The Magazine

Put the Patient in Charge

Repeal Obamacare, level the playing field, and bend the cost curve (really!).

May 24, 2010, Vol. 15, No. 34 • By PETER J. HANSEN
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Amazingly, Obamacare will probably make it impossible to purchase the sort of policy my family has, through its requirement that insurance policies maintain a minimum “actuarial value” of 60 percent. This means that insurance must cover at least 60 percent of the total medical expenses incurred by a “standard population” with such a policy. At this point nobody knows exactly what a “standard population” is or how the phrase will be interpreted, but our policy probably will not come close to meeting this requirement, since most of the time people with such a policy pay their medical expenses out of pocket, and their insurance covers them only when something bad happens. Under Obamacare my family will therefore be forced to spend much more on insurance, and with less of what we spend on health care coming out of our own pockets, we will have less incentive to shop frugally than we do now. This is one of many ways in which Obamacare will indeed “bend the cost curve,” but in the wrong direction.

Of course many people cannot afford $10,000 in out-of-pocket expenses. Most Americans, however, can afford $1,000 or $500. Even deductibles at this level would cause a huge reduction in administrative expense and more intelligent consumption of health care. Some people do have policies with deductibles in this range, but more common are policies with partial co-payments up to a certain amount, which do not produce the same incentive to limit spending. We all tend to feel we should take advantage of something if we don’t have to pay the full price for it. 

The current system encourages us to feel that we shouldn’t have to pay for our health care, that our insurer or employer or the government should do so. This elaborate cost-shifting is hugely inefficient, and if we take into account its indirect effects (notably lower wages), we are much worse off because of it. But this raises an obvious question. If having a high-deductible policy where one pays most expenses out of pocket enables people to spend less for equivalent or better care, why don’t more people do it? Why has the market produced the system we now have? The answer is the preferential tax treatment given to employer-provided health care. Employers pay their employees’ health care costs with pre-tax dollars, so employers and employees have an incentive to agree upon complete coverage through employer-provided insurance rather than higher wages on which employees must pay taxes. 

One policy change our country needs, therefore, is to end the preferential tax treatment given to employer-provided health care. In 2008 John McCain proposed one way of doing this: by eliminating the deductibility of employer-based health plans. This proposal did not exactly catch fire with the electorate. Another way of doing it would be the opposite: by extending deductibility to all health care purchases—of health insurance, the services of licensed practitioners, and medical products, whether by corporations for their employees or by individuals for themselves and their families. This would be much fairer than the current system to people whose employers don’t offer insurance, and it would give them an incentive to buy insurance on their own. 


 

Once all health care costs are on a level playing field with regard to taxes—deductible from both income and payroll taxes—people will no longer have an incentive to buy, or to seek from their employers, insurance policies that cover every routine procedure or trip to the doctor. They will start to shop around, both for cheaper insurance and for providers who offer good value and whom they trust. Every consumer of health care will have a personal interest in controlling costs.

How would this work? For the most part, the current system would remain in place. The only immediate change from health care providers’ point of view is that every year at tax time they would send their patients a summary of all expenses the patients had paid out of pocket. This would enable taxpayers to determine the deduction they should claim in calculating their taxable income. People would be reimbursed for any income, Social Security, or Medicare taxes paid in excess of what they owe once their health care costs are taken into account, and they would be reimbursed for the employer’s portion of the excess payroll taxes they have paid as well as their own share. Thus a couple with an income of $90,000 who paid $8,000 for health insurance premiums and out-of-pocket health care expenses would owe income and payroll taxes on $82,000, not $90,000. Any payroll taxes withheld on that $8,000 would be reimbursed as part of their federal tax return. 

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