Should employer-provided health insurance be tax-free?

employer provided insurance tax-freeAt the intersection of tax and health care reform lies a number of controversial issues. One issue, which many shy away from talking about, is whether employer-provided insurance should remain tax-free.

About 57 percent of all Americans under age 65 get their health insurance through their employers. But few workers are aware that premiums for employer-provided insurance are excluded from federal income and payroll taxes, an arrangement that cost the government more than $250 billion in 2016.

Employers must decide.  Bigger raise?  Better health plan?

As Yevgeniy Feyman and Charles Blahous, in PBS Newshour, point out,

the tax preference reduces workers wages and federal revenues. A worker’s compensation from his employer consists of more than just his cash wages. Indeed, total compensation includes fringe benefits like health insurance, paid time off and retirement plans. Offering a tax break for one form of compensation over another tilts the incentives facing both employers and workers.

In other words, you could be getting a bigger raise. When your employer debates how best to reward you for your hard work—give you a raise? improve your health plan?—it’s financially beneficial to provide more health coverage. The result? Many of us are overinsured.

A bigger issue is the fact that the tax code is simply unfair. Why should the code favor people who get their health insurance through work over those who buy it on their own?

The health care bills debated this past summer floated the idea of eliminating the employer-provided tax benefit. But those bills went nowhere. And the Obamacare “Cadillac tax,” which attempts to reduce the overly generous employer plans, keeps getting kicked further down the road

Companies and workers like it the way it is

Employers, of course, want things to stay the same. And, for the most part, so do workers. In a 2015 survey, 89 percent of employees regarded health coverage as just as important as salary.

What to do? Simply eliminating the tax deduction would be disruptive. Phasing it out over time or, perhaps, setting a cap on the deduction at some threshold, might work. Rick Lindquist, CEO of Zane Benefits, envisions a future where employers might provide a fixed amount of tax-free reimbursement for health insurance and let employees find a plan that best suits them.

Regardless, the massive amount of federal revenue foregone probably means that the employer tax subsidy is in for a change. Let’s hope the solution is mindful of people’s wish for health care coverage they can count on. Many believe they already have it.

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