Members of Congress from both parties support legislative proposals to expand private health insurance coverage to millions of Americans through a system of tax credits. The health care tax credit proposal received a strong boost during the congressional debates over a stimulus package to help our nation recover from its current recession and address the needs of millions of Americans who are at risk of losing their coverage as a result of the economic downturn.2 With bipartisan interest in using refundable tax credits to provide coverage for most uninsured persons, a key challenge is to devise a system for implementation that would be both efficient and effective for current and displaced workers.
Congress can make tax credits for health insurance work efficiently for current workers and their families. A vehicle for the implementation of tax credits for these workers exists in the payroll deduction system. Incorporating tax credit administration within employers' existing payroll deduction systems is convenient and uses a universal, proven mechanism. It also avoids the burdens of an expanded individual income tax filing system or a mass mailing of "vouchers" that employees would receive from the government to send to their insurance companies. This system would be much more efficient than the current individual insurance market in most states, in which sales and administrative expenses can add 30 percent to the cost of health benefits. A payroll deduction system could handle sign-up and premium contributions for approximately 85 percent of uninsured persons who are workers or members of families in which the head of household is employed.3
Congress can also make tax credits for health insurance work effectively . To ensure maximum participation in a program of tax credits for health care, the availability of the credits and enrollment options, including a "default" plan, should be automatic, although employees would be given the option of declining coverage and the credits. A person's decision to take advantage of the credit and the health insurance coverage would be voluntary.
Congress could provide similar administrative arrangements for workers who become unemployed using both COBRA (the Consolidated Omnibus Budget Reconciliation Act of 1986) and the unemployment insurance (UI) system. Under COBRA, covered workers (in firms with more than 20 employees) who lose their jobs automatically receive an option to sign up for continued health insurance coverage if they pay the full premium themselves. This arrangement could be broadened to offer sign-up for health insurance tax credits (the worker would pay the premium, less the tax credit), as well as to make available other private health plan choices and public program assistance, such as SCHIP (State Children's Health Insurance Program) benefits for children in low-income families. Unemployed workers who are not eligible for COBRA could sign up for private health insurance (and tax credits) at UI offices and arrange for their premium shares to be deducted automatically from their UI checks, a system that would be comparable to the payroll deduction system. For displaced workers, both COBRA and non-COBRA, the availability of the private enrollment options and tax credits would be automatic, but workers could decline coverage.
By making the administration of a tax credit system both efficient and effective, Congress can broaden support for bipartisan legislation that would expand health insurance coverage to millions of American workers and their families.
How to Implement Health Insurance Tax Credits
Health insurance tax credits now have bipartisan support, although legislative proposals vary in details. For example:
- Senators James Jeffords (I-VT), John Breaux (D-LA), and William Frist (R-TN) are sponsoring the Relief, Equity, Access and Coverage (REACH) Act (S. 590), which would provide a $1,000 refundable tax credit for individuals and a $2,500 credit for families.
- In the House, Representatives Richard Armey (R-TX) and William Lipinski (D-IL) are sponsoring the Fair Care for the Uninsured Act (HR. 1331), which would provide a $1,000 tax credit for individuals and support of up to $3,000 for families for the purchase of health insurance.
- The House-passed economic stimulus bill for displaced workers (H.R. 3529) offered tax credits to cover 60 percent of premium costs.
The following model administrative system could serve for these and other tax credit proposals.
Health Insurance Tax Credits for Current Workers
A model system to implement $1,000-per-person tax credits for current workers to purchase health insurance could have three elements.
- Workers would elect their choice of health plan and determine a desired amount of payroll deductions, above their $1,000 tax credit, at their workplace.
- Employers would notify the health plans and send payroll deductions (a single check with a list of individuals, Social Security numbers, and the requisite amounts) to a service center for transmittal to the individual health plans.
- The selected health plans would notify the Treasury Department and be paid the portion of a $1,000 tax credit due for the payroll period. To avoid raising taxes for individuals who do not currently have income tax liabilities, the tax credits would be scaled with regard to taxable income levels.4
This system would make health plan enrollment available to workers in a timely way--when they are starting a new job and are likely to increase their disposable income--and offers a simple, convenient arrangement for making informed choices.
Subsidized Health Benefits with Choice of Plans
A current model of subsidized health benefits that uses workplace sign-up and incorporates choice exists in the Federal Employees Health Benefits Program (FEHBP), which provides coverage for 9 million federal government workers--including Members of Congress--and their dependents. To implement a comparable system for workers without employer-sponsored coverage, using health insurance tax credits and payroll deductions, the proposed service centers could also serve as clearinghouses for information on available health plans to ensure that employees can make an informed choice from a spectrum of options for coverage. Additional information could be made available through health plans, brokers, and other sources.
There are several reasons to use the payroll deduction approach. One is that the majority of uninsured Americans are in the labor force or are members of families with workers. In fact, recent research indicates that more than 85 percent of the uninsured are in working families.5 A workplace-based sign-up and payment system for new workers would be able to serve most of the uninsured.
A second reason is that automatic payroll deductions are an exceptionally efficient way to handle routine, regular payments and earmark a portion of a worker's salary for priorities before it is spent on other items.
A third reason is that all business firms and workers are already part of this payroll deduction system. Employer payroll processes already handle a minimum of eight standard payroll-based deductions and required reports, including Social Security payments, Medicare, income tax payments, and unemployment and disability insurance.
In addition to such automatic deductions, many employers offer a number of voluntary payroll deduction options--sometimes with employer contributions--for their workers. Most employer health insurance and pension/savings plans are funded in this way, as are many contributions to charitable organizations. The payroll deduction system has proven its efficiency, and more than $2 trillion in financing is allocated through this system each year.6
The proposal to include a service center to which an employer could remit payroll deductions would simplify the employer's task. Whereas without a service center, an employer might have to send a separate check to each selected health plan, through a service center, an employer would need only to send one check, along with a list of workers, their Social Security numbers, health plans, and payroll deduction amounts.
In addition, the widespread use of office computers and business software has made the payroll deduction system exceptionally efficient. A small business software program that will keep all payroll records, calculate deductions, prepare reports, and write checks now costs approximately $30. The most widely used integrated business management, accounting, invoicing, and payroll software programs for small business now sell for between $90 and $200.7 Business accounting services are now accessible through the Internet, and accounting programs typically are updated at least annually (and in many cases quarterly), so they could readily incorporate new payroll deduction options.
In their efforts to secure a qualified workforce, employers who do not now offer health insurance benefits would benefit by enlisting in a new health insurance tax credit system and thus becoming more competitive with other firms that provide health care. At the same time, their employees would benefit through the program, and those who previously were uninsured would have a viable option for health care coverage, receiving a tax credit toward those benefits. By purchasing health insurance through payroll deductions, they would avoid high marketing costs and other costs of the individual coverage market. The benefits of this system would far outweigh the small task for employers of sending one additional check per pay period and adding one item to their workers' current list of payroll deductions.
Maximizing Participation
The effectiveness of a system for health insurance tax credits can be measured by its enrollment rate. One factor in employee participation is the existence of a convenient vehicle to inform workers of insurance options, execute enrollment choices, and make payments.
Even with such a system, achieving a high voluntary enrollment rate will still be challenging if tax credits are of a modest amount (for example, $1,000 per worker). An element that would encourage a high take-up rate would be the automatic enrollment of all new workers in conjunction with a $1,000 tax credit that could cover most of the cost of insurance. Even though enrollment choices, as well as a "default" plan, would be automatically available, the system would still be voluntary in that workers would be able either to enroll in a plan of their choice or to decline enrollment in any plan and forgo the tax credit.
The automatic enrollment mechanism has proven to be effective in both the public and private sectors. A public-sector example is Medicare. The Medicare Part B, or Supplemental Medical Insurance (SMI) program, has successfully used automatic enrollment for more than three decades. It now enrolls 38 million persons. As they near age 65, senior citizens are notified that they will be automatically enrolled in Medicare Part B and that the premiums--now $54 per month ($648 per year)--will be automatically deducted from their monthly Social Security checks, unless they decline participation in writing. Approximately 95 percent of eligible retirees now elect to be enrolled in SMI, which, under current law, is 75 percent subsidized from general tax revenues. The acceptance rate for enrollment was similarly high even in the earlier years of Medicare, when there was a less generous 50 percent subsidy of Medicare Part B premiums.
In the private sector, automatic enrollment--even without an employer contribution--has produced high worker enrollment in 401(k) retirement plans. A recent study published by the National Bureau for Economic Research shows that the enrollment rate for new workers--with an unmatched worker contribution of 3 percent of wages--rose from 37 percent to 86 percent after introduction of the automatic enrollment process. The study found particularly impressive increases in the enrollment of younger workers (a rise from 25 percent to 83 percent participation for workers under the age 25), for lower-income workers (a rise from 12.5 percent to 79.5 percent for workers with incomes below $20,000), and among Hispanic workers (a rise from 19 percent to 75 percent participation).8 Since these population groups tend also to have low levels of health insurance coverage, it is significant that automatic enrollment alone was so successful in influencing their choices regarding 401(k) plans.
Automatic Enrollment Options
If automatic enrollment is adopted for new workers who are eligible for health insurance, a policy decision will be needed as to the low-expense default option--a health benefits plan in which they will be enrolled unless they select an alternative plan or decline coverage (and the tax credit). There are two approaches, which differ in worker financial contribution and in the generosity of the benefit package:
- A "zero premium" plan, which provides only those benefits that can be paid for by the health insurance tax credits alone (for example, $1,000) at no cost to a worker.
- A "basic" plan, which provides expanded coverage with benefits whose costs equal the sum of the health insurance tax credit (for example, $1,000) plus a standard worker contribution (for example, $500).
Under the first option, workers would be automatically enrolled in a free health insurance plan with a $1,000 premium, unless they declined. Few individuals are likely to decline a $1,000 benefit, so near-universal coverage of formerly uninsured workers could be expected. However, with its low premium, this option would offer sub-par benefits.
Under the second option, workers would be enrolled in plans that offered a higher level of benefits but would also entail a standard worker contribution via an automatic payroll deduction. A worker contribution of $500 entails a per-week deduction of approximately $10 and, with a $1,000 tax credit, would provide coverage with a $1,500 premium--high enough to provide Medicare-level benefits for uninsured full-time workers.9
Though Medicare has gaps in coverage, health plans that offered Medicare benefits would nonetheless likely be considered by workers as offering good basic benefits. Since Medicare enrollees now pay $648 per year for Medicare SMI benefits--often from Social Security checks that average only about $10,000 per year--it would not be unreasonable to ask workers to pay $500 a year for such health insurance coverage. Nevertheless, the take-up rates for a health care benefit with a two-thirds subsidy (a $1,000 tax credit for a $1,500 premium) would likely be lower than under the "zero premium" option. With either approach, workers could also be afforded an opportunity to sign up for supplemental programs to assist lower-income workers and their families such as SCHIP, if they wished, or some new form of subsidized private coverage.
Health Insurance Tax Credit for Displaced Workers (and Students)
The combination of automatic enrollment, health insurance tax credits, and an efficient sign-up system in the workplace should result in high take-up rates among current workers. A similar arrangement can be used to address the health care needs of displaced (unemployed) workers, their families, and others.
Many workers who lose employer-based coverage are covered by COBRA, which qualifies them for up to 18 months of continued coverage, but their only option is to pay the full premiums themselves for the benefit plan in which they formerly had participated through their workplace. This is usually expensive coverage that carries with it a "sticker shock" for workers who are about to lose their paychecks. For example, while employed, a worker may have paid only $1,000 for a $5,000 premium subsidized by his employer.
Faced with the massive expense of paying the full premium for health insurance, the overwhelming majority of workers (more than 80 percent) do not elect to continue COBRA coverage. Many other displaced workers are not eligible for COBRA coverage because they worked in firms with fewer than 20 employees, or worked for firms that did not offer health insurance benefits.
A simple way to fill these gaps in health care coverage would be to extend eligibility for the health insurance tax credit for the 18-month period specified by COBRA through automatic enrollment with a range of affordable private health options. For displaced workers not eligible for COBRA, a similar system--including a tax credit, health plan options, and automatic enrollment provisions--could be administered through the unemployment insurance offices. Workers who signed up at UI offices would be able to pay premiums through deductions from UI checks if they chose to do so. Similarly, students who become ineligible for coverage under their parents' plans could also qualify for health insurance tax credits, automatic continuation coverage, and enrollment options.10
Affordable Coverage with Personal Choices
Presenting displaced individuals who are about to lose previous subsidized coverage with a convenient sign-up system, a menu of affordable options, and health insurance tax credits will maximize the likelihood that they will make a new arrangement for health coverage. If an eligible person wanted to apply a tax credit to pay a COBRA premium, of course, that person could do so; but a menu of affordable private health plan options and alternative financing plans could also be incorporated in the existing COBRA notification and sign-up process, as well as being offered at UI offices and for students who lose coverage (through a COBRA-like process).
Likewise, there is no reason why a person could not voluntarily sign up for a public program if he or she chose to do so. Workers could also be informed of the availability of SCHIP coverage for their children and could be provided with application forms at this time.
A Role for the States
Federal tax credits can provide basic financing for uninsured workers, but they will need to be supplemented to cover the nearly 38 million uninsured. State-administered programs already assist in expanding SCHIP, Medicaid, or other financing for low-income children and non-workers. During times of economic downturn, states could also work with Congress and the Administration to coordinate a new system of tax credits with means-tested programs to expand private health insurance coverage.
States could also directly supplement the tax credit for workers and their families who are most in need. To improve the efficiency and effectiveness of their efforts, states could make available their health care financing options for working families as part of the administrative systems described above. Issues of health insurance market regulation will also need to be resolved.11
Conclusion
On a bipartisan basis, many Members of Congress are considering using tax credits to expand private health insurance coverage to meet the needs of an increasing number of uninsured Americans. While administrative issues are a concern with the use of tax credits, as they are with many public health care programs, these issues can be resolved by incorporating current practices from both the public and private sectors--specifically, the existing system of payroll deductions and the process of automatic enrollment at the workplace, and the existing system of COBRA and UI benefits for displaced workers. These elements can be expected to maximize participation in health care coverage while facilitating the effective and efficient administration of federal health insurance tax credits.
Lynn Etheredge is an independent consultant. He is affiliated with George Washington University's Health Insurance Reform Project.
1. This publication is based on research and a paper originally supported by a grant from the Robert Wood Johnson Foundation to the Health Insurance Reform Project at George Washington University.
2. Health insurance tax credits were part of the economic stimulus bill (H.R. 3529) passed by the House on December 20, 2001. Health insurance tax credits were supported by President George W. Bush, and Senate Majority Leader Thomas A. Daschle indicated they would be acceptable in Senate legislation; see Bureau of National Affairs, Health Care Policy Report , December 17, 2001, pp. 1849-1850.
3. Paul Fronstin, "Sources of Health Insurance and Characteristics of the Uninsured: Analysis of the March 2001 Current Population Survey," Employee Benefit Research Institute Issue Brief No. 240, December 2001, p. 13.
4. This avoids raising taxes for individuals who do not now have income tax liabilities, and it avoids an administrative system that requires individuals to prepare, and for government to process, tens of millions of new tax reports. Final reconciliation of tax liabilities and payments would take place in the normal income tax process. Higher-wage workers could adjust their W-4 income tax withholding to the extent they anticipate higher tax liabilities from using a health insurance tax credit.
6. Author's estimates from Council of Economic Advisers, Economic Report of the President , 2001, and Employee Benefit Research Institute, EBRI Databook on Employer Benefits , 4th ed., 1997; accessed July 26, 2001, at http://www.ebri.org.
7. The prices cited are those quoted on Amazon.com for the software programs Payroll for Contractors 1.0, Peachtree First Accounting 2002, and QuickBooks Pro 2001; accessed August 20, 2001, at http://www.amazon.com.
8. Brigitte Madrian and Dennis Shea, "The Power of Suggestion: Inertia in 401(k) Participation and Savings Behavior," Table 5, National Bureau of Economic Research Working Paper No. 7682, May 2000. A proposal to use automatic enrollment to expand health insurance coverage is contained in Karen Davis, Cathy Schoen, and Steve Schoenbaum, "A 2020 Vision for American Health Care," Archives of Internal Medicine , Vol. 160, No. 22 (December 11-25, 2000).
9. See Lynn Etheredge and Stanley Jones, "Affordable Health Benefits for Workers Without Employer Coverage," Health Insurance Reform Project, George Washington University, February 1998. These premium estimates define eligible individuals as workers who work at least three days per week and those who are receiving unemployment insurance benefits, and their spouses. Subsidized coverage for children and other nonworking adults, as well as supplemental health benefits, would be financed through SCHIP, Medicaid, and other public programs.
10. Students are unlikely to have surplus earnings, so their default enrollment plan should likely be a "zero premium" plan.
11. A proposal to resolve these health insurance market regulation issues, using federal-state models that have been adopted in recent legislation, is discussed in Lynn Etheredge, "Tax Credits for Uninsured Workers," Health Insurance Reform Project, George Washington University, September 1999. This proposal covers issuance and nondiscrimination rules, as well as health insurance market regulation and related financing issues. If insurers were required to notify a service center when a student was going to become too old for a parent's family coverage, the service center could notify the student of his or her eligibility for tax credits, health plan options, and automatic enrollment.
