Tax policy for health insurance

Despite a $140 billion existing tax break for employer-provided health insurance, tax policy remains the tool of choice for many policymakers in addressing the problem of the uninsured. In this paper, I use a microsimulation model to estimate the impact of various tax interventions to cover the uninsured, relative to an expansion of public insurance designed to accomplish the same goals. I contrast the efficiency of these policies along several dimensions, most notably the dollars of public spending per dollar of insurance value provided. I find that every tax policy is much less efficient than public insurance expansions: while public insurance costs the government only between $1.17 and $1.33 per dollar of insurance value provided, tax policies cost the government between $2.36 and $12.98 per dollar of insurance value provided. I also find that targeting is crucial for efficient tax policy; policies tightly targeted to the lowest income earners have a much higher efficiency than do those available higher in the income distribution. Within tax policies, tax credits aimed at employers are the most efficient-and tax credits aimed at employees are the least efficient-because the single greatest determinant of insurance coverage is being offered insurance by an employer, and because most employees who are offered such an option already take up that insurance. Tax credits targeted at non-group coverage are fairly similar to employer tax credits at low levels, but they are much less efficient at higher levels. Federal, state, and local governments in the United States intervene in health insurance markets in a number of ways. Most prominent are the major public insurance programs for the elderly and disabled (Medicare) and for low income groups (Medicaid). In 2004, the Medicare and Medicaid program each spent about $300 billion. Close behind is a much less known federal program that spends over $140 billion per year subsidizing the private purchase of health insurance. This program is larger than Unemployment Insurance, workers' compensation, the Temporary Assistance for Needy Families (TANF) cash welfare program, and Earned Income Tax Credit (EITC) wage subsidies combined. Yet it is little known and even less understood by the general public and many politicians. This program is the tax exclusion of employer-provided health insurance expenditures. When employers pay their employees in cash, that compensation is taxed by federal, state, and sometimes local income taxes as well as by federal and state payroll taxes. Yet when employers pay those same employees in health insurance, that compensation is completely untaxed. For a worker in the District of Columbia who faces an income tax rate of 25 percent, a Social Security and Medicare payroll tax rate (combined employer and employee shares) of 15.3 percent, and a DC income tax rate of 9.5 percent, this amounts to an almost 50 percent subsidy to employer-provided health insurance relative to cash compensation. In total, estimates suggest that these subsidies total over $140 billion in the United States in 2004. Despite the large amount that governments in the United States spend on health care, major access problems remain. Forty-five million Americans lack health insurance, which results in limited access to many basic health services and reduced health. For many politicians, the answer to the access problem is a simple one: further expansion in the tax subsidization of health insurance. In this paper, I analyze broadly the possibilities for tax policy as a means of addressing our health care problems. I begin by discussing the role of the existing tax exclusion. I then discuss a host of additional tax policies that might be used to increase health insurance coverage in the United States, ranging from tax subsidies to the purchase of health insurance plans by individuals, to targeted tax subsidies for employers. To formalize these discussions, I rely on an extensive microsimulation model that has been developed to analyze the implications of a wide variety of health insurance reform options. This model incorporates the best available evidence from the health economics literature to illustrate how individuals, families, and firms respond to changes in the insurance environment. By incorporating these responses, I am able to compute dynamic estimates of the impact of health insurance reforms on the distribution of health insurance coverage, government costs, and private health care burdens. The paper proceeds as follows. I begin, in Part 1, with a detailed description of existing and proposed tax policies toward health insurance, and a brief review of the relevant literature on their impacts. In Part 2, 1 briefly describe the microsimulation model that forms the basis for my analysis. For comparison to later tax policy analyses, in this section I discuss the analysis of a prototypical expansion in public health insurance. Part 3 evaluates a host of alternatives for increasing insurance coverage. Part 4 concludes.