At Work

Will cutting health benefits (to avoid the 40% Cadillac tax) result in higher wages?

Conventional wisdom and many economists are convinced that if employers cut health benefits to avoid paying the so-called Cadillac, to compensate they will increase cash compensation.  A recent article in Forbes makes this case referencing several “studies.” 

I can’t stand this any longer. I had to comment on that article and here is what I said.

We would be well served to stop listening to economists and start using common sense. I was a benefits executive in a S&P 500 company for nearly 50 years. Cutting health benefits does not result in increased wages now or ever. The whole reason for cutting benefits is to save money not transfer it to cash which means higher payroll taxes, possibly higher pension and 401k costs and all other costs associated with cash compensation. Common sense!

Think about this. If you were an employer who already thought health care premiums were too high an expense and then you face the prospects of paying a 40% tax on the value of some of those benefits what would you do? At a minimum you want to stay neutral in costs, but even in the absence of the 40% tax you are always looking for ways to cut health benefit costs. 

Cash compensation is going to rise only when it must in order to attract the needed workforce. Based on the outcry about stagnant wages and in the face of pay increases barely exceeding current inflation rates during the last several years when employers have been trimming benefits, it’s hard to see how economic models conclude employers are going to trade benefit costs for higher pay.  But what do I know, I don’t have a PhD. 


1 reply »

  1. I have said it before – if an employer adjusts their health care coverage to lower its value as a means to keep its “cost” below the dollar thresholds where the Cadillac Tax applies, then, yes, those employers will likely increase wages, just not in the manner economists apparently envision. The rank and file worker will be the loser, the individual with family coverage will be the loser; the highly skilled worker or the executive will be the winner, and the “income inequality” Democrats so wring their hands over will increase.

    Today, we see the converse of this – moderating wages while accommodating ever higher health coverage costs. Compare 1991, when wages represented 73.2% of total rewards, and health insurance costs were 5.8% of total employment costs.
    2015, today wages represent 69.5% of total employment costs, while health insurance costs were 8.4% of total rewards.

    So, we have seen a shift, almost directly, from wages (which declined as a % of total rewards by 3.7%) shifting to health coverage (an increase of 2.6% of total rewards). So, academics like Professor Gruber, Professor Emanuel and Professor Obama all believe the converse will be true – lower spend on health coverage and watch wages rise. But, obviously, the ghostbuster professors don’t understand corporate America, let alone corporate employee benefits weenies (like you and me), let alone health coverage costs. The #1 gap in their understanding is that they never worked at or only had limited experience with for-profit firms. At such firms, where most Americans work, sooner or later you respond to trends, look for new options, opportunities to change the paradigm. I believe the Cadillac Tax will, over time, be just such a “game changer”.

    Here’s why:
    (1) First, remember that wages must increase by approximately $1.33 for every dollar of tax preferred employer spend on health coverage to leave the employee in the same position as she/he is today. So, unless employers somehow believe they can commit to spending more on rewards, or unless all employers together, arms locked together, decide to raise wages, even if the employers raised wages $1 for $1 by the amount of the reduction in health spending, people would see a reduction in take home pay because of the difference in taxation. So, if the employer cut $100 in health spending (where employees then raised their health spending by $100 with after tax dollars) and employers raised wages $100, on average (and averages can be deceiving), after tax, the employee only has approximately $66 to pay those out of pocket costs.
    (2) Second, because almost all employers vary their level of employer financial support based on who enrolls, single, employee and spouse, employee and child(ren), family, it means that, to leave the worker in much the same position as they occupy today, an employer must vary the increase in wages based on who enrolled in health coverage as of the date of the change in health coverage strategy. They are not going to do that.
    (3) Similarly, because the employer financial support for health coverage is REGRESSIVE as to wages, it represents a much larger percentage of a lower paid worker’s total rewards than the percentage of a higher paid worker’s total rewards. So, the shift we have seen over the past 25 years to increase spending on health coverage versus wages has increased the allocation to lower paid workers of the total rewards pie. Does anyone think, absent the tax preference, that employers will incorporate new wage increases that will favor lower paid workers in the same manner – based on whether they enroll in health coverage, and whether they cover their dependents?

    One place you can see wage increases are targeted amounts, so as not to lose executives, or the highly skilled, difficult to recruit. Those will be laser-like, not broad based, and they will not be a function of who enrolled in coverage in the past.

    Look for employers to start with a new total rewards strategy applied first to new hires, then transition existing employees over a period of years.


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