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Income Verification On The Exchanges: The Broader Policy Picture



July 14th, 2014

The Affordable Care Act scandal de jour (or at least one of them) is the difficulty the exchanges have faced in verifying the eligibility of many premium tax credit applicants. Two Department of Health and Human Services Office of Inspector General Reports in early July documented the existence of these problems. One reported that as of the first quarter of 2014, the federal exchange alone had been unable to resolve 2.6 or 2.9 million data inconsistencies. Another reported that internal controls at the federal and two state exchanges were not fully effective in ensuring that individuals enrolled in exchanges were in fact eligible.

House Republicans claim that in fact there are 4 million data inconsistencies affecting half of all enrollments. In House Energy and Commerce hearings on June 10, 2014, Republican Representative Charles Bustany Jr. claimed that $44 billion in improper payments would be made over the next 10 years. Douglas Holtz-Eakin, a former Bush Administration official, who testified at the hearings claims that improper payments may equal $152 billion. The House Energy and Commerce Health Subcommittee is holding further hearings on data inconsistencies on July 16.

The seriousness of verification issues should not be overestimated. The administration has been put in place procedures to verify carefully premium tax credit applications. Many of the discrepancies CMS is attempting to resolve do not relate to income eligibility, and those that do may result ultimately in a finding of eligibility for increased, rather than decreased, premium tax credits. A discrepancy that could result in the need for additional documentation may be as trivial as a hyphen left out of a name or a digit transposed on a Social Security number.

Unfortunately, programs proposed by Republicans and other ACA opponents that in fact make a serious attempt to cover the uninsured will require income reporting and face similar difficulties. Current reform proposals that avoid coverage eligibility determinations will not in fact cover the uninsured. While the administration could have perhaps done a better job in making eligibility determinations, any means-tested program faces a similar challenge. It is possible to design a system that does not rely on means testing and could cover low-income and high-cost uninsured Americans, as I describe below. But it would be a very different system than the ACA or alternatives currently being proposed.

Challenges For Any Plan: Health Expenditures And Income Are Dramatically Unequal

Any program that seeks to extend health care to all Americans faces two immediate problems. First, health expenditures are dramatically skewed. In any given year, one percent of the population accounts for 20 percent of health expenditures, 5 percent for half of all expenditures. The least costly fifty percent of the population accounts only for 3 percent health care costs. If we are to cover the health care costs of the most costly Americans, we must find some way to move resources from those who use little health care to those who need much.

Second, the distribution of income and wealth in the United States is also dramatically skewed. In 2012, the 20 percent of Americans with the lowest income earned about 3 percent of total U.S. income, with a mean annual income of $11,490. The wealthiest 5 percent earned 26 percent of the nation’s income, with a mean annual income of $318,052. Wealth is even more unevenly distributed, with the top 5 percent controlling over 60 percent of the wealth and the bottom 80 percent only 13 percent.  With national health expenditures at $9000 per capita, it is obvious that some mechanism must be found to move resources from the haves to the have-nots, the healthy to the sick, if all are to have access to health care.

The mechanism that is used everywhere to move resources from the healthy to the sick is health insurance, public or private. Health insurance began in the United States in the 1930s. It expanded dramatically after World War II as the unions demanded and the tax laws subsidized employer-sponsored coverage. A majority of Americans are still insured through their jobs. Employment-based coverage is community rated within a group—employees pay the same premiums whether they are sick or well. Many employers offer lower-income full-time employees more or less the same coverage as offer higher-income employees; indeed federal law prohibits discrimination in favor of highly compensated employees, although the law is subject to many exceptions.

The tax exclusions and deductions on which employer-sponsored coverage is based, however, are very inequitable—the wealthy receive large public subsidies since their tax rates are higher, while individuals who are not offered employer-sponsored insurance or who are unemployed are denied assistance.

In the 1960s Congress created two public insurance programs to supplement employer-sponsored coverage: Medicare, for the elderly and disabled; Medicaid for select groups of poor people—the elderly, blind, disabled, and children, and in some circumstances low-income parents. Most non-disabled adults are not covered by these programs, however, and by 2010, nearly 50 million Americans were uninsured.

How the ACA moves resources from healthy to sick and rich to poor. The Affordable Care Act attempts to provide health coverage to the uninsured through several mechanisms. First, it moves resources from the healthy to the unhealthy by requiring insurers in the nongroup market to cover all applicants, regardless of health status, by guaranteeing availability and renewability and by banning preexisting condition exclusions. Insurers in the group market were already largely subject to these requirements. Nongroup and small-group market insurers are also prohibited from varying premiums based on gender or occupation and may only vary premiums based on age by a ratio of 1 to 3.

Second, the ACA moves resources to those who cannot afford health insurance by expanding Medicaid to cover all adults and children with incomes up to 138 percent of poverty; it also provides advance premium tax credits to individuals with incomes between 100 and 400 percent of poverty and cost-sharing reduction payments to families up to 250 percent of poverty. The ACA did nothing to provide coverage to 7 to 8 million individuals who reside in the United States illegally, but it offers an opportunity to obtain (and imposes a weak requirement to procure) insurance to virtually every other American.

One setback, of course, for this approach is that the Supreme Court in a literally unprecedented decision found a new Constitutional limitation on the power of Congress and gave the states the choice of opting out of the Medicaid expansion. This has left 4.8 million Americans in 24 states with incomes below 100 percent of poverty who are not eligible for traditional Medicaid without access to health care financing.

Coverage is more secure for lower and middle-income Americans with incomes above 138 percent of poverty (100 percent in states that are not expanding Medicaid). They may apply for premium tax credits, which are set at the difference between the cost of the second-lowest cost “silver” (70 percent actuarial value) plan in an individual’s market and a percentage of that individual’s modified adjusted gross household income, with the percentage growing on a sliding scale as household income increases.

The Problem Of Estimating And Reconciling Income

This approach creates a real problem, however, which has long been apparent. Premium tax credits are based on predictions of annual income. An applicant applying for coverage and premium tax credits in November of 2014 will have to estimate what his or her household composition and income will be for all of 2015. During the course of 2015, the individual will receive monthly premium tax credits based on this estimate.

If there are changes over the course of the year—a child is born or becomes independent, a couple divorces or is married, income increases or decreases—the individual must report the change. When tax filing time for 2015 rolls around in April of 2016, the amount of premium tax credits paid for each month in 2015 must be reconciled with the amount of household income actually received by the taxpayer in 2015 and the actual household composition.

This is under any circumstances a difficult task. But imagine the situation of many of the people who are eligible for premium tax credits: a waitress whose income is heavily dependent on tips, which vary from day to day and month to month; a laborer who mows lawns in the summer and shovels snow in the winter, but whose work on any given day is entirely dependent on the weather; a temporary staffer who sometimes has a placement that lasts for weeks, but other times goes for weeks without a placement. Most self-employed entrepreneurs (including many small farmers)—among the biggest gainers under the ACA—have little idea at the beginning of any year how it will turn out.

Fraud: an issue, but by no means the main problem. Of course, there is also the opportunity for fraud and misrepresentations. Underreporting of income and underpayment of taxes are serious problems throughout our tax system. The latest estimate of “tax gap,” between taxes owed and collected from 2006, was nearly $400 billion. Underreporting or underpayment of corporate income taxes accounted for $67 billion, and underreporting or underpayment of business income for $122 billion in that year. Many tax credits and deductions are granted by the IRS to individuals and businesses with no documentation whatsoever. By contrast, income reported in applications for premium tax credits must be compared by the IRS with previous tax filings, and claimed changes must be verified.

Negligent misstatements in applications for premium tax credits are subject to a $25,000 civil fine, and intentional misrepresentations can result in a $250,000 fine. Applications are made under penalty of perjury, and thus intentional misrepresentations are subject to criminal punishment. Fraud in applications for premium tax credits is more risky and more likely to be caught than fraud in reporting of business income or other claims for tax preferences. It is also likely to be less remunerative. But it is likely to happen to some extent.

But fraud is not our biggest problem. Individuals who underestimate their income, or fail to predict or report changes in household composition, may end up owing substantial repayments at tax filing time. There are limits on these, ranging from a maximum of $300 for individuals with incomes under 200 percent of poverty to $2,500 for families with incomes between 300 and 400 percent of poverty, but taxpayers who have the misfortune of receiving an end-of-the-year bonus that puts them over 400 percent of poverty must pay all their premium tax credits back, even though the credits were paid directly to the insurance company and not to the taxpayer. A taxpayer who correctly projected his or her income for the first ten or eleven months of the year, but ends up getting a substantial raise or a new job at the end of the year, may still end up owing money back, although absolutely without fault.

This “claw back” is going to cause serious difficulties for low-income taxpayers who find themselves owing money back with no way to pay it. Refunds, even earned income tax credit payments, which they were depending on to pay outstanding debts or make necessary major purchases, may disappear. Collecting overpayments will be a major headache for the IRS, which has been starved for resources in recent years by Congress. There will be a plethora of anecdotes of anguished poor families to keep the right-wing media rejoicing for weeks over the failure of Obamacare.

Of course, there are other problems with the use of a means-tested tax credit to pay for health insurance premiums. It imposes a very high marginal tax rate on low-income Americans, who will experience a rapid increase in what they must pay for health insurance (as well as diminished eligibility for food stamps, subsidized housing, and other benefits) as their income increases. It is likely to create a significant disincentive for individuals to work more hours or seek more remunerative employment, or even to marry (which merges two households into one, meaning that income is measured against the poverty level for two, which is lower than twice the poverty level for one).

But how do we avoid this situation? Is there a simpler, more straightforward, way of providing financing for those who need coverage?

Opponents of the ACA have yet to propose an alternative that works. A number of alternative proposals put forth by ACA opponents would, like the ACA, offer a means-tested tax credit to low-income Americans, albeit one that phases out faster and is less adequate than that offered by the ACA. This is true of the proposal put forth earlier this year by a group of Republican senators, as well as an earlier proposal from the House Republican Study Group. Like the ACA, these proposals would require reporting, documentation, and determination of annual household income, and likely a reconciliation process and oversight for fraud. The American Enterprise Institute offers perhaps the most complex program, with tax credits that would vary not only based on household income but also based on premiums charged by insurers, which would be health status underwritten. Implementation would be a nightmare.

Other Republican proposals avoid means testing, but in doing so fail to offer a solution that would in fact help lower-income Americans. One proposal offers a one-size-fits-all deduction coupled with elimination or limitation of current tax subsidies for employer coverage (and repeal of the ACA).   While a deduction could prove quite valuable to wealthy Americans in higher income brackets, it is of no use at all to Americans whose household income falls below the filing limit and is of little value to low- and middle-income American in low income tax brackets. A standard deduction would not begin to cover the cost of insurance for low-income Americans, who by definition lack the income and resources to pay for coverage without assistance.

Other plans propose a one-size-fits-all tax credit.  A uniform tax credit would be easy to administer, but if premiums are allowed to vary based on family size, age, and perhaps once again by health status, uniform tax credits would fall far short of what would be needed to cover health insurance costs for the vast majority of low-income Americans.   It would be far easier to administer our income tax system if we would simply divide the federal budget by the number of adult Americans and send everyone the same tax bill (about $14,250 for 2013). But the uniform tax would impose an impossible burden on many Americans but would be pocket change for others—and few would regard it as fair.

There are, of course, reasonably easy to administer approaches to financing health care. Many wealthy nations, such as Great Britain or Canada, provide health care through national or regional programs funded through general revenue funds. Others, like Germany or France provide health care through social insurance programs, funded much like Medicare in the U.S. It is clear, however, that the United States was not ready to embrace universal public insurance in 2010 when the ACA was enacted, and is even less ready today.  Public health insurance systems also have their own drawbacks, as the conservative media is quick to point out.

A Possible Way Forward

Although Republican proposals do not solve the problem of covering everyone without means testing, they do suggest a way forward. As a first step, employer coverage tax subsidies currently in place could be repealed. These exclusions and deductions would be replaced by a uniform tax credit that would be available to all American citizens and legal residents regardless of employment status. But the tax credit would cover the full cost of insurance coverage for all Americans. It would be sufficient to cover the full premium of, say, a 75 percent actuarial value plan.

All plans would have to cover a menu of essential health benefits and insurers would be prohibited from underwriting based on health status, gender, or other factors. Even underwriting based on age could possibly be eliminated if coverage were universal. The tax credit should be set above the level of the lowest-cost plan in the market to ensure choice, but not too much above that level to ensure competition—perhaps at 110 percent of the price of the lowest-cost plan. Individuals could opt for a lower actuarial value plan, as long as the actuarial value did not fall below 60 percent. Those who did could have the difference between the cost of their plan and the amount of the tax credit deposited in a health savings account to cover cost sharing. Individuals could also buy a higher actuarial value plan or plans covering additional benefits (such as adult dental or vision) using their own funds.

Individuals could choose to use their premium tax credit to purchase coverage either in the individual market or through their employer’s insured or self-insured plans. Since the amount of credits would be established based on the individual market, they might buy higher actuarial value plans or more benefits through employers. Employers could also pay for higher actuarial value plans or more benefits themselves, or they could charge extra premiums to employees. The current Medicare and Medicaid programs could be replaced by the single tax credit, although this would not be necessary and might not be politically possible.

The value of the tax credit would not increase with the income of the recipient, as does the current income tax exclusion. No means tests would be applied to determine eligibility. The individual mandate would no longer be necessary. No one would be compelled to accept the credit, but few would be foolish enough not to. How many now refuse their Social Security or Medicare benefits?

Means testing, with all its messiness, would still be necessary to reduce cost sharing for the lowest income enrollees.   Cost sharing beyond nominal levels is not permitted in Medicaid. Under the ACA, cost sharing is also significantly reduced for enrollees with incomes below 200 percent of poverty. Low-income Americans simply cannot afford the high deductibles or coinsurance imposed by even a 75 percent actuarial value plan, and to deny them cost-sharing assistance is to deny them care.

The number of individuals whose eligibility would need to be determined for these payments, however, would be much smaller than the number whose eligibility must be determined for premium tax credits. Cost-sharing reduction payments are not currently subject to reconciliation and pay back. This could continue to be the case. Determination could be made on a 12-month basis, subject to redetermination only if there were dramatic increases or decreases in income or changes in household composition. Because cost sharing only becomes an issue when relatively high-cost care is actually used, a much smaller amount of money would be involved.

Universal tax credits to finance health insurance would, of course, require significant increased public expenditures. Some of the cost could be covered by repealing the tax subsidies that currently apply to employer-sponsored insurance, which amount to $271.5 billion in 2014. Additional revenues, which would be substantial, could be raised through income, payroll, or even value-added taxes. They would replace current ACA premium tax credit expenditures as well as private health insurance costs and uncompensated care; thus, the total cost to the economy might be manageable.

Getting real politically. Even a proposal like this, however, which relies on Republican strategies to reach the Democratic goal of true universal coverage, is unlikely to gain supporters in today’s toxic political environment. For better or worse, we seem to be stuck for the foreseeable future with means testing for health insurance access programs. The best we can hope for is that technological improvements will make it work more efficiently.

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2 Responses to “Income Verification On The Exchanges: The Broader Policy Picture”

  1. Stan Dorn Says:

    I’m afraid I can’t agree with Mr. McCanne’s point. Low-income people will need more affordable coverage than the country can afford to provide all of its residents. Without subsidies, a Medicare-for-all system would poorly serve low-income people. That is why Medicare has many subsidy systems in place — dual Medicare/Medicaid coverage for the very poorest seniors and people with disabilities, along with Medicare Savings Programs (MSPs) for those with incomes too high to be “truly duly,” and Low-Income Subsidies for Medicare Part D. All of these have struggled to reach their intended beneficiaries, with some research finding, for example, that MSPs enroll less than a third-of their intended beneficiaries.

    Single Payer, like Managed Competition and other beautiful visions for a simplified and radically changed American health care system, remind me of that wonderful song, “From a Distance.” Viewed in the abstract, from a distance, we will all have enough, everything will be wonderful. Alas, viewed up close, a lot of small stuff must be sweated to make any system or non-system work, and it takes much longer to make any change work effectively, at much greater administrative cost, than anyone ever expects.

  2. Don McCanne Says:

    Although the nation’s attention is diverted to the implementation of the Affordable Care Act, single payer should always be included in the conversation. Most of the complexities that Professor Jost describes would be essentially eliminated by enactment of a well designed single payer system.

    The policy community continues to dismiss single payer because of the lack of political feasibility. That is not a reason to dismiss it from the national dialogue on reform. If people had a much better understanding of the policies, the politics would eventually become aligned with the more beneficial policies of single payer. Medicare and Social Security are cases in point, though Medicare would be replaced with a single payer system.

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