Taxing Health Insurance Premiums and Subsidizing Health Care Providers

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Dean Baker
Truthout, July 20, 2009

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As a card-carrying economist, I don’t like the unlimited tax deduction for health insurance premiums. It is regressive and just plain bad policy.

Low and moderate-income people are both less likely to have employer-provided health insurance and benefit much less from the tax deduction if they do. Most of these families will have no income tax liability. So, if they get a $12,000 employer provided plan, their tax savings will only be on the 15.4 percent payroll tax liability, which would come to $1,850 in this case.

By contrast, if a family earns $250,000, it is in the 33 percent tax bracket. If this family gets a $25,000 policy from an employer, the government is effectively paying almost half the tab, or $12,100. In this case, the government ends up paying almost 7 times as much to subsidize the health care of a high income family as it does for a moderate income family. That policy is hard to justify.

Of course the vast majority of the people who benefit from the tax deductibility of employer-provided health insurance do not earn more than $250,000. Most are solidly middle-class, many of them are union members.

The unions have taken a strong position against efforts to place a cap on the size of the tax deduction as a way to help finance health care reform. Many union contracts provide for plans that would likely fall over the cap. As a result many middle-class union members could be looking at tax hikes in the neighborhood of a $1,000 a year if caps were imposed.

Abstractly, imposing a cap on premiums would be reasonable policy. After all, why should the government pay more to subsidize the insurance of a relatively well-paid school teacher than the custodian who cleans the classroom?

But this is not an abstract issue. It is a concrete question of who will pay more. For some reason, when it comes to sacrifice, union workers always seem to be at the top of the economists’ agenda.

That was certainly the case with trade policy, where unionized workers in manufacturing suffered more than anyone else as a result of U.S. trade policy. Much more highly paid workers, like doctors and lawyers (and economists), largely retained the barriers that protect them from direct competition with low-paid counterparts in the developing world.

There is a similar story in the current situation. Why don’t we create a public health care plan that will engage in ruthless cost-costing and the most aggressive competition possible with private plans? This would maximize efficiency in the health insurance industry, as the message to private insurers would be to get costs down or go out of business. Congress won’t go this route because the private insurers are a powerful lobby that will fight to the death to protect the $200 billion in unnecessary costs it imposes on the economy.

Why won’t Congress get rid of the government patent monopolies that make prescription drugs expensive? Without patent protection, we could save more than $200 billion a year on prescription drugs. We can find other more efficient means of financing the research and development of new drugs. For some reason, economists don’t even think about this massive source of inefficiency and waste.

The same story holds true with medical equipment. It is not the cost of electricity and the technicians’ time that makes high tech scans so expensive.

And of course we could look to pay our doctors salaries that are more comparable to what doctors earn in other wealthy countries, which could also save us close to $100 billion a year. If our “free trade” economists had structured deals that made it easier for qualified physicians from the developing world to practice in the U.S., we would be paying much less for health care. (We can structure a package so that it also increases the supply of physicians in the developing world – the gains from trade are that large.)

In short, when it comes to inefficiency and waste, economists only seem to notice the waste that benefits unionized workers. That is an interesting coincidence.

We should want an economy that is as fair and efficient as possible. But in a world where the wealthy find many different ways to feed at the public trough, it is not fair to ask union members alone to give up their relatively minor place.

The unions have played an incredibly important role in pushing forward health care reform. In fact, health care reform would not stand a chance without the strong support of the unions. This is especially striking since the vast majority of union workers already have health care.

It is necessary and appropriate to change a structure of tax deductions that does not make sense. When Congress is prepared to go after the other major sources of inefficiency in the health carte system, the tax deduction for employer-provided health care should definitely be on the list.


Dean Baker is the co-director of the Center for Economic and Policy Research (CEPR). He is the author of Plunder and Blunder: The Rise and Fall of the Bubble Economy. He also has a blog on the American Prospect, "Beat the Press," where he discusses the media's coverage of economic issues.