Ezekiel Emanuel recently published an article in the Washington Post in which he criticized the health-care reform plans offered by Republican presidential candidates Scott Walker and Marco Rubio. Emanuel seems to think he exposed the fatal flaw of these plans. What he actually revealed, however, is that he does not understand what these GOP candidates are proposing or how the provision of employer-sponsored health care works in a competitive labor market.
Emanuel’s argument is that the Walker and Rubio plans would ultimately eliminate the federal tax preference for employer-paid health-insurance premiums and provide in its place a federal tax credit that is woefully inadequate. He claims that these tax credits would leave many middle-class families paying several thousand dollars more for their health insurance than they do today.
His first error occurs because he does not understand the plans offered by Walker and Rubio. He is correct that Senator Rubio proposes a ten-year phase-out of the tax preference for employer-paid premiums, with a refundable tax credit gradually taking its place. But that same concept is not in the Walker health-care proposal. Governor Walker proposes to leave job-based health plans intact and as is, and in fact would lower the costs of employer-sponsored plans by eliminating the many rules and requirements of the Affordable Care Act (Obamacare). The tax credits Walker offers are for people who do not have access to employer coverage.
Walker does propose to place an upper limit on the federal tax preference for employer-paid premiums, as economists from across the political spectrum recommend. But this upper limit would grow over time and thus would not in any way eliminate the incentive for employers to continue offering their plans.
Indeed, middle-class workers with good job-based insurance today have more to fear from Obamacare than from the Walker plan. For starters, Walker’s upper limit would be a more rational, and progressive, substitute for the “Cadillac” tax already imposed by Obamacare. Under the “Cadillac” tax, beginning in 2018, firms will pay a 40 percent excise tax for premiums exceeding a threshold (set initially at $10,200 for individual coverage and $27,500 for a family plan). The Walker plan would replace this tax with an upper limit on the exclusion of employer-paid premiums from taxable income (the dollar amounts have not yet been specified). Above this upper limit, premiums paid by firms on behalf of their workers would count as taxable income to the employees. This tax would therefore affect higher-income households more than the middle class.
Further, the “Cadillac” tax also will hit many more job-based plans over time because, after 2019, the thresholds are indexed to the consumer price index, not health-care costs or even economic growth. As premiums rise for employer plans, more and more of these employers will find it difficult to avoid breaching the “Cadillac” threshold, which will probably lead some of them to stop offering plans to their workers.
Emanuel adds to the confusion by fundamentally misrepresenting how employer coverage is financed. He notes that the average premium for family coverage offered by employers is about $16,800. If the employer pays 100 percent of this premium for an employee, the entire premium is excluded from the taxable income of the worker. This is in contrast to cash wages, all of which is subject to both income and payroll taxes. The exclusion of this premium from taxable income implies a federal tax break of about $6,720, assuming that the worker is in the 25 percent income-tax bracket (the payroll tax brings the total effective tax rate to about 40 percent).
Beyond this tax subsidy, where does Emanuel think the rest of the money comes from? The economists at the Congressional Budget Office (CBO), and every other academic institution for that matter, could have told him that in a competitive labor market, it comes out of the total compensation an employer is willing to pay the employee. So, for instance, if a worker is valued at $75,000 by a firm and health insurance costs $16,800, then the firm would be willing to pay this worker $58,200 in a salary. In short, the employer doesn’t pay the premium, the worker does.
This is the reason that rising health-care costs have been eating into pay raises for many workers over the past two decades. As employers have devoted a higher percentage of the total compensation package for employees to health insurance, they have had to constrain wage increases to keep the total within the amount that allows them to stay competitive in the marketplace.
So it is just plain wrong to suggest, as Emanuel does, that workers would be stuck with thousands of dollars in higher premiums under a plan like the one proposed by Rubio. The truth is, workers are already paying thousands of dollars in premiums in the form of foregone wages. Obamacare did nothing to change this fact, by the way.
Indeed, most middle-class workers are likely to come out ahead under a plan like the one proposed by Rubio. He has not yet said what value he would place on the refundable tax credits he proposes, but, assuming a credit of $6,000 for a family policy, that is likely to be much higher than the average tax subsidy for employer-paid premiums today. Moreover, the consumer could use this tax credit to purchase any plan he could find in a more deregulated marketplace, not just the one-size-fits-all plans offered under Obamacare. Consumers could use their credits to stay enrolled in an employer-sponsored plan, or they could buy coverage on their own. Many would probably opt for less expensive policies without all of the added benefits they do not need or that they would rather pay for out of pocket rather than through insurance premiums.
Under Rubio’s plan, it is possible that some employers would stop offering their health plans as more employees opted to use their credits to buy coverage on their own rather than through their place of work. But that does not mean these workers would lose the value of employer-paid premiums. CBO and other credible economists assume that in a competitive labor market, employers will substitute cash compensation for reduced employee health benefits. So, for instance, if a firm used to provide a worker with a $16,800 health-insurance plan and $58,200 in the form of a salary, it would provide that same worker with $75,000 in a salary if the worker used the federal tax credit to purchase health insurance on his own.
In this example, the worker would pay $6,720 more in taxes on the additional cash compensation he received, leaving him with about $10,080 in additional, after-tax income. He would also get a $6,000 federal tax credit to be used for the purchase of health insurance. If he bought a health-insurance plan worth $12,000 instead of $16,800, he could pay for it with his $6,000 tax credit and $6,000 out of his higher salary. He could then use the other $4,080 in after-tax income that he would be receiving from his employer to pay for whatever other important priorities he might have, including better opportunities for his children.
Emanuel is correct that Obamacare provides massive new subsidies for lower-income households who do not have access to an employer plan. Neither the Walker nor the Rubio plan provides subsidies that are as expensive as those provided in Obamacare for households in these income categories. But the middle class is different. Obamacare phases out the premium credits as incomes go up, but these higher-income households are still forced to select from the same, overly expensive plans offered on the exchanges. People with incomes above about 250 percent of the federal poverty line (FPL) have found these options very unattractive, in large part because their premiums are so high. In fact, of people with incomes between 250 and 300 percent of the FPL who are eligible for coverage through Obamacare exchanges, only 20 percent have signed up for coverage in 2015.
Rubio’s plan provides a uniform refundable tax credit for every household, without regard to income, and Walker’s plan does the same for households without access to employer coverage. So both of these plans provide much more help for many millions of middle-class families than Obamacare does.
Emanuel would like Americans to dismiss the Walker and Rubio health plans as too onerous for families because they would lose the value of employer-paid premiums. He is dead wrong about that. The truth is that these alternatives would give consumers much more flexibility and more choices than they have under Obamacare, without losing anything in terms of the compensation they receive from their employers. The net result would be a big win for the vast majority of American households.
James C. Capretta is a senior fellow at the Ethics and Public Policy Center and a visiting fellow at the American Enterprise Institute.