Image: U.S. Senate Finance Committee Chairman Baucus
Hyungwon Kang  /  Reuters
Senate Finance Committee Chairman Max Baucus, D-Mont., is searching for tax revenue to help pay for an overhaul of America's health insurance system.
By Tom Curry National affairs writer
updated 8/14/2009 2:04:03 PM ET 2009-08-14T18:04:03

As part of a health insurance reform package now before Congress, some of the 164 million Americans who are covered by employer-provided health plans could be asked to give up at least part of the longstanding tax exemption granted to such compensation.

It’s an idea likely to be met with howls of opposition if it makes it into the final version of health insurance legislation that President Barack Obama is pushing.

The idea of limiting the tax break for employer-provided insurance gained momentum last week, when Obama told senators that he’d consider it as one ingredient of the  health insurance reform bill he wants Congress to pass by early August, when the Senate starts a one-month recess.

Senate Finance Committee Chairman Sen. Max Baucus, D-Mont., who conveyed Obama’s willingness to consider the idea after a White House meeting Tuesday, has said the tax treatment of employer-provided health insurance ought to be made “fairer and more equitable for everyone.”

Will you end up with more taxable income?
While details of such an approach are still sketchy, it would likely involve employees paying tax on a percentage of their employer-provided health benefits. So if Congress decided that all such premiums in excess of $11,000 for family plans would be taxable income, and your company paid premiums worth $16,000 for your coverage, you’d have to pay taxes on $5,000. 

Obama’s new openness to the idea stands in contrast to what he said six months ago as a presidential candidate, when he harshly criticized his Republican rival, Sen. John McCain, for proposing that employer-provided benefits should be taxed.

Scolding McCain in their debate on Oct. 15, Obama said, “This is your plan, John. For the first time in history, you will be taxing people's health-care benefits.”

(Watch the video below to see Obama criticizing McCain for proposing a tax on health insurance benefits.)

Obama also pledged last year not to raise taxes for families making less than $250,000, and a health benefits tax, depending on how it was structured, could run afoul of that promise.

The tax exemption on employer-provided health insurance, which dates to 1943, has already survived one attempt to limit it.

An echo of Ronald Reagan
In 1984, President Ronald Reagan floated the idea of requiring workers to pay taxes on employer contributions to their health insurance exceeding $2,100 a year. A Washington Post editorial the following year called the proposal “surprisingly lucrative yet eminently fair,” and speculated that “(it) might have helped hold down health care costs in the bargain.” But opposition, especially from labor unions, scuttled the proposal.

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Obama’s new receptivity to the tax springs from the massive sums of money needed to pay for expanding health coverage to the uninsured.

Obama’s Council of Economic Advisors last week cited a figure of about $125 billion a year to insure the uninsured. But the president aims to do more than that. He also wants to subsidize the cost of coverage for lower-income people, subsidize COBRA coverage for those who lost their jobs and make other changes.

MIT economist Jonathan Gruber told the Finance Committee last month that curbing the health insurance tax break was “both the most natural source of financing for health care reform” and “one of the few that is clearly large enough to finance the subsidies needed for reform.”

According to the congressional Joint Committee on Taxation, the Treasury misses out on $226 billion a year because employer spending on health insurance isn’t counted as taxable income.

That figure dwarfs any other potential health-related revenue sources that have been identified as possibilities to help fund the health care expansion. Among them are a 3-cent-per-can tax on sugar-sweetened beverages, which the Congressional Budget Office estimates would raise about $50 billion over 10 years, or increasing taxes on beer, wine and distilled liquor which, under one CBO scenario, would raise $60 billion over 10 years.

A boon for upper-income people
According to an analysis by the Joint Committee on Taxation, curbing the tax break for employer-provided health insurance would primarily affect the wealthy, who “receive the greatest tax benefit from the exclusion from income.” According to Gruber, “about three-quarters of these dollars go to the top half of the income distribution.”

But opposition to the proposal may be as big a problem for Obama as it was for Reagan.

A Kaiser Family Foundation survey in April that asked whether workers “with the most generous health care benefits” should be required to pay taxes on their coverage found 52 percent of respondents opposed to the idea. Of those who currently have employer-sponsored health insurance, 62 percent opposed it. (The poll of 1,203 adults had a margin of error of plus or minus 3 percentage points.)

Will Americans bridle at loss of tax break?
The U.S. Chamber of Commerce warned Baucus in a letter last month that workers view employer-provided insurance “as duly-earned income” that should be “protected from the tax collector. This perception perhaps explains why the president was so successful in campaigning against Senator McCain’s health reform proposal — Americans generally do not support tax increases.”

The American Benefits Council, which represents principally Fortune 500 companies, is also opposed to the idea of limiting the tax break for employer-provided insurance.

“It is likely to lead to higher deductibles or co-pays, so there’s higher cost sharing” by workers, said the group’s health care spokesman, Paul Dennett. If Congress were to set the threshold for taxation of benefits at $13,000 for a family coverage plan, then employers “in order to help workers not face taxation, may offer coverage below that threshold. This is a course employers say they would likely take.”

Reduction in health benefits?
Economist Elise Gould at the liberal think-tank the Economic Policy Institute gave a similar assessment. Employers would see the threshold for taxation as what the government deemed the target level for health benefits, she said. “Employers will respond by reducing the comprehensiveness of benefits. They’ll likely target premiums to fall below the (threshold) value or just at that value, so employees don’t have to pay those additional taxes.”

Corporate America also fears that a limit on the tax break for health insurance would create an administrative nightmare, especially for large firms with employees in different states who face widely varying health care costs.

And opposition also remains strong among labor unions, which were big Obama backers in last year’s election.

Barbara Coufal, the assistant director of legislation at American Federation of State, County, and Municipal Employees, said, “We don’t think we need to look inside the health care system to seek all the revenues we need for health care reform. Over the last 10 years, there have been a lot of tax breaks that have been given to the wealthy and to businesses. We maybe ought to look there and restore some equity.”

With momentum growing to enact some limit on the tax break for health benefits, increasing energy is being devoted to develop a workable taxation scheme.

Target upper-income Americans?
Gruber suggested the possibility of having a baseline so that only families with incomes above $125,000 per year would pay tax on their benefits. Gruber said this would still raise a lot of revenue: more than $40 billion a year if the cap were indexed to increases in the Consumer Price Index.

But in its letter to Baucus, the Chamber of Commerce said that such a proposal might “foster class warfare by (repealing the exclusion) … for certain income earners and not affecting others.”

Baucus, a 30-year Senate veteran, knows the politics of this issue are delicate. Limiting the tax break for employer-provided health benefits has “got to be done in a very sensitive way, to make sure the limits are high enough,” he was quoted as saying last Thursday by the Capitol Hill publication CQ Today.

Yet if Congress changes the law so that the tax bite ends up hitting only the wealthy, it might not raise enough revenue to help pay for health insurance overhaul.

“That’s the real dilemma,” said Dennett, of the American Benefits Council. “The lower the threshold is set, then the lower the revenue gain — and the scramble would be on to find other revenue sources.”

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