CRS: Tax Options for Financing Health Care Reform

The Congressional Research Service has released Tax Options for Financing Health Care Reform (R40648), by Jane G. Gravelle.  Here is the Summary:

Several tax options have been proposed to provide financing for health care reform. President Obama has proposed restricting itemized deductions for high income taxpayers, along with some narrower provisions. The Senate Finance Committee has provided a list of options for healthrelated tax provisions. Individuals testifying at a round-table discussion have also proposed a number of other options, including some new revenue sources. The Ways and Means Committee has proposed a plan relying largely on additional income taxes for higher income taxpayers.

These provisions differ in their potential revenue gain, and behavioral and distributional effects. Some proposals are progressive (imposing higher relative burdens on higher income groups), some impose larger relative burdens on lower income families, and some tend to fall on middle class groups. The distributional analysis, however, relates only to finance: the total health care program may redistribute in favor of lower income families even if the revenue sources do not.

Limiting tax benefits from the exclusion of employer-provided health insurance, part of the Senate Finance Committee's options, has a significant revenue potential (it is estimated to cost $132.7 billion in income tax revenues and $93.5 billion in payroll tax revenues for 2008). The income tax exclusion is often criticized as favoring higher income taxpayers, but the burden of an across-the-board exclusion tends to fall proportionally more on the middle income classes. The exclusion encourages group health coverage (generally desirable due to adverse selection where less healthy individuals wish to insure), but encourages too much insurance coverage that drives up the costs. Caps on the exclusion might contain costs without much coverage reduction.. There are equity issues; without adjustments employees in older groups will have larger income tax imputations for the same coverage. The options paper also reviews other health-related tax provisions, such as the itemized deduction for medical expenses, health savings accounts, flexible spending accounts, the treatment of Blue Cross and non-profit hospitals, and others and discusses increases in alcohol taxes and a tax on non-diet sweetened beverages. Both of these excise tax proposals are regressive (burden lower income individuals relatively more).

Limiting tax savings to 28% of itemized deductions for the top two brackets is the centerpiece of the President's health reform tax proposals. This provision, which would initially raise about $25 billion, is highly progressive, falling on the top 2% of the income distribution. The major issue raised about this proposal is the potential reduction in charitable giving, but several analyses have suggested this effect would be negligible. The President has a number of other narrower proposals aimed at compliance and perceived loopholes that together raise around $6 billion.

The major proposal by the House Ways and Means Committee (H.R. 3200) is a high-income surtax of 1% on income between $350,000 and $500,000, 1.5% on income between $500,000 and $1,000,000 and 5.4% on income above $1,000,000 (income levels are 80% as large for singles). The proposal would initially raise over $30 billion per year. The two lower surcharges would be increased in 2013 (unless enough health care savings occur). One concern that has been raised about this surtax is the effect on small business, entrepreneurship, and job creation; however, much of this income is passive income or income of professions (e.g., stockbrokers, doctors). It could be excluded. The proposals also include some narrower, largely corporate provisions.

Witnesses in a round table discussion held by the Senate Finance Committee also discussed a number of other options including other base broadening provisions as well as rate increases for the individual income tax, increases in payroll taxes, and new revenue sources such as a value added tax (VAT) and a cap and trade auction system for carbon emission permits.