I have very much enjoyed the discussions around healthcare generally and the high-cost 'excise' tax specifically. I would suggest this is precisely what happens when we don't resolve the clashes in our fundamental values first, before trying to create legislative compromises.
Simply put, we haven't agreed on what's fair, on who should pay for healthcare. Either healthier, wealthier, and younger people have a societal responsibility to subsidize sicker, poorer, and older people, or they don't. I don't care which belief you have; I just care that you have a consistent belief.
Personally, I happen to think healthcare is a human right. Thus, like voting rights and access to the courts, I believe it is something that has to be actively guaranteed by the government. The employer-based system, by definition, is inequitable. It favors larger organizations over smaller ones, and smaller ones over the self-employed and unemployed. It favors high income workers over average income workers, and average income workers over low wage workers. The employment status of someone should have zero impact on one's access to healthcare.
However, I understand the practical reality that national health insurance is the next step of healthcare reform, not the current one. In the meantime, I mainly just hope we don't end up gutting the Social Security Act worse than when we started. All the discussions about why we shouldn't implement national health insurance are exactly the same as why we should privatize Medicare/Medicaid/SCHIP/etc. What I want to do is put the discussion of the 'Cadillac' tax into the larger context it deserves, that of total rewards, the complete package of wages and benefits.
All wages, bonuses, tips, commissions, stock options, life insurance payments, health insurance premiums, dental insurance premiums, disability insurance premiums, retirement contributions, auto loans, home loans, tuition reimbursement, and all other kinds of payments made by employers to employees are payments made because of the labor of the employee. We can discuss whether the absolute levels of compensation are appropriate or not, we can discuss whether different kinds of compensation have different effects on behavior, and so forth, but the important realization is that it's all the same. It's all compensation.
As such, I'm making a rather radical, but also, rather mundane, argument: it should all be treated the same by our income tax code. The purpose of taxation is to raise revenue; other purposes should be handled by agencies other than the US Treasury.
Singling out 'high-cost' health insurance premiums specifically for taxation is extremely inequitable and destabilizing, in my opinion. In that sense, I'm firmly in the camp that says the House approach is significantly better than the Senate approach.
But the principle behind the excise tax actually is at once both progressive and capitalist. It's a principle that disagrees with the idea that employers should be providing 'benefits' separate from wages, that there's a distinction between financial compensation and nonfinancial compensation. Effectively, providing tax breaks to certain types of compensation unfairly benefits the employees of large firms who are best able to negotiate ways of maximizing those types of compensation. Typically, that's regressive and ineffecient in two ways. First, it disproportionately favors the largest firms, and second, it disproportionately favors the most highly compensated employees within those firms. Not in every single case, but broadly speaking.
In fact, these types of incentives are so strong that we have to have detailed, onerous regulations on employers that have nothing to do with the core businesses in which they compete. There are entire subspecialties of HR and Legal professionals who deal with specific laws like ERISA (the Employee Retirement Income Security Act) and more generally how the Internal Revenue Code affects employers and employees receiving various types of benefits. For those who like a little concrete detail to go with their abstract claims, I'll elaborate on three examples of what I mean (and these are brief, grossly simplified summaries).
- If you're an organization implementing a wellness program trying to limit healthcare costs and improve productivity, you want to encourage certain types of outcomes that are correlated with a healthier lifestyle and thus lower health insurance costs. But, you can't reward people for actually achieving outcomes. You can pay for membership at a health club, but you can't attach any outcome related to a standard related to a health factor (like, say, weight) unless you specify alternative standards and methods for waiving the standard. You can pay for employees to go through programs to quit smoking, so long as quitting smoking isn't a requirement - if you want to provide financial incentives for people who actually don't smoke, there's a whole additional set of criteria, including making arrangements for people for whom it's unreasonably difficult to quit smoking.
- [continued] Also, it's illegal to discriminate against certain protected classes, like people over 40. Well, age happens to positively correlate quite closely with health care costs, and negatively with desired outcomes to reduce healthcare costs. So employers have to design demographically appropriate wellness programs so as to make sure they don't discriminate. It's cheaper to insure a 24 year old man than a 24 year old woman (men don't tend to get pregnancy complications). It's cheaper to insure a 24 year old woman than a 44 year old woman. And it's cheaper to insure a 44 year old woman than a 64 year old woman. Not only can you not do anything in the wellness program that directly favors people under 40, you also can't do anything that correlates with anything that favors people under 40, because that would, by definition, create an outcome that would discriminate against people over 40. And you have to actively test for these kinds of potential discriminatory outcomes; 'I didn't know' isn't an acceptable defense. We create phrases like 'similarly situated individuals' to navigate the bizarre landscape of giving employers competing mandates: to both cut health care costs and to not cut health care costs.
- The maximum 2009 contribution to a 401(k) retirement plan, a plan that allows an employee to defer wages for the sole purpose of enjoying tax deferred growth, was $22,000 (including the discrimination, which is allowed in a positive direction, for those over 50). It doesn't take an economist to understand that the vast majority of workers don't have an extra $22,000 to defer to take full advantage of the tax break. And there's an even bigger benefit high income folks receive: not only can wealthier individuals contribute more, but they also receive higher tax breaks for every dollar they contribute because what's relevant is the marginal tax rate. If someone in the 15% tax bracket puts in $1,000, they defer $150 worth of federal income taxes. For the same amount of investment, someone in a 25% tax bracket defers $250. And someone in a 35% tax bracket defers $350. Now, Congress and the IRS aren't stupid, so they also include some regulations designed to prevent abuse by highly compensated employees, which adds another level of regulation and testing to the plans.
- Section 125/cafeteria/flex benefit/reimbursement plans are quite similar to retirement accounts conceptually; you put in pre-tax dollars to be taken out at a later date. The key difference is that instead of a long time horizon, these accounts are emptied annually, instead of withdrawals being taxed, withdrawals are tax-free, and instead of spending the money however you want, they come with extremely specific restrictions on the types of expenses that are eligible. For example, if it is covering out of pocket medical expenses, they have to be your out of pocket medical expenses. Stash a bottle of Tylenol you bought with money from the account at work and share one pill with a coworker who has a headache? You just broke the law. On a trip with your girlfriend and she needs you to run out and buy her some more allergy treatments? Don't submit that as a reimbursement. And don't tell the fundies, but both birth control and condoms are eligible expenses. Of course, you have to attest that the condoms are for prevention of disease, which begs the interesting question, are there uses of a condom which are not eligible? The general rule on over the counter medications is that they're okay if bought to alleviate or treat an injury or disease. That's brilliant; that leaves out slightly important categories when it comes to healthcare like preventing injury and disease and products which promote general good health. I kid you not, dental treatments are eligible, toothpaste and toothbrushes are not. Weight loss programs for a specific medical condition are eligible, weight loss programs to promote general health are not. Then there are other categories, like dependent day care expenses, which require careful planning because they can trade off with other tax breaks which might be more beneficial related to child and dependent care. And at the end of the day, there are the same problems with higher income folks getting a bigger tax break because they're in a higher marginal tax bracket and extra regulations on employers trying to alleviate abuse by forcing them to do testing and impose caps for highly compensated individuals and so forth.
If we don't like the reality of wasting tremendous resources managing benefit programs, the much more efficient mechanism of dealing with disparities, both incidental and intended, is to eliminate the loopholes that hollow out the progressive nature of income taxation in the first place. If you haven't thought much about employer-based benefits before, it's worth exploring until it really sinks in. You may propose a different solution, but at least we can all be on the same page about the problems caused by using the tax code to treat different kinds of compensation differently. It's both inequitable, in the sense that higher income people benefit more than lower income people, and it's inefficient, in the sense that it requires a lot more regulations on businesses that wouldn't be necessary if benefits were separated from employment. After all, are car makers or computer manufacturers or software companies or architecture firms or retailers really in the business of providing financial planning? If so, it's even worse: then that's hugely discriminatory against people at smaller employers, the self-employed, and the unemployed. Does your local mom and pop store have an HR staff member dedicated to employee benefits? They probably don't have a dedicated HR staffer period.
In short, both camps are correct on the excise tax. It is a tax on 'Chevy' plans as well as 'Cadillac' plans - otherwise, it wouldn't do much. That's the whole point of group health plans; the cost is based on the group, not the individual. Healthcare spending does trade off against wages - personnel costs are the biggest expenses at organizations large and small (and more philosophically, all non-capital costs are labor costs; the Earth doesn't charge a monetary fee for extracting resources or occupying land). Of course, there's no reason to conclude that the distribution of healthcare savings would be to simply raise wages by $X per covered worker. The distribution of wages is more unequal than the distribution of healthcare benefits, not less. Where I would jump in to all of this is that none of this is unique to healthcare. Like most other loopholes in our income tax system, the tax breaks for employee benefits are regressive. They disproportionately benefit those with the highest incomes and most stable financial situations.
In addition, those opposed to the excise tax are correct that it is a tax based on cost, not benefit. Here, we actually have a very useful comparison. Currently, the IRS allows a tax exemption for up to $50,000 in compensation in the form of life insurance.
IRC section 79 provides an exclusion for the first $50,000 of group-term life insurance coverage provided under a policy carried directly or indirectly by an employer. There are no tax consequences if the total amount of such policies does not exceed $50,000. The imputed cost of coverage in excess of $50,000 must be included in income, using the IRS Premium Table, and are subject to social security and Medicare taxes.
Well guess what? Just like health insurance, life insurance costs are positively correlated with age. So let's say your employer has a group term life policy whereby the coverage amount is 3 times annualized base salary. An employee who makes $40,000 a year would thus have $70,000 worth of insurance coverage subject to taxation ($40,000 x 3 - $50,000 = $70,000). An employee who makes $30,000 a year would have a taxable amount of $40,000 ($30,000 x 3 - $50,000 = $40,000). But the $30K employee doesn't necessarily pay less in taxes. If they're significantly older than the $40K employee, they're likely to have a higher tax liability even though their benefit is lower because the tax is based on the cost, not the benefit.
Let's bring this back to the beginning. I started by talking about fundamental beliefs. This is important because there are two fundamental ways of approaching financial planning like retirement and insurance. One is to view it as an individual responsibility, where you pay based upon your risk profile. For example, this is how we do vehicle insurance in the US. People with poor driving records pay more than people with excellent driving records. People in certain zip codes pay more than people in other zip codes. Young men pay more than young women. Single men pay more than married men. People who don't want to drive don't have to buy insurance at all. And so on and so forth. The other way of approaching this is to pool risk, to operate as a group instead of as an individual. Medicare works this way (or at least, 'traditional' Medicare, that implemented in the 1960s). Everyone pays the same flat payroll tax, and then everyone pays the same nominal flat monthly premium, whether you need heart surgery or not, whether you live to be 70 or 90, whether you exercise regularly or spend your free time browsing the internet.
The employer-based benefits system is the worst of both worlds. It doesn't completely pool risk (only the Federal Government can do that). Instead, it create various groups with disproportionate bargaining power, with 'small businesses' getting the short end of the stick while the impoverished and unemployed are mostly forgotten. But, the system also overpays for benefits. Many people would prefer to take their benefits in cash wages rather than insurance benefits were it not for the massive tax loopholes involved. If given a choice, some would buy less health insurance, while others would buy less life insurance, while still others would put less money into retirement accounts.
So, I'm not opposed to eliminating the special tax treatments for employee benefits, particularly if that includes the special tax treatments for certain kinds of income. My point is that if we're going to consider it, it should be a comprehensive revision of the tax code, not something that is specific to high-cost group health insurance plans.
If you're not prepared to do that, that's fine. Just know that if the argument isn't a principled one for an 'excise' tax on everything, it's not very persuasive, at least to me. Rather, it seems like just another way to shift the tax burden at the margins from the wealthy to the middle class. And it's particularly interesting on the political front since taxing health care benefits came up specifically in the 2008 elections.
The guy advocating the taxation lost. And the guy who won said he'd veto a bill that included taxation of employee health benefits.
On PBS's “Newshour with Jim Lehrer,” the president noted that McCain (R-Ariz.) “proposed to eliminate completely the exclusion on the taxation of health benefits.” McCain proposed taxing all employer-provided health benefits in exchange for a tax credit taxpayers would receive to buy insurance.
“I had said that this would be the wrong way to go because it would be too disruptive. Essentially employers would stop providing healthcare,” Obama said. “John McCain had suggested everybody gets a tax credit, but the concern was that the tax credit wouldn’t be sufficient to actually buy health insurance on the market. So I am still opposed to that and would veto a bill if that was the approach.”
And that's about as succinct a description as is possible of the enjoyable irony that the old white guy was proposing a radical change that the young change agent thought was too disruptive...until it wasn't. When I propose taking it one step farther, not just taxing 'high cost' plans in one kind of benefit, but ending the whole system of special tax treatments for favored types of compensation, am I being too radical, or too conservative? Am I supporting Democratic ideals of progressive taxation or Republican ones about less regulations on businesses? Would the President veto my suggestion or embrace it? Our political system really is fascinating sometimes.
Crossposted at The Seminal at FDL.