Problems With Medical Insurance Taxation

As my philosophy prof once said, all theories are nice; it’s the ifs, ands, and buts that rub.

So it is with President Bush’s proposal to tax employer paid medical insurance above $7,500 premium per year for singles and $15,000 for families. The proposal may steer in the right direction, but there are many other steps and problems needing attention before that direction’s goal can be achieved.

As with President Bush’s Social Security reform proposal, that foundered on both details and opposition, the president has not provided details to either guide debate or legislation, leaving the arena open to confusion and anxiety, fed by political exploitation. No wonder the president’s proposal for health insurance reform is called DOA by Democrats and unlikely to encourage much fervency by Republicans.

The objective, reining in extravagant benefit levels in order to place consumers more in touch with the cost-benefit of treatments, is directionally correct, at least if one believes this is one of the steps toward restraining overall health care costs inflation. There are many other steps between here and there, like adequate information adequately understood for consumers to make such choices. And, in crises, which usually attend grave injuries or diagnoses, calm reflection or the time and resources to carefully evaluate alternatives are usually unavailable. Lastly, no matter how well useful and usable information is presented, there’s always going to be a large proportion of the population that doesn’t avail themselves of it.

The problems, more directly felt by some, are even more of a barrier both to enactment and to success of this proposal.

The uniform federal tax-free limit is intended to pressure high-premium states to relax present regulations that result in high premiums. Health insurance premiums for similar coverage vary widely across the country. A deductible limit that may be reasonable in one area may be less so in another. This reflects many factors. For example: Degree of state regulations and mandates; Size and composition of the insurance pool and potential customers; Amount of competition among providers and among insurers; Structure of medical care providers. New York and New Jersey are extreme in high premiums, suffering from all these factors, especially their “community rating” and enrollment laws that subsidize seniors and late-entrants at the expense of the younger and the more self-responsible. California, also a liberal state, has among the lowest premiums, largely due to the degree of managed care and to less laws escalating premiums.

The president mentioned certain corollary measures that help overcome these state limitations on success, such as individuals being allowed to shop across state lines for insurance. But, premiums based on another state’s demographics or provider contracts and network do not apply to other states, and relatively few insurers provide coverage in all states. So, premiums will still vary widely between states, and the availability of out-of-state plans may be more limited than surmised. On the other hand, leveling premiums across states presents just the sort of personal advantages or disadvantages as within states, but on a far larger scale, and increased development of national carriers will reduce competition within many markets from smaller carriers, reduced competition usually driving premiums up.

More will suffer increased taxes in some states than in others, sure to increase their legislators’ resistance to the proposal. Also, aside from state regulations, there are aging differences among the states, with a higher proportion of elders in Florida and the Midwest, which increases overall premium levels, or if premiums are broken down by age then seniors are more heavily impacted by such taxation of employer benefits.

This, in turn, raises another problem. Age is only one of the factors that go into premiums, particularly for employers with over 20 or so employees. Such employers’ premiums are not usually “age-banded,” but “blended” and negotiated. Disaggregation of age-rates would place excess weight on this factor and reduce the ability of brokers and employers to negotiate overall premium reductions. Disaggregation may, as well, lead to pressures to reintroduce gender differences in premiums, women under 40-45 generally incurring higher claim costs than men, and the situation reversing after that age as women pass child-bearing and other uniquely female situations and men’s generally less preventive care and habits when younger having greater health impacts later. Then, add in pressures that would come for zonal disaggregation of rates, as those in more affluent urban-suburban areas seek to separate themselves from the impacts of higher cost care in rural areas where there’s less competition among health providers or from urban cores where the poor and illegals’ health care costs may be higher.

Another source of resistance comes not from the rich, supposedly targeted for their rich benefits, but from union members and professors. Those at the top or the highly paid in private employment almost always receive the same medical insurance benefits as the rest of the non-unionized workforce. The most generous benefits and, thus, most expensive medical insurance plans, actually, occur among some unions and academics. Both of these sectors are highly vocal and influential, and will not go gently from privilege into the general population.

Lastly, there’s no indication of indexing premiums in the president’s proposal, which means – like the alternative minimum tax – increasing millions of ordinary Americans being drawn into the benefits tax.

The trade-off -- of revenues raised from taxing high-premium employer-provided medical insurance offsetting tax-deductibility for individuals’ premiums or providing funds to the states to subsidize coverage for the poor – present another set of problems.

According to Kate Baicker, a member of the White House Council of Economic Advisors, (and such estimates are usually faulty) the president’s proposal would result in "upwards of 3 million or more newly insured people." That means a wholesale imposition upon the almost 150+ million other Americans with employer-provided health insurance to incent or cover – maybe – 3 million. Initially, according to Baicker to Reuters, “about 30 million Americans could face higher taxes under the president's plan.” That 3-million includes many who otherwise could afford premiums but choose to be negligent. Tax-deductible medical insurance premiums may be proper or worthwhile, at least as much as tax-deductible mortgage interest, but not at the price of so drastically upsetting tens of millions of others’ health insurance arrangements. These are, really, separate matters and should not be conflated.

Some commenters hail the president’s proposal for opening up the debate on medical coverage, and they are correct. But, as with the president’s highly flawed and incomplete Social Security proposal, far more heat than light or results will ensue and, indeed, the path to reform probably set back by the furor.