The Senate Finance Committee is now considering a proposal that would impose an aggregate tax of $6.7 billion dollars per year on “any U.S. health insurance provider,” in proportion to market share, whether for profit or not for profit, but not on employers who “self fund” their employees’ coverage.

About 160 million Americans have private health coverage through employment, 55% or 88 million of whom receive their coverage through employer “self funded” arrangements. “Self funded” means that the employer is the insurer.  Employers hire “administrative service providers” (often just an arm of an insurance company) to process the claims, but they write the checks to providers on the employer’s bank account. Government actions are biased in favor of self insurance: employers avoid taxes on insurance and costly state benefit mandates. Self funding is concentrated among large employers who can bear the risk of health care costs.  In 2006, 89% of employers of over 5000 self insured, compared to 13% for employers of less than 200.

The tax would fall heavily and disproportionately on small employers who need to buy coverage from insurance companies, about 72 million people, plus another 17 million individuals who buy their own insurance. The tax will surely be passed through to the policy holders or their employers. It will be paid by 89 million insured Americans at a cost of about $75 per person per year.

What’s wrong with this picture?

Tilting The Playing Field Against The Innovators

First, the burden will fall on all insured plans, including those affiliated with the iconic non-profit integrated delivery systems like the Marshfield Clinic’s Health Security Plan in WI, Geisinger Health Plan in PA, Harvard Pilgrim Health Care and Fallon Community Health Plan in MA, Scott and White Health Plan in TX, Group Health Cooperatives in WI and WA, Intermountain Health Care in UT, and Kaiser Permanente in 8 states and D.C.  The President and leaders in Congress have praised some of these delivery systems for providing better care at less cost. But these organizations compete in employment groups with the employers’ self-insured plans.  So this tax will tip the balance in favor of the self-insured plans. And it will lead them to shift more of their business to fee-for-service.

For example, at Stanford University, we offer employees a choice among 3 fully insured HMOs and two preferred provider fee-for-service (FFS) plans that are self-insured. The University pays for the low priced plan and employees who prefer something higher priced must pay the full difference. This provides a rational incentive to make an economical choice. Consequently, about 80% of our employees have chosen the less costly HMOs in which doctors are generally paid salaries and the medical groups are paid fixed amounts per covered member per month. In fact, since Stanford University pays for the low priced plan, the tax will end up falling on the University but — get this — only for those employees who have chosen more efficient plans! The same will be the case for the University of California.

What’s wrong  is that employer-based self insurance is invariably fee-for-service (FFS), the method of payment of providers increasingly found to be inflationary and a cause of cost increases.  For example, a Special Commission on the Health Care Payment System in Massachusetts recently concluded, “FFS rewards overuse of services, does not encourage consideration of resource use, and thus cannot build in limitations on cost growth.  FFS does not recognize differences in provider performance, quality or efficiency and thus does not align with evidence-based guidelines or outcomes.”  The Commission concluded that alternative methods of payment in which providers share risk of the cost of care are needed to provide the necessary incentives to coordinate care and use resources wisely.

Providers sharing risk in the cost of care has not happened and almost surely will not happen in the context of employer self insurance.  State laws generally don’t allow these kinds of progressive provider payment arrangements in the case of self insurance.  So the tax will fall on just the insurance plans America needs to develop new payment methods with incentives to use resources wisely.   In fact, the taxes will fall heavily on the programs based on per capita prepayment, just the method the Special Commission in Massachusetts concluded was the best solution to the need for cost containment.

Practically all taxes distort economic incentives to some extent, but this proposed tax is particularly perverse. Instead of promoting pre-payment and integrated care with the right incentives, the best long-term strategy for keeping coverage affordable, this policy moves us in the wrong direction, toward fee-for-service care.

A Better Alternative If More Revenue Is Needed: Expanding The Excise Tax On High-Cost Insurance

Revenue is needed to cover the uninsured.  The Chairman’s Mark was right, even courageous, to propose an excise tax on high-cost insurance. That would motivate people to look for less costly alternatives, thus encouraging the development of less costly systems of care. The excise tax is needed to correct the bias in the tax code in favor of more costly health insurance plans.   And this tax does appear to apply equitably to both fully insured and self-insured plans. 

If it proves to be absolutely necessary to raise revenue by taxing part of health insurance, it would be better to lower the thresholds at which the excise tax on high-cost insurance would apply, thus strengthening the incentive to choose economical care. That would help drive the transformation of American health care into high value systems.

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