September 4, 2007

September 4, 2007 | Commentary on Political Thought

News on Salary Doesn't Add Up

There seems to be an unwritten journalistic rule that all economic news must be bad news. The stories we read and hear tend to be negative. Good economic news, if it makes it into print at all, is usually buried behind the crossword puzzle, the comics and the horoscopes.

Consider a recent New York Times story about how much American workers earn. "While incomes have been on the rise since 2002, the average income in 2005 was $55,238, still nearly 1 percent less than the $55,714 in 2000, after adjusting for inflation," wrote David Cay Johnston on Aug. 21.

The article makes it sound as if workers are losing ground. But the full story is more complicated, and the real economic outlook much brighter for American workers.
First, it's critical to note that Johnston looks only at certain types of income, not at the whole picture. When all is said and done, employees are actually paid quite a bit more than the amount shown on their paycheck.

If we want to understand how much someone earns, we need to look at salary and benefits. After all, the money employers spend to provide benefits is money that's spent for the worker but no longer available for cash compensation.

Recently The Heritage Foundation reviewed the cost of the benefits we provide our staff. Some of these are voluntary; many are mandated by law. We pay one employee (let's call him John Q. Sample) $50,000 in salary. He's enrolled in the family health-care plan and doesn't contribute to a pre-tax retirement account.

When the costs of his benefits are totaled, we pay Mr. Sample $70,768 in total compensation. Turns out 38 percent of Sample's compensation is in the form of non-cash benefits.

This is something of an atypical case, since if Sample enrolled in the individual health-care plan, he'd get a much smaller benefit. Still, for our staff, the average benefit ratio was 26 percent. (Nationwide, it's 30 percent.) That's a lot of compensation that goes to the benefit of the employee but never shows up in a bank account.

The Times story is also skewed because it focuses only on Adjusted Gross Income, a number shaped by what Congress chooses to tax. For example, alimony payments are income but aren't included in AGI. Earnings from mutual funds are income as well, but most aren't counted in AGI because they occur through 401(k)-type plans.

All told, federal tax policy ends up limiting the choices available to workers and families. Because lawmakers choose not to tax benefits while taxing regular pay at high rates (often 40 percent or more), employers are encouraged to shift more and more of their compensation into benefits.

Unfortunately, this often results in workers getting benefits they don't want or need. For example, because of the way the law treats health insurance, some families have too much, while other families go without enough insurance.

Under a better system, a recent college graduate who's healthy and just getting started in life would be allowed to buy a catastrophic health plan, one with a high deductible and few fringe benefits. This worker would be saving his employer money, and the employer could pass that along as a higher salary.

Instead, because the tax code is written to tax income and not benefits, this employee will likely end up with an expensive, comprehensive insurance policy, because compensation in the form of employer-provided health insurance is tax-free to both the employee and the employer. Thus something as fundamental as employee take-home pay is distorted by government meddling in the lives of citizens.

Sorry to have to give you the good news that total compensation is better -- and the economy stronger -- than the media would have us believe. The full story may not sell many papers. But it has the advantage of being true.

Ed Feulner is president of The Heritage Foundation (heritage.org).

About the Author

Edwin J. Feulner, Ph.D. Founder, Chairman of the Asian Studies Center, and Chung Ju-yung Fellow
Founder's Office

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