Supreme Court Largely Affirms the Affordable Care Act
On June 28, 2012, the U.S. Supreme Court issued a complex series of opinions concluding that most of the provisions of Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act of 2010 (together, the ACA) are constitutional. Most importantly, a majority held that the individual mandate was constitutional, but only by viewing it as a tax and not as an exercise of the power of Congress to regulate interstate commerce. As a result, all of the rest of the Act, (including its tax provisions) with one significant exception, is also constitutional.
The sole exception pertains to the provisions of the Act requiring the states to either significantly expand their Medicaid programs or lose all Federal funding for their existing Medicaid programs. A majority held that this mandate on the states was unconstitutionally coercive. As a result, states may now elect to avoid the law’s mandate to increase their Medicaid coverage for certain classes of poor, disabled or elderly citizens without losing any existing Federal funding. However, states that opt not to extend Medicaid coverage will not receive the supplemental funding the Act provides to states that do increase the size and scope of their Medicaid programs.
Following is an overview of some key tax provisions of the ACA, especially those affecting employers and employees that are not directly engaged in providing health care.
Additional Medicare tax on wages
Effective in 2013, the ACA adds an additional 0.9 percent Medicare tax on wages above $200,000 for individuals and $250,000 for married couples filing jointly.
New Medicare tax on investment income
Starting in 2013, there is a new Medicare tax that applies to investment and business income. The ACA has added a 3.8 percent tax on the net investment income of single taxpayers with adjusted gross incomes above $200,000 and joint filers with an adjusted gross income over $250,000. Individuals who are material participants in a trade or business may be exempt from this tax, and instead subject to self-employment taxes only on the portion of their incomes that represents compensation for services. Business owners should consult their tax advisors regarding the complex interaction of these rules.
The decision to uphold the ACA means that a tax penalty will apply to most U.S. citizens and legal residents if they fail to maintain minimum essential health coverage on themselves and their dependents. This provision is effective in 2014, with the full phase-in of the penalty amounts occurring in 2016. The basic penalty for an individual (without consideration of any dependents) is $95 for 2014, $325 for 2015, and $695 for 2016 and later years (adjusted for inflation after 2016). A variety of exemptions and limitations are included to prevent the penalty from imposing undue burdens on low income individuals and families, as well as on certain specified classes of individuals (e.g. members of an Indian tribe, individuals not living in the U.S., etc.).
One part of the ACA aimed at expanding coverage is the concept of requiring employers to provide health insurance, also known as the employer mandate. Under that provision, an employer with 50 or more full-time equivalent employees is subject to an assessable payment if any full-time employee receives an applicable premium tax credit or cost-sharing reduction payment because of the employer failing to provide affordable minimum essential coverage. The employer must pay an additional non-deductible tax of $2000 for all full-time employees. If any employee actually receives coverage through the exchange, the penalty on the employer for that employee rises to $3,000. This part of the ACA is scheduled to be effective in 2014.
Insurance exchanges and health insurance premium tax credit
In order to implement the individual mandate and certain other provisions of the ACA, affordable insurance exchanges must be created. The exchanges will be state-based competitive marketplaces where individuals and small businesses can purchase affordable private health insurance. The insurance exchanges are scheduled to be operational by 2014. Starting in 2014, taxpayers may also claim a new refundable tax credit to help offset the cost of the health insurance premiums paid through an insurance exchange.
Health insurance coverage of older children
A popular provision of the ACA is the requirement that all group health plan or insurance issuers that provide coverage of dependent children must continue to make dependent coverage available to an adult child of the plan participants until the child turns 26 years of age. The ACA also amended the Code to provide that cost of such mandatory coverage was excluded from income.
Small Business Health Care Tax Credit
The ACA includes a small business health care tax credit, which is effective immediately. The credit applies to small employers that pay at least half of the premiums for employee health insurance coverage under a qualifying arrangement. The credit is specifically targeted to help small businesses and tax-exempt organizations that primarily employ 25 or fewer workers with average incomes of $50,000 or less.
Increase to the AGI limit of deductible medical expenses
Starting in 2013, in order for a taxpayer to claim an itemized deduction for medical expenses, those expenses must exceed 10 percent of AGI, up from the current threshold of 7.5 percent. For taxpayers who are age 65 or older, however, the 7.5 percent threshold will continue to apply through 2016.
Limit on employee contributions to health flexible spending arrangements
The ACA imposes a cap of $2,500 on the amount that an employee can elect to contribute to an employer’s flexible spending arrangement. This cap is scheduled to go into effect for plan years beginning in 2013.
Medicare Part D Deduction
Effective in 2013, the ACA eliminates the tax deduction for employer-provided retirement prescription drug coverage in coordination with Medicare Part D.
Limits on deductions for health insurers with respect to executive compensation
Effective in 2013 and with respect to services performed after 2009, a health insurer cannot take a deduction of more than $500,000 for any current or deferred compensation paid to an officer, director, or employee.
Medical device excise tax
Effective in 2013, there will be a 2.3 percent excise tax on the sale of certain medical devices. The tax is payable by the manufacturer, producer or importer of the device.
Imposition of annual fee on health insurance providers
Beginning in 2014, health insurers will begin paying a fee on their net premiums.
Excise tax on high cost health insurance plans
Effective Jan. 1, 2018, there will be a new 40 percent excise tax on so-called “Cadillac” health insurance plans. This tax may be payable by the health insurer or the employer, depending on the nature of the arrangement.
Nondiscrimination testing for employer-provided health insurance plans.
One provision of the ACA is that an employer plan providing health care coverage on an insured basis needs to comply with the same nondiscrimination standards that are currently applicable to employer sponsored self-insured plans. Under the ACA, if a plan is discriminatory, then the employer sponsoring the plan is subject to a $100 per day per individual excise tax. The IRS has delayed the effective date of this provision until it issues regulations. With the Court‘s decision affirming the ACA, employers sponsoring employee health insurance plans need to prepare for the IRS’s eventual release of regulations to determine whether an insured plan is discriminatory. It is equally important to remember that there are current nondiscrimination rules that apply to both self-insured health benefit and cafeteria benefit plans.
The ACA requires that pursuant to regulations to be issued by the U.S. Department of Labor, any employer to which the Fair Labor Standards Act applies, and that has more than 200 full-time employees, must automatically enroll new full-time employees in one of the employer’s health benefits plans (subject to the employee’s election to opt out) and to continue the enrollment of current employees in a health benefits plan offered through the employer. The DOL anticipates issuing regulations on this provision that would be effective in 2014.
ACA rules already in effect
Several parts of the ACA are already in effect, including:
- Restrictions on over-the-counter medicine. The ACA amended several provision of the Code to restrict the reimbursement of expenses incurred for a medicine or a drug to only those medicines or drugs for which the employee has a prescription (regardless of whether such drug is available without a prescription) or is insulin. This change was effective on Jan. 1, 2011, so sponsors of flexible spending and similar arrangements should already have made adjustments.
- Health Savings Account (HSA) and Medical Savings Account early withdrawal penalties. As of Jan. 1, 2011, the penalty or additional tax on non-medical early withdrawals from an HSA increased from 10 percent to 20 percent. Similarly, the early withdrawal penalty from Archer Medical Savings Accounts increased from 15 percent to 20 percent.
- W-2 reporting of the value of employer provided coverage. Beginning in 2012, the ACA requires employers to report the cost of coverage under an employer-sponsored group health plan on an employee’s Form W-2. The amount reported does not affect tax liability, as the value of the employer excludible contribution to health coverage continues to be excludible from an employee's income, and, thus, is not taxable. Reporting this information is optional for employers that issued fewer than 250 W-2s in 2011. This optional reporting will remain in effect until the IRS announces otherwise.
Bill O’Malley, director, Washington National Tax
James Sansone, director, Washington National Tax
Don Susswein, principal, Washington National Tax
The information contained herein is general in nature and based on authorities that are subject to change. McGladrey LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. McGladrey LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer.
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