Steve Pizer has been writing this week on how health reform will change private and public insurance, based on a recent working paper he co-authored with colleagues Austin Frakt and Lisa Iezzioni. In particular, he has focused on the role of the excise tax on high cost insurance policies that is contained in the ACA (aka 'the Cadillac tax'), and its effects on low wage workers. Generally, high cost insurance policies are associated with high paying jobs, which is mostly true and documented in their paper and posts. However, firms with expensive health insurance plans do have low wage workers, and Steve has looked at the role the excise tax could play in crowding out low wage workers from private, to public insurance under the ACA. CBO estimates that around 3 Million (net) persons who would otherwise have employer based private insurance in 2019, would instead purchase subsidized coverage in the exchanges, or move into Medicaid under the ACA. It was never entirely clear to me who they would be.
The Cadillac tax contained in the ACA is one of the primary policy tools that should slow the rate of health care cost inflation. The tax was sold politically as one on insurance companies, but this tax will be passed on to employees, with the intent of the tax being for employers to provide lower cost policies to employees whose premium value is above the tax trigger point. This will mean less insurance and more out of pocket costs, which will slow health spending. This should also lead to wage increases over time as some premium dollars are converted to wages as employees decide they would rather have cash than premiums if the latter is taxable income. In short, it is a tax that is designed to be avoided, and in doing so will shift some compensation from a tax free form (employer paid premiums) to taxable wages while increasing out of pocket health care costs.
The current budget debate has been noisy but hasn't focused on the actual crux of the long term budget problem: health care costs. If the current budget debate is actually going to deal with the budget deficit problem, it either has to replace the ACA or add something in addition to the ACA that further addresses costs. Nearly two months after the House voted to repeal the ACA, the Republicans have not offered an alternative plan.
In looking for a bipartisan down payment on health reform for this Congress, the most (and maybe only) area I can think of that leaves the larger question about the direction of health reform to the 2012 election is to modify the tax treatment of employer paid health insurance. Since World War II, employer paid insurance premiums have not been taxable, giving those with good employer sponsored plans tax free income and resulting in more insurance than we would have if we bought policies with after tax dollars. Addressing this would be a consequential change.
The Cadillac tax that is part of the ACA could be started earlier, say in 2012 instead of its current start date of 2018. Even better would be to replace the Cadillac tax with a reform of the tax code that caps the amount of employer paid premiums that are excluded as taxable income. I would prefer capping the tax exclusion to the tax on high cost insurance for several reasons.
- It helps orient the country that the subsidy being reduced has been flowing to people like me with expensive employer-based health insurance.
- Virtually all Republican health proposals typically include ending the tax exclusion (Sen. McCain's Presidential campaign plan; The Patients' Choice Act; Michael Cannon's plan from CATO, etc.).
- Democrats have already voted for a back-door capping of the tax exclusion via the tax on high cost insurance contained in the ACA.
- Capping the tax exclusion is more progressive in that it doesn't hurt low wage persons working for firms with high cost insurance as much as the excise tax would.
- Capping the tax exclusion should lessen the crowd out effect of low wage workers from private coverage into exchanges or Medicaid which Pizer and colleagues believe are at greatest risk of this; this issue is of great interest to Conservatives.
For the family coverage with premium value of $19,000, the amount of excise tax owed would be $19,000-$15,750=$3,250 x 40% = $1,300 (green box in chart above). For single coverage the amount of excise tax owed would be $860. Note that the amount of tax owed for the excise tax is the same regardless of wages because it is based on the value of the policy.
If you instead use the excise tax trigger points as the amount at which to cap the tax exclusion of employer paid premiums ($5,850 for individual; $15,750 for family) you find that the total tax increase (income and payroll tax) with a capping of the tax exclusion is around $100 less for individuals with initial wages of $100,000 ($766 v. $860) but much less for individuals with $10,000 in initial wages ($379 v. $860) [gold box in chart]. Note that in the case of a single person with $10,000 income even with an increased income tax liability they would still receive a (smaller) income tax refund ($335 refund without capping tax exclusion, $120 if capped, hence +$215 in column labeled Change in Income Tax).
For family coverage (4 persons, 2 dependent children both eligible for child tax credit), the change from the excise tax to a capping of the tax exclusion of employer paid insurance would have an even larger impact on low income families, as total tax paid (income and payroll) by a family with $10,000 in initial wages and an expensive insurance plan would be -$419 with a cap v. +$1,300 with the excise tax. Note, income tax liability drops with increased income from $10,000 to $13,250 because of the EITC. The total tax owed will always be less under capping the tax exclusion as compared to the same dollar value as the excise tax trigger because the highest marginal income tax rate (35%) is lower than the excise tax rate (40% on the amount above the trigger value). The benefit is greater for lower income persons because they are in a lower marginal income tax bracket.
Keep in mind that the goal of both policies--tax on high cost insurance policies and the capping of the tax exclusion of employer paid insurance is for persons to avoid these taxes by having less generous coverage. This will slow health care cost inflation by exposing those with expensive private plans to more out of pocket costs. It will also shift compensation over time to taxable wages away from tax free income via insurance premiums, increasing both disposable income and tax receipts. The amounts estimated here are best thought of as relative signals to employees and employers to change their insurance offerings and choices, and I have admittedly used simple examples. Let me know if you think I have made errors, because there are lots of things going on even in this simple example.
In summary, moving in this Congress to reform the tax treatment of employer paid insurance by capping the amount of employer paid premiums excluded from income would:
- mean the budget debate actually addressed the biggest long term budget problem, health care costs.
- do so in a more progressive manner (more beneficial to low wage workers) that I believe would lessen the crowd out (into exchanges or Medicaid) incentive of low wage workers at firms offering high cost insurance.
- provide a bipartisan down payment on health reform that is flexible. Doing this would improve the cost saving potential of the ACA, and of any imaginable health reform strategy. The big picture of whether to move ahead with the ACA or to adopt the (forthcoming?) Republican alternative could then be reserved for the 2012 election.
Update: I had an error in the original table for family of 4, $10,000 income; correct reduction in income tax if capping tax exclusion at premium of $15,750 is -$668 (I had -$488 in original) and the correct net effect of a cap is -$419 reduction in total tax liability (I had -$239 in original). Sorry about the error; it doesn't change the analysis.