National Health Insurance in America*

National Health Insurance in America

Today’s TLR is not about Obamacare … so relax. It’s also not an analysis of the various national health insurance proposals or about the problems facing America’s health care system or the costliness of medical coverage. There are multiple sources for each of those subjects. Instead, today’s TLR is about a tax break, a subsidy created by a tax law that has been on the books since 1954 that by default has served as America’s costly feeble attempt at a national health insurance program … without most of the American public realizing that it even exists. If this is news to you … read on.

For more than 65 years the Federal government has been paying for employer-sponsored health insurance – by way of a “tax expenditure” – in an amount equal to almost half of what it spends annually on America’s Defense – which is the country’s largest annual budget expense and the most spent by any country in the world. Unlike the National Defense Budget, however, America’s “national insurance program” – which is its “national insurance program” by default rather than by choice – hasn’t required annual Congressional authorization and, shockingly, has never had to justify itself from a social, economic or medical perspective.

Years ago, when I was a law school professor, I periodically focused my classes on the tax benefits employers enjoy when they provide their employees with health care benefits – most meaningfully, through employer-sponsored health insurance plans. The point at that time, which remains true to this day, is that the Federal government is using the Internal Revenue Code to subsidize employment-based health insurance by excluding from employees’ income the premiums paid for their benefit by their employers. This means that employers who utilize this tax loophole Federal subsidy wind up paying their employees less in total compensation. To do so, they partially substitute the premiums for their employees’ health insurance coverage in exchange for what otherwise would be higher employee salaries – a form of ancillary salary that the tax law treats as non-taxable. The cost to the Federal government of this indirect, off-budget expenditure exceeds $300 billion per year … every year, year after year – and accordingly is referred to by economists as a “tax expenditure.” Employer-sponsored health insurance is the largest of all Federal tax expenditures, a sizable foregone revenue source (which, by the way, most States piggyback and similarly forego). Tax laws motivate – and very often dictate – economic behavior. They incentivize actions and benefit certain interest groups, while demotivating other actions … to the detriment of less-well-connected other groups. Tax expenditures are not included in government budgets, they don’t require annual scrutiny re-authorization, they are not discussed or debated by legislators, and they generally are out-of-sight ignored by the media and the general public. Unlike budgeted items – like National Defense, which is closely scrutinized year-after-year –, tax expenditures are a hidden government expense give-away. They can be justified, and are justifiable, only if they achieve a social, economic or national good, and do so in a reasonably efficient and effective way. Does the tax expenditure for employer-sponsored health insurance do so? … one problem being that this question is not being asked. The constituency for its continuation is large and there is only a small constituency that questions it. Even though this is a $300 billion/year question, it is not one that Congress has been inclined to seriously consider.

The origins of the tax expenditure for employer-paid health insurance, as well as the fact that current economic conditions and medical care options are quite different from those that existed when it was enacted, fail to provide an easy rationale for its continued existence.

Use of the tax expenditure mechanism to incentivize behavior, including to create what has become a form of “national health insurance,” by definition results in inefficiencies. It involves employing the tax law not only as a means of collecting revenue, but also to motivate one or more types of economic, social or other behavior. It therefore becomes a means for effecting public policy, doing so by attempting to artificially adjust economic motivation and activity. To achieve its goals, it naturally requires tax and policy compromises … which compromises lead to unintended consequences. Employer-sponsored health insurance has created social, economic and medical inconsistencies similar to those seen with other hybridized tax-based legislation. Like those others, employer-sponsored health insurance attempts to do indirectly what could have been better accomplished directly by economically-focused, non-tax legislation … even without addressing the question of whether medical benefits should have been subsidized in the first place. The tax law has all-too-often been used for similar purposes. A prime example, and one with scattershot targeting, involves the multiple tax incentives that Congress has enacted over time to address America’s energy needs – for wind, solar, coal and crude oil. Each subsidizes a competitive and conflicting activity, necessarily distorting the economic behavior of each, all for the purpose of catering to a distinct political constituency.

The tax incentive for employer-provided health insurance began innocently enough during WWII when a worker shortage and war-time wage controls led the government to treat fringe benefits as being outside government wage controls. Fringe benefits, including employer-provided health insurance, were determined for this purpose not to be “wages.” (This is an example of the law using a word for a specific purpose and that word thereafter being applied to an entirely different law for an entirely different purpose.) From that modest beginning, a combination of business and AMA opposition to any form of national health insurance coupled with union lobbying for that precise outcome health care resulted in the creation of the tax incentive for employer-provided health insurance. That compromise was seen at the time as a tremendous achievement because it provided a substantial benefit to a majority of working Americans. It most certainly was. In 1958, 75{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} of Americans – who were primarily unionized blue collar workers – received employer-provided health insurance coverage. For a number of years, this incentive – this Federal and State tax expenditure – led to an explosion in American manufacturing, the creation of a growing middle class made up largely of factory workers, and a healthier American workforce. That no longer is the case. The percentage of such health insurance coverage today is below 50{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35}, and those who are covered are primarily white-collar workers. The world has changed. That’s what should be expected after 65 years. The tax law, however, has not changed.

The past 65 years have seen an exponential increase in the cost of health care and, consequently, in the cost of health insurance. The average cost of employer-provided family health insurance in 2019 was $20,500 – an amount that increased by more than 54{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} over the prior 10 years – of which an employer generally pays ~80{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35}. The cost of employer-provided health insurance is free … and tax-free … to employees. Every prospective employee therefore seeks inclusive health care coverage, especially in an era of exploding health care costs. With wages taxable to employees and health insurance premiums not, that makes it an easy cost-benefit choice for employers. On a competitive basis, employers therefore are providing employees with the most competitive of compensation packages … which of necessity includes health insurance.

As a consequence of the high cost of health insurance – higher for individuals and small businesses than the cost paid by employers –, workers are incentivized to prefer employment over self-employment, a perverse disincentive for entrepreneurial Americans and a competitive disadvantage for start-ups. That high cost of health insurance also works as a disincentive to hiring lower-paid workers. For example, the cost of employer-provided health insurance for an employee earning $150,000 per year adds less than 10{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} to the cost of employment while the health insurance cost for a worker earning $50,000 per year adds over 33{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35}. That means that lower-paying jobs are more likely to be outsourced, often to part-timers – another unintended consequence … and one that continues to fundamentally change the American economy. It also creates an incentive to first automate lower-paying jobs. The rise of the gig economy has many causes, this being but one of them. There also is evidence that the reduction in employer-provided health insurance for lower-paid workers has negatively impacted the health of the average American, a consequence that seems inevitable given the shrinkage in the percentage of lower-skilled American workers having employer-provided health insurance.

Meanwhile, the Internal Revenue Code incentive for employer-provided health insurance continues unchanged … with its policy, such as it is, remaining unexamined despite its now-$300 billion/year cost. Politicians nevertheless continue to debate national health insurance programs while overlooking the fact that the U.S. already has an imperfect form of national health insurance costing taxpayers almost half as much as the entire National Defense Budget.

In a recent analysis entitled “Reduce Tax Subsidies for Employment-Based Health Insurance,” the Congressional Budget Office examined the cost of the existing employer-provided health insurance tax incentive, contrasting that cost with selected alternatives. None of those alternatives addressed the possible elimination of the tax expenditure itself and using that $300+ billion/year in savings to substitute something targeted at more effective public policy needs – whatever those might be. The CBO avoided doing so undoubtedly because there is a substantial constituency for the existing incentive, a truism for all subsidies. There will always be losers from reform, and those are the voters who form an anti-reform constituency. The problem today is that American businesses and America itself appear to be the losers to a tax law created in a bygone era to help businesses that no longer exist in a way that no longer is effective or efficient and is fraught with unforeseen consequences. Both political parties should be looking closely at the problem. Although each unquestionably will envision different remedies, almost any proposed solution would be an improvement.

Finally (from a good friend)

*┬® Copyright 2020 by William Natbony. All rights reserved.

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