June 16, 1999
Unwise government policies are largely responsible for the fact that the number of Americans without health insurance is 43 million and rising. Unwise government policies also are responsible for the fact that people who have health insurance are turning over an ever-larger share of their health care dollars to managed care bureaucracies that limit patient choices and sometimes give providers perverse incentives to deny care.
After many discussions with others involved in health care policy, including analysts at other think tanks, representatives of the industry, the medical community and the government, as well as members of Congress and their staffs, we at the National Center for Policy Analysis have concluded that we must fundamentally alter federal government policies to eliminate distorted incentives, empower individuals and create new options in the health insurance marketplace.
What I am proposing would not increase the financial role of government. The federal and state governments already spend more than enough on health care and health insurance through tax subsidies and direct spending programs. Instead, what is needed is a radical reordering of government programs to make them efficient and fair.
1. UNIVERSAL COVERAGE.
Whether or not people have health insurance is a national issue in which the federal government has a legitimate interest. Therefore, we propose that the federal government commit a fixed sum of money for health insurance for every American (say, $800 per adult and $2,400 for a family of four). The commitment should be the same for everyone - rich or poor, black or white, male or female.
Everyone who purchases private health insurance would be rewarded with a dollar-for-dollar reduction in income taxes for health insurance costs up to a maximum amount (e.g., $2,400 for a family of four). The credit would be fully refundable, so even those who owe no income taxes would get the same financial help.
The federal role would be purely financial. Private health insurance benefits would be determined by individual choice, competitive markets and state regulations. This plan is not designed to subsidize the full cost of health insurance for an average family. In most cases, the federal tax relief probably would fund only a core benefits package with a very high deductible. Individuals and their employers would be free to purchase more complete benefit packages, but they would pay the difference with aftertax (unsubsidized) dollars.
II. A HEALTH CARE SAFETY NET FOR THE UNINSURED
No one would be forced to purchase private health insurance. But those who failed to buy private insurance would pay higher taxes because they would receive no tax subsidy. Unlike the current system under which higher taxes paid by the uninsured simply become part of the Treasury Department's general revenues, the "tax penalties" paid by the uninsured would be rebated to state and local governments for local Health Care Safety Nets. This would ensure that those who elect to remain uninsured would have access to a social safety net with a guaranteed minimum level of funding.
This federal money for local Health Care Safety Nets would be like a block grant with one condition: the money would have to be spent on indigent health care. However, no uninsured person would have the right to demand a particular health care service from the Safety Net. Local authorities would also be free to charge fees to the uninsured - especially if it appeared that their lack of insurance was willful.
Safety Net services may not be as desirable as services provided by private insurance. Although the commitment of federal dollars to the two alternatives (private insurance or Safety Nets) would be the same, the amount of money per capita available to local Safety Nets is expected to be less than the resources available through private insurance. Thus Safety Net doctors might not always be the very best doctors, Safety Net programs might not be able to meet every health care need, and there might be some waiting. These features are consistent with the overall goal of creating some form of universal coverage while at the same time encouraging private rather than public provision of health care.
These local Health Care Safety Nets could be partly funded with federal health dollars currently going to the states and partly funded by state dollars that currently fund health care for the uninsured. Under this plan, states would receive more federal money if their uninsured population expanded and less money if it contracted - unlike the current system, where there is no necessarily relationship between the amount of federal funding and any objective measure of need. Under the plan I am describing, the federal government could discharge its commitment to the states by counting against that commitment dollars in current programs that fund indigent health care, provided the states gain full freedom and flexibility to use those funds to meet the needs of the uninsured.
Safety Net dollars could also be used to fund high-risk pools. Under current law, states must create opportunities for certain uninsurable individuals - those who were previously insured - to obtain health insurance; and many have satisfied this obligation by creating high-risk pools. This plan would encourage the expansion of such risk pools by allowing Safety Net money to fund them.
III. TAX FAIRNESS
For the first time, individuals who purchase their own health insurance would receive just as much tax relief as is provided to employer-sponsored plans. Under the current system, employer payments for health insurance are excluded from the employee's taxable income - cutting the cost of health insurance in half for some middle-income families. By contrast, many individuals who purchase their own health insurance must do so with aftertax dollars - forcing some people to earn twice as much before taxes in order to purchase the same insurance. This plan would provide the same tax relief to every taxpayer - regardless of how the insurance is purchased.
For the first time, low- and moderate-income families would receive just as much tax relief as is provided to high-income families. Under the current tax exclusion system, those in the highest tax brackets get the most tax subsidy for employer-provided health insurance - the top 20 percent of families get six times as much help from the federal government as the bottom fifth. Under this plan, every family would get the same tax relief - regardless of the family's personal income tax bracket.
IV. A RATIONAL ROLE FOR EMPLOYERS
Under this reformed system, employer-purchased insurance and individually purchased insurance would be put on a level playing field under the tax law. For those who obtain insurance under the tax credit system, amounts spent by the employer on health insurance would be included in the employees' taxable income. However, employees would receive a tax credit on their personal income tax returns - the same tax credit that would be available to people who purchase their own insurance. In this way, people would get the same tax relief for the purchase of private health insurance, regardless of how it was purchased.
The employer's role would be determined in the marketplace, rather than by tax law. Some health reform proposals would require employers to provide health insurance; others would force employers out of the health insurance business. By contrast, this plan would allow the market to determine the employer's role: if employers have a comparative advantage in organizing the purchase of insurance for their employees, competition for labor will force them into that role; if employers have no special advantage, they will avoid that role.
V. PRESERVING EMPLOYER OPTIONS, BUT REWARDING GOOD CHOICES
Employers would have the option of keeping their employees in the current tax regime. Because many employers and their employees have made plans and organized their financial affairs around the current tax law, an abrupt change to the new system could be unfair. However, most employers would have an economic incentive to switch to the tax credit system because that would allow them to cut waste and inefficiency out of their health care plans without losing tax benefits.
Because the current tax exclusion system rewards those in the highest tax bracket the most, it favors high-income employees. Because the tax credit system treats all taxpayers equally, switching to it would help almost all low- and moderate-income employees. Even though their higher-income employees might pay higher taxes as a result, employers who helped their low-income employees by switching to a tax credit regime would be rewarded: the new tax regime would lower the cost of their compensation packages and make it easier for them to compete for employees in the labor market.
VI. INCENTIVES TO REDUCE WASTE AND INEFFICIENCY
The tax credit system described here would give employers and employees new opportunities to reduce health care costs. Under the current tax exclusion system, employees can reduce their tax liability by choosing (through their employers) more expensive health insurance plans. As a result, the federal tax system encourages overinsurance and waste: An employee in a 50 percent tax bracket (including state and local taxes) will tend to prefer a dollar's worth of health insurance to a dollar of wages even if the health insurance has a value of only 51 cents. By contrast, under the tax credit system no one would be able to reduce his or her taxes by purchasing more expensive insurance. Since marginal improvements in a health benefits package under the tax credit system could be purchased only with aftertax dollars, no one would spend an extra dollar on health insurance unless it produced a dollar's worth of value.
The tax credit system would allow employees to manage some of their own health care dollars. Current tax law rewards employees who turn over all their health care dollars to an employer health plan (by excluding such money from taxable income), but penalizes (by taxing) income placed in a Medical Savings Account. The exception is the pilot MSA program for the self-employed and employees of small businesses. As a result, current law favors the HMO approach - in which the health plan controls all the health care dollars and makes all the important decisions - even though individuals might in many cases be better managers of their own health care money.
Under the new plan, individuals who chose the tax credit option would be able to deposit a certain amount of aftertax income - say, $2,000 per adult with a $5,000 family maximum - into a Roth MSA. Contributions to Roth MSAs would be allowed only for individuals who have at least catastrophic insurance. A Roth MSA would be a "wraparound" account, designed to fund the purchase of any medical expense not covered by a health plan; it could be used in conjunction with an HMO as well as fee-for-service insurance. Funds in a Roth MSA could only be used for medical care or would remain in the account to back up a health plan for at least one year. At the end of the one-year insurance period, Roth MSA funds could be withdrawn without penalty for any purpose, left in the account to grow tax free, or rolled over into a Roth IRA.
This change would put third-party insurance and individual self-insurance on a level playing field under the tax law. The Roth MSA option would correct the bias in the current tax law. Beyond a basic level of insurance funded by the tax credit, individuals would choose to spend their aftertax dollars on more insurance benefits or place those same dollars in a Roth MSA. No one would have an incentive to turn over additional dollars to a health plan unless they judged that the extra benefits were more valuable than of depositing an equal amount in a Roth MSA.
Just as the tax exclusion for employer-provided health insurance encourages people to overinsure, the current system of Flexible Spending Accounts (FSAs) encourages people to overconsume. As it now stands, employees make pre-tax deposits to an FSA to pay their share of premiums and to purchase services not covered by the employers' health plan. A use-it-or-lose-it rule requires that employees spend the entire sum or forfeit any year-end balance in the account. This rule encourages wasteful spending on medical care at year-end. Under the new plan, employees in the tax credit system would no longer have an FSA option. Instead, they would have a use-it-or-save-it Roth MSA option.
VII. OPTIONS FOR THE SELF-EMPLOYED
This plan gives the self-employed a new option: a tax deduction for the purchase of health insurance or a tax credit. Currently, the self-employed get a partial deduction for the purchase of health insurance, and eventually will get a 100 percent deduction. As an alternative, this plan would allow the self-employed to take a tax credit.
Under the current system, the self-employed may contribute to a conventional MSA, provided they have catastrophic insurance. Under this plan, the self-employed who elected the tax credit would be able to make deposits to a Roth MSA instead. They would be allowed to contribute to either a conventional MSA or a Roth MSA, but not both during the insurance period.
VIII. SOLUTION TO THE SPECIAL PROBLEMS OF THE UNINSURED
A refundable tax credit for the purchase of health insurance that was previously in the tax code failed because it did not address the cash flow problems of low-income families. It forced those families to rely on their own resources to meet premium payments for the year and wait for reimbursement until the following April 15. As a result, the program did not make funds available for the purchase of insurance at the time the funds were needed. This plan would solve that problem by allowing people to assign their rights to the credit to an insurance company month-by-month. The procedure would be similar to the one under which low-income families can obtain advance funds based on their right to collect the Earned Income Tax Credit (EITC) through a bank loan arranged by a firm such as H&R Block. In this way, individuals would be able to buy health insurance without reducing their monthly income. This plan also would allow the health insurance tax credit to be combined with the Earned Income Tax Credit (EITC), so that families could afford a more generous package of benefits.
Most people who are uninsured are working, and many have the opportunity to join an employer plan but decline to do so. One reason they decline is that they are required to pay a substantial part of the premium. Some join themselves but do not insure their dependents. This plan would solve the problem, using a procedure similar to the one just described. Currently, low-income employees who qualify for the EITC can file a form with their employer and receive their EITC "refunds" month by month. In a similar way, the health insurance tax credit could be accessed month by month and used to pay the employee's share of the premium. Thus low-income employees could insure themselves and their families with no reduction in take-home pay. Employees could also combine the health insurance tax credit with their EITC refund to obtain more generous coverage - again, with no reduction in take-home pay.
Employers would not be required to opt into the tax credit system, but those who did would be able to offer their employees a more attractive compensation package and gain a competitive edge in the labor market.
Most people who are uninsured are temporarily uninsured - usually for a period of less than one year. To meet the needs of these people, health reform must make a refundable health insurance tax credit flexible enough to fund health insurance coverage for part of a year. The techniques described above will allow low-income employees to pay premiums month by month or even pay period by pay period.
IX. HEALTH INSURANCE AND WORKFARE
The reforms proposed here would make Workfare work. For many families, one of the biggest obstacles to getting and staying off welfare is the lack of a private insurance alternative to Medicaid. This plan would make it possible for low-income families to buy into an employer health plan or to purchase insurance on their own.
A related problem concerns people who are laid off or are temporarily unemployed while they are between jobs. Periods of unemployment are typically periods when family financial resources are very limited. The refundable health insurance tax credit could bridge the gap, financing the purchase of short-term insurance or funding COBRA payments that continue coverage under a previous employer's plan. Funds in a Roth MSA also could help solve the problem, since such funds could be used to pay premiums during periods of temporary unemployment.
X. THE ROLE OF STATE AND LOCAL GOVERNMENTS
The plan I have outlined is the first plan that defines the roles of state and local governments in meeting the needs of the uninsured. By keeping the federal role purely financial, which largely continues current practice, the plan would make state governments responsible for regulating the terms and conditions under which health insurance would be bought and sold. However, the plan would retain the ERISA preemption that exempts from state regulation companies that self-insure because such companies are not purchasing insurance in the marketplace and because self-insurance often is a socially desirable alternative to costly state regulations. State governments also would be responsible for operating local Health Care Safety Nets. Once the federal financial obligation was discharged, state and local governments would assume funding responsibility for any remaining problems.
Although state governments would be obligated to spend federal safety net money on the uninsured, they could discharge this obligation in many ways. One way would be to set up clinics that dispense free services to the low-income uninsured. Another would be to enroll the uninsured in an expanded Medicaid program. A third option would be to supplement the federal grant and assist people in obtaining private health insurance.
Many states subsidize the purchase of private insurance by piggybacking on federal practice. They exclude employer payments from employee taxable income and/or create special tax relief for low-income families. These states could continue their current practices or adopt a tax credit at the state level. Most would quickly discover that the latter is a better use of state resources. States also would be allowed to supplement the federal tax credit with a state tax credit of their own design, and many probably would do so.
In general, states will find it in their interest to encourage private insurance, because private insurance will almost always involve an input of private resources through the family premium contributions, whereas the state burden will be greater if people depend on state and local funds to meet all their health care needs.
Many states have contributed to the growing number of uninsured through unwise regulations. These states could continue such practices, but they would pay a heavy (budgetary) price for doing so. Since the federal commitment under the new plan would be fixed, the federal government could not be held hostage to the vagaries of state law.
XI. FUNDING REFORM
Currently, the United States spends more than $100 billion on tax subsidies for employer-provided health insurance, with much of the money subsidizing wasteful overinsurance and rewarding higher-income families who would have purchased insurance without the subsidy. Moving to a tax credit system would allow employers and employees to avoid many wasteful practices without losing tax benefits. As employers and employees shift to more economical health plans, employer tax-deductible expenses for health insurance would fall and taxable wages would rise. The extra taxes the federal government would collect from the larger taxable wage base would be a source of funding to insure the currently uninsured.
Federal and state spending on health programs for the uninsured currently exceeds $1,000 for every uninsured person in America. If all of the uninsured suddenly became insured, this would free up more than $40 billion a year in current spending. Savings made possible by scaling back spending programs (as the need diminishes) would be a source of funds to finance the tax credit and the Safety Net program.
America does not need to spend more money on health care - $1 trillion a year is ample money to meet the nation's health care needs. The goal of health reform should be to redirect government subsidies and government spending so that those dollars are used more wisely and more fairly.