Paying for Health Care Reform

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According to the New York Times, support is waning for limiting the tax exclusion on employer sponsored insurance (ESI) in order to pay for some of the costs of expanding health insurance coverage. According to the article:
 
An effort by Senator Max Baucus of Montana to develop compromise health care legislation has come under sharp assault by fellow Democrats who have urged him to abandon a plan to help pay for the bill by taxing some employer-provided health benefits …
 
opinion polls show the idea to be generally unpopular, and several senators up for re-election in 2010, including the majority leader, Senator Harry Reid of Nevada, have said they oppose it …
 
opposition emerged on several fronts, and there was a deep rift between urban states, with large numbers of unionized workers who would be hard hit by the tax …
 
As a result of the opposition among Democrats, Senator Kent Conrad, Democrat of North Dakota and a member of the Finance Committee, said negotiators were considering a broad range of options, including a tax on benefits with a higher threshold — $25,000 a year — that would generate $90 billion.
 
The ESI exclusion essentially exempts compensation in the form of health insurance from taxation, even as it taxes normal wages. Although this exclusion does encourage employers to offer health insurance, and reduces the cost of that insurance for individuals (relative to if it were taxed), most experts consider it to be a poor way to subsidize health care.
 
For one, the ESI exclusion is quite regressive: If you make $400,000 a year, and are thus in the 35 percent bracket, the government essentially pays you 35 cents for every dollar of health insurance you have. But if you make $40,000 a year, you’ll only get a 15 cent per dollar subsidy.
 
And when you factor in that wealthier people tend to have more expensive health insurance plans, the subsidy becomes even more expensive. Moreover, the ESI exclusion drives up health care costs by making insurance appear relatively less expensive to buyers. And perhaps most importantly, it costs the federal government $250 billion a year in forgone revenue which it could use to cut distortionary tax rates, reduce budget deficits, or fairly and efficiently subsidize the purchase of health insurance.
 
As much as economists and experts dislike the employer exclusion, politicians are afraid to get rid of it. During the presidential campaign, Barack Obama criticized John McCain "tax(ing) health care benefits for the first time in history" under his plan.
 
Still, President Obama seemed open to at least limiting the size of the ESI exclusion. But it now appears less likely that any change to the exclusion will appear in the final bill.
 
And it’s a shame, because financing health care reform is going to cost around $150 billion a year – and we need to pay for it.
 
CRFB’s US Budget Watch project put together several tables of Options to Pay for Health Care Reform. According to this report, eliminating the ESI exclusion could raise $3.5 trillion over 10 years -- that’s enough to pay for health care reform three times over. Simply replacing the exclusion with an equal-sized tax credit -- meaning that everyone who had health insurance would get the same-sized subsidy -- would raise $950 billion over 10 years if that credit were indexed at inflation and $470 billion of it were indexed to GDP growth.
 
Limiting the size of the exclusion to the average health care plan or phasing it out for people making more than $250,000 a year could raise $580 billion and $130 billion, respectively.
 
No other option highlighted by US Budget Watch, save a value added tax (VAT), can generate as much money for health care reform as changing the ESI exclusion. And many of the other options will be needed, outside of health care reform, just to get Medicare under control.
 
Still, it is worth taking a look at Options to Pay for Health Care Reform to get an idea of the offsets available to finance health care reform.