How does the employer-sponsored insurance exclusion affect health insurance coverage?
It modestly increases health insurance coverage, but the benefit is poorly targeted.
Health insurance exclusion modestly increases health insurance coverage
In 2015, 84 percent of private-sector employees worked for companies offering employer-sponsored health insurance (ESI), and 57 percent of the nonelderly population were covered by ESI as policyholders or dependents.
One reason so many people are covered through their employers is that ESI benefits are excluded from taxable income. The exclusion reduces workers’ tax bills, which lowers their after-tax cost of insurance. However, there are other important reasons for the prevalence of ESI, including low administrative costs and the benefits of risk pooling across groups of workers.
Research examining how marginal tax rates correlate with the portion of employers offering ESI suggests that large and medium-size employers are not very sensitive to changes in after-tax insurance costs. That’s why simulation models find that eliminating the ESI exclusion would only modestly affect coverage. According to the Congressional Budget Office (CBO), estimates that do not include the effects of the Affordable Care Act (ACA) show that eliminating the ESI exclusion would reduce the number of insured by 6 percent. CBO estimates that though ESI coverage would decline by 15 percent, the number of people covered by private nongroup or public coverage would increase by 16 percent, offsetting a portion of that decline (figure 1).
The ACA’s health insurance exchanges, related subsidies, and Medicaid expansion have increased the attractiveness of private nongroup and public coverage. Low- and moderate-income families may qualify for premium credits or expanded Medicaid, and the exchanges give families access to savings associated with stable risk pools and lower administrative costs. When taking into account the new exchanges, subsidies, and expanded Medicaid under the ACA, the CBO finds that eliminating the ESI exclusion would result in significantly more shifting from ESI to non-group/public coverage. However, the number of insured would still decrease by only 6 percent.
Health insurance exclusion is poorly targeted
Because low-wage workers are less likely to have the option of ESI, and because the benefit of the exclusion increases with workers’ marginal tax rates, ESI is worth more to the higher-income families who would be more likely to purchase insurance in the first place. In 2015, less than 30 percent of families in the bottom income quintile were offered ESI; for them, the average benefit of the ESI exclusion was less than $10 (figures 2 and 3). In contrast, nearly 90 percent of families in the top quintile have ESI offers and the average benefit is almost $3,200.
Replacing the exclusion with a refundable tax credit that could be used for either ESI or nongroup insurance would provide low- and moderate-income families with more benefits. Families without ESI would benefit, and converting the tax deduction to a tax credit would mean that everyone with a given level of insurance could claim the same subsidy. Simulations show that better targeted health insurance subsidies could increase coverage for the same total cost.
Agency for Healthcare Research and Quality. Medical Expenditure Panel Survey. Table I.B.2(2013). “Percent of Private-Sector Employees in Establishments That Offer Health Insurance by Firm Size and Selected Characteristics: United States, 2013.”
Urban-Brookings Tax Policy Center. “Microsimulation Model, version 0515-1.”
Burman, Leonard E., and Jonathan Gruber. 2005. “Tax Credits for Health Insurance.” Tax Policy Center Issues and Options Brief 11. Washington, DC: Urban-Brookings Tax Policy Center.
Congressional Budget Office. 2013. “Reduce Tax Preferences for Employment-Based Health Insurance.” Options for Reducing the Deficit: 2014 to 2023, Option 15. Washington, DC: Congressional Budget Office.
———. 2014. “Coverage Effects of Limiting the Tax Exclusion for Employment-Based Health Insurance.” Presentation at the Fifth Biennial Conference of the American Society of Health Economists, Los Angeles, CA, June 22–25.
Gruber, Jonathan. 2011. “The Tax Exclusion for Employer-Sponsored Health Insurance.” National Tax Journal, 64(2, part 2): 511–
———. 2008. “Tax Policy for Health Insurance.” NBER Working Paper 10977. Cambridge, MA: National Bureau for Economic Research.
Kaiser Commission on Medicaid and the Uninsured. 2015. “Health Insurance Coverage in 2013: Gains in Public Coverage Continue to Offset Loss of Private Insurance.” Menlo Park, CA: Henry J. Kaiser Family Foundation.