Making Health Care More Affordable through Health Insurance Finance Reform: Biases in the Federal Tax Code Hamper Equity and Efficiency

Article excerpt

The way that we finance health insurance today is both unfair and inefficient. The tax code subsidizes the most expensive employment-based policies while penalizing those who buy insurance on their own or choose more basic policies. By reforming this system, we can both make health care more affordable for millions of people and get higher-value care for the money that we spend. These reforms should be coupled with policies to ensure that basic private insurance is affordable for everyone, including those with chronic health conditions or low income, and to ensure that patients and physicians have the tools that they need to make well-informed decisions.

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Health care spending is growing at an unsustainable rate. Rising faster than both inflation and wages, health care costs are putting pressure on public and private budgets alike and swelling the ranks of the uninsured. Health care spending is projected to consume nearly 20 percent of GDP by 2016, which would be less troubling if those dollars were always going to high-value care. This does not, however, seem to be case. The United States spends twice as much per capita on health care as our OECD trading partners, but our health outcomes do not seem to be commensurately better. Even within the United States, the parts of the country where we spend the most are not the parts of the country where patients get the highest quality care. The evidence suggests that we could get more out of the health care system, which would both contain rising costs and promote better health outcomes.

The Tax Treatment of Health Insurance Is Inefficient and Unfair

Why aren't we getting more for our health care spending? A major driver of inefficiency and inequity is the U.S. tax code. Our tax system subsidizes the purchase of employer-sponsored health insurance but not individually purchased insurance--and the biggest subsidies are reserved for the most expensive plans. For the most part, premiums for employer-based policies are paid with pre-tax dollars, but insurance bought individually or care that is not covered by insurance is paid with after-tax dollars. This may not sound like a big difference, but for the typical taxpayer it's a 30 percent price difference, and for many taxpayers it's even more. This introduces two biases: a bias against people who buy health insurance on their own instead of through their employer and a bias against people who purchase basic policies instead of more expensive ones.

This is both unfair and inefficient. People purchasing health insurance on their own, the uninsured, and those with basic policies are implicitly subsidizing those with the most expensive employer-based policies. Because the tax code discriminates against those who purchase basic policies and pay for routine care out-of-pocket, it pushes people into policies with the least incentive for cost-conscious use of health resources. It also dampens wage increases, since health care purchases are a tax-preferred form of compensation but wages are not, driving health insurance to comprise a larger and larger share of workers' total compensation.

This is one of the main reasons that health insurance does not look like the other kinds of insurance many Americans purchase, such as homeowner's or auto insurance. In these policies, most people choose to pay for routine, affordable expenses out-of-pocket rather than having their premiums go up by enough (including an insurance load factor) to cover them. Only in health insurance does it make financial sense to have those expenses covered by insurance because of the substantial discount the tax code gives to employer-based premiums.

Subsidizing incremental health insurance purchases dulls the incentive for innovators to create cost-saving technologies, for insurers to develop new ways to manage costs, and for individuals to choose the highest value care. This puts upward pressure on health care costs system-wide, making health care and health insurance increasingly unaffordable. …