What if health insurance premiums were not tax deductible?

In My Humble Opinion
1

A few days ago I read an opinion piece by a conservative writer about health care. (I can look up the cite if desired, but it’s probably not needed.) One suggestion he had, which he admitted would likely never happen, was to cap the tax deductibility of premiums for employer-provided health insurance. According to the writer, this would slow the increase in premiums as insurers competed.

First, I don’t understand how this would work. Premiums have as everyone knows skyrocketed over the past years and the effect does not seem to have caused rate growth to slow down. Instead, employers have shifted more of the premium costs on employees and/or adopted less generous plans.

But it did get me thinking: What would be the likely result if employee health insurance premiums were no longer tax deductible?

I envision that how this work would be that the employer would still deduct its share of the premiums as a compensation expense, but that these amounts plus the employee’s share would be considered taxable income to he employee. (This I believe is how it worked in the past when certain executive perquisites were ruled taxable.) According to the kaiser Foundation in 2016 employer sponsored health insurance premiums for family coverage averaged $18,142, with the worker’s share of that premium averaged $5,277. Thus the average employee’s taxable income would go up by around $1,500 per month. An employee in the 15% tax bracket would see monthly net income go down by $225.

So here’s the question: Dust off your crystal ball and predict what would change.

I’ll start. Employees will definitely feel the pinch from reduced take-home pay. Some will start complaining about how they are forced to pay these high rates that cover less-healthy employees and their families when they themselves are healthy. They will start to demand that being in the employer-sponsored plan be voluntary.

This would of course drive up the premiums for those who remain in the plan since the premiums were determined on an employee base that included people who do not need a lot of health care.

Employers will look at their options and decide that they should get out of the health insurance game. Many, perhaps nearly all, will increase employees’ salaries by the amount the employer is paying for insurance premiums, and make a big employee relations deal out of doing this. (“We at Acme Manufacturing care about our employees. Therefore we are raising salaries to allow you, the employee, the money needed to buy your own insurance.”)

The first year, doing this will save the employer the cost of administering the health insurance plan, which is often not inconsiderable. The employer will save much more over succeeding years since salary increases will likely be lower than increases in insurance premiums.

Some employees will be worse off. Give the employee a child with asthma, for example, and she may see her health insurance premiums increase a lot.

Some employees will benefit. Those without preexisting conditions may be able to find insurance that costs less than $18,000 per year.

Some employees will roll the dice and decide to go without insurance. That extra money will buy a nice family vacation, or a much nicer car than otherwise affordable, or…

So what do you all think? Is my analysis in your opinion correct? If not, how do you see it going?

More importantly, what do you think will happen next?

2

What the writer was probably trying to accomplish is to decouple health insurance from your employer. That could make your health insurance more portable, and would perhaps even make employers drop that as a benefit altogether. And when you pay for something directly yourself, you are more likely to use it wisely more wisely. That’s the hypothesis anyway.

For me, I’m self-employed and have to buy my own insurance. And trust me it is outrageously expensive for not all that great coverage. The actual coverage looks good, but there are so few doctors that will take it as to make it sometimes worthless. I live in one of the largest metropolitan areas of the nation, and for the specialist I need to see, there is only one in the area who will take my (exchange purchased) insurance.

3

It is currently not legal for insurers to charge more for pre-existing conditions. Because of this I would expect insurers to come up with more low cost plans as a way to separate buyers into low and high use. There might be more demand for states to legalize plans that cover less. Prices would go down for some procedures because copays would go up. Penalties for not buying insurance would have to go up.

4

Sorry, I should have specified that this scenario was based on the repeal of the ACA. Even though the vast majority of USAns do not want those with preexisting conditions to have to pay exorbitant premiums, the Republicans seem determined that they’ll have to.

5

Well, the Republicans, and right-wingers generally, want Government Taxes to go down so you can spend your money paying Private Taxes.
I honestly wish i could recall, or even find, a cheerful American book on economics in the age of the New Deal, circa 1936, wherein the author pointed out that a tax is still a tax whether it goes to the state or a private corporation. Particularly for stuff vital to live.
Like say water.

6

The book may have been cheerful, but it was also wrong. Water is a necessity, but I don’t have to for it. I can scoop it from the lake across the street, I can catch it in rain barrels, I can dig my own well. Prior to ACA I did not have to buy health insurance. I could self fund, self medicate, hope for the best or ignore. The government couldn’t care less. Try not paying your taxes, OTOH. The government gets really concerned, really quickly and eventually will cause bad things to happen. Taxes are mandatory by statute, your other examples are discretionary.

7

Not necessarily. If you don’t own that lake across the street, it’s likely against the law. Rain barrels were illegal in Colorado for years and only recently have been allowed on a limited basis.

8

Only if you allow the employer to cut your pay. We have a so-called “Cadillac” plan on which somebody has to pay a 40% excise tax under Obamacare. We told our employer that we were not going to take a hit on our wages and our medical benefits and that they would have to deal with it. They are. We have heard no more about it.

See, all workers could do this if they stopped cutting each other’s throats and kissing the bosses ass at work. Stick together. An injury to one is and injury to all.

9

That still doesn’t make it a tax in any form.

10

I’m not following your logic here. I think better if there’s an example, so here goes:

Suppose you earn $55,000 per year ignoring all tax-deductible benefits and other items except for health insurance premiums. $5000 is deducted from your paychecks – your share of your health insurance premiums which is not taxable. Your company is paying $10,000 for their share of your premiums. They (in this highly simplified example) deduct $65,000 in compensation expense for you – $50,000 (net pretax pay) plus $5000 they deducted from your checks plus the $10,000 they paid. Your W2 shows $50,000 in taxable income. You are in a 15% tax bracket, so (ignoring exemptions, standard or itemized deductions and the like) your tax bill is $7,500.

Now suppose your health insurance premiums are no longer tax-deductible. Your employer still deducts $65,000 in compensation expense. Your W2 though now shows that full $65,000 and your tax bill is now $9,750 – $7,500 on your salary plus $1,500 on the $10,000 your employer paid for health insurance premiums plus $750 you now pay on the $5000 deducted from your paycheck for your share of health insurance premiums.

How did you allow the employer to cut your pay?

Suppose your employer decides to no longer provide health insurance, and gives you a $10,000 salary increase – the amount the employer had been paying for your insurance. The employer still deducts $65,000 in compensation expense, and you still pay $9,750 in taxes. Shifting the compensation expense from insurance payments to direct compensation didn’t really impact anything tax-wise.

It seems to me that it’s not the employer who is cutting your pay, but the tax code.

11

I think the general idea is that decoupling health insurance from employment would remove a bunch of inefficiencies from the market. The two big ones are:

  1. Employers are encouraged to spend a higher than optimal amount on insurance since the benefits are subsidized by the tax break.

  2. Changing jobs/starting businesses is harder because it means giving up health insurance and dealing with the individual market.

Those are both valid things to want to fix.

The problem, as you point out, is that while this might be good in general, it’s going to work out very badly for individuals that need more medical care. Large(ish) employers are a large enough risk pool and are sufficiently hard to game that insurers don’t have to worry much about people waiting until they really need medical care to get covered.

On the individual market, without some kind of mechanism like the ACA’s mandate+premium limits+subsidies, some people will be effectively priced out of the market. Where you sit on the political spectrum probably determines whether you see this as a bug or a feature.

12

Here in the UK, private health insurance is very much a perk and is taxable.