even pick.

The unions initially scored a victory by delaying the tax until 2018, and some cynics say they’ll use the time to continue fighting for its repeal. But already its impact is starting to be felt. In Orange County, Calif., for example, the Newport-Mesa Unified School District reportedly predicts the tax could cost $2.3 million in its first year. (Three public unions—the American Federation of State, County and Municipal Employees; the American Federation of Teachers; and the International Association of Fire Fighters—didn’t comment for this story.)

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