Tax and Health Care Policy: From Folly to Redemption?*

1. Tax and Health Care Policy:From Folly to Redemption?* Fred T. Goldberg, Jr. Skadden, Arps, Slate, Meagher & Flom “Getting More From Tax Incentives” – A Program Sponsored by the American Tax Policy Institute, New York University School of Law, and the Urban-Brookings Tax Policy Center at the Urban Institute May 19, 2009 * The material presented here is taken from an article prepared for The Legal Solutions in Health Reform Project sponsored by the O’Neill Institute for National and Global Health Law at Georgetown University Law School. Special thanks to my colleague and co-author, Susannah Camic. The article, Tax Credits for Health Insurance, can be found at www.oneillinstitute.org/projects/reform/Tax_Credits.html

2. A Simple Twist of Fate • Wage-Price Controls During World War II • Wages ≠ Employer Provided Health Care • A Kind and Gentle IRS • Employer Provided Heath Care ≠ Taxable Income • The Rest is History • Our employer-based system for providing group health insurance • A cautionary tale • Taxes do matter: housing, energy, cross-border capital flows

3. The Law of Unintended Consequences • More than 50 years later, we pay an increasingly high price for a well-meaning IRS • The exclusion for employer-provided health insurance is: • Very expensive • Very regressive • A primary driver of escalating health care costs • A primary cause for the vast and growing number of uninsured • Only politicians, special interest groups and the flat earth society deny these realities

4. The Road to Redemption • In brief: repeal the current exclusion and replace it with a system of progressive, refundable tax credits • Why repeal the exclusion? • It does many bad things and few good things (relative to viable alternatives) • It will raise lots of money • That money can help fund an administrable, progressive system that fosters universal coverage, enhances consumer choice, controls costs and does all sorts of other good stuff • Why progressive, refundable tax credits? • A more interesting and complicated question

5. General Response, Part 1: Goals for Health Care Reform • Among other objectives, the goals of health care reform include: • an administrable system • that achieves near-universal coverage • is made affordable through progressive subsidies • allows consumers to choose among transparent choices • controls costs through transparency, explicit and rational pricing, and (again) informed consumer choice • accommodates current and future policy design choices, and • avoids transition chaos by retaining the current employer-based platform

6. General Response, Part 2:Design Constraints • Subsidies will be progressive • The amount of subsidy will turn on income during the year and will be phased out at higher income levels • The amount of subsidy will vary based on family status • The amount of subsidy may vary based on conditions in local insurance markets • For some participants the subsidy will exceed income; for many participants, the subsidy will exceed tax liability • Some form of minimum coverage will be mandated • The insurance market will be heavily regulated (e.g., rules regarding pre-existing conditions; purchasing pools) • Private insurance markets will play a primary (or, perhaps, the only) role in providing coverage • A robust platform of employer-sponsored insurance will be retained

7. General Response, Part 3: Making It Work • Advocates will go back and forth, fiercely, on policy design – but whatever the outcome, the one constant will be truly staggering administrative challenges • We are talking really big • The policy will affect well more than one hundred million individuals and family units • We are talking really complicated • Determining who is eligible for how much subsidy (e.g., income, family status, location) • Changes in eligibility from year-to-year • Cash flow considerations • Compliance issues • Enforcing mandates • Policing “waste, fraud and abuse”

8. Administrative Solutions • The only existing infrastructure that can administer the system described above is the IRS • Universal platform and decades of experience: (i) gathering and processing information and (ii) collecting and disbursing funds • Substantially all stakeholders – individuals and families, employers, formally constituted market participants (e.g., purchasing cooperatives), and insurance providers – have reporting and financial dealings with the IRS under current law

9. Basic Framework • Employer-sponsored insurance • Employees choose from employer-offered plans • Employer reports fact of coverage and reports cost as taxable income to covered employees and the IRS • Back-up information reporting to the IRS by insurers • Worker claims credit (if any) to which he/she is eligible for the taxable year on return filed the following year • Structure permits, but does not require: • rules requiring employers to offer choices among at least a minimum number of plan options (subject to minimum coverage standards) (Fred’s view: a good idea) • rules allowing employees to opt out and purchase insurance elsewhere (Fred’s view: a bad idea) • rules requiring certain classes of employers (e.g., above a certain size) provide health insurance to their workers (Fred’s view: a bad idea) • Tax or other incentives encouraging employers to provide health insurance to their workers (Fred says: an ok idea) • A government-run insurance company (Fred’s view: a very bad idea)

10. Basic Framework (cont’d) • Group-Purchasing Pools • Licensed sponsors would offer plans to members of the pool • Participants would purchase policies though combination of cash payments and assignment of anticipated tax credits that would be redeemed periodically by pool sponsors, with reporting to the IRS regarding pool participants and to participants and the IRS regarding credits (if any) claimed by those participants • Similar reporting by insurance carriers • Participants would be required to report credits claimed during the year on returns filed the following year • Purchasing pools would be subject to certain rules (e.g., to prevent skimming and discrimination based on pre-existing conditions) and could be formed by: • Existing organizations (e.g., religious or fraternal organizations; groups of employers) • Organizations (purchasing cooperatives) newly formed for that purpose • Random assignment of individuals/families and/or groups to purchasing cooperatives

11. Basic Framework (cont’d) • Individual Insurance Market • Licensed carriers would offer plans to individuals/families • Buyers would purchase policies through a combination of cash payments and assignment of anticipated tax credits that would be redeemed periodically by insurers • Periodic reporting by insurers to policy holders and IRS regarding persons covered and the amount (if any) tax credits claimed by those covered • Participants would be required to report credits claimed during the year on returns filed the following year

12. Policy Goals • Achieves near-universal coverage through mandates that are made affordable through progressive subsidies • Consumer choice is enhanced both by (i) requiring those providing coverage (employers, purchasing pools, and insurers) to offer choices among different types of coverage, and (ii) permitting carriers to design alternatives subject to minimum coverage and other standards • Controls costs by making choices and costs explicit and by permitting/requiring insureds to participate in those choices and bear the costs • Accommodates current and future policy design choices (e.g., eligibility for and amount of subsidies; mandates; coverage standards; disclosure requirements; market participants; and regulatory standards) • Avoids transition chaos by retaining the current employer-based platform

13. Making It Work • Relative to any alternative, the system is administrable • Using the existing IRS infrastructure as the platform for administering a universal system with progressive subsidies: • dramatically reduces start-up and ongoing administrative costs • permits an annual, highly automated reconciliation process (compare, Massachusetts system requiring beneficiaries to notify local authorities whenever their status changes) • avoids imposing administrative burdens on state and local governments while allowing them to “piggy-back” on Federal infrastructure • By building on existing reporting, filing and payment systems, minimizes additional administrative burdens on other stakeholders (intermediaries, beneficiaries, insurers) • Using the IRS addresses year-to-year changes in eligibility and cash flow issues • A taxpayer’s cash payment obligation (if any) to the IRS during Year 2 for taxes accruing during Year 1 depends on bothher tax obligation (if any) for Year 1 and the amount of taxes she paid and credits to which she is entitled for Year 1 • Removes intermediaries (employers, purchasing pools, insurers) from liability for erroneous or false credit claims and associated enforcement costs and collection risks

14. Specific Challenges • Eligibility criteria: • System requires using information that is already collected, or can reasonably be collected (e.g., income vs. assets; family status) and can be verified through information reporting • Non-filers: • Many non-filers are currently covered by Medicaid and would therefore not participate in a subsidized private system (whether based on refundable credits or some other approach) • As a practical matter, low income individuals and families who would be eligible for refundable credits would have a strong incentive to file because their refundable credits would likely equal or exceed the costs of coverage • Problem is no more severe under this proposal than other approaches relying on progressive subsidies (and likely less so) • Either way, these folks have to be brought in to the system

15. Specific Challenges (cont’d) • Compliance • Compliance issues are substantially similar to those addressed by the IRS in other contexts for many decades • Comprehensive third-party reporting means that compliance rates (both with respect to mandated coverage and the proper claiming of credits) will likely be quite high (compared, for example, to the EITC) • The amount of the subsidy, the fact that is phased out, and its interaction with other Code provisions are such that collection issues arising from excess credit claims will likely be relatively manageable

16. Compared to What • A system that relies on progressive, refundable credits for the purchase of health insurance poses enormous challenges • The question, however, is compared to what? • The tax system provides an infrastructure that is far better than any alternative – and is sufficiently well developed to provide cause for cautious optimism • What’s in a name? • Tax deductions vs. tax expenditures • Means testing vs. taxing Social Security benefits • The 30% “grant (or is it a refundable tax credit ???) for investments in renewable energy projects

17. Political Considerations • President Obama: reaping the whirlwind of a brilliant campaign • Republican orthodoxy and refundable credits: muzzling Candidate McCain • The inevitable compromises [GAG] • End it or mend it (the exclusion)? • Here a cap, there a cap, everywhere a cap-cap • Payroll tax but no income tax exclusion • Enhancing the EITC • Adjusting brackets upward • When is a mandate not a mandate (sort of)? • If it’s limited to employers with lots and lots and lots of full-time employees in concentrated locations, employees cannot opt out of employer plans, and seasonal employers are excluded