Michael Barone: “Health Care 401(k)s,” and the Key to Their Continuance

Barone wrote a brilliant column on this idea yesterday:

The Medicare/prescription drug law of 2003 contained provisions allowing health savings accounts — one reason the Bush administration and most congressional Republicans supported it. Now the administration wants to strengthen HSAs by making premiums on these policies tax-deductible.

This is an attempt to reverse the effect of the World War II decision to make health insurance policies deductible to employers and tax-free to employees. This tended to tie health insurance to employment and has made individuals dependent on large organizations. Since third parties pick up the tab for most health care spending, consumers tend not to be cost-conscious, and the result has been above-inflation cost increases for health care.

The Bush administration, like all before it, shies away from urging that health insurance premiums be taxable — voters would hate that — and instead is trying to level the field by making all premiums deductible. There’s an argument that this is regressive, because the tax deduction is worth more to high-income taxpayers. But that’s true of all tax deductions, and can be compensated for by giving lower-income people deductible tax credits.

Will health savings accounts be an entering wedge to produce a more market-oriented health care sector? Democrats fear that, and Republicans hope so. I confess that I am not sure. What is clear is that health savings account-type policies have been rapidly growing since passage of the 2003 act. There are now 3 million people with health savings accounts, and big employers in increasing numbers are offering high-deductible policies. The employee gets to choose whether to pay more for more coverage or to pay less and be able to keep what he doesn’t spend.

Of course, the health care sector will never be entirely market-oriented. Emergency patients on gurneys can’t make cost-conscious decisions, and the poor will receive care that will in some way be subsidized by others. But health savings accounts have been spreading more rapidly since the 2003 Medicare act than defined-contribution pensions did after the 1978 tax act.

The New Deal and the World War II years produced policies that left people dependent on large organizations — organizations that, we now learn when we contemplate the problems of steel pensioners or Social Security recipients, don’t always deliver. Public policies like Section 401(k) and, perhaps, health savings accounts give more control to individuals and more flexibility to society.

The Clinton health care plan failed in part because we do not have one health care finance system, but many — and it is impossible for even very smart people to design a one-size-fits-all model that will be politically acceptable. The Bush administration’s push for health savings accounts is an attempt to change things not by government mandate, but by opening the way for private actors — employers, employees, insurers, individuals — to make decisions that will increase the power of market forces. Not a headline issue, but an important one.

Many people forget, or don’t know, that the 401(k) plan can be considered the greatest tax loophole of all time:

(It was) a tax-advantaged savings plan the U.S. government didn’t mean to create.

It was a quiet Saturday afternoon back in 1980 when Benna first got the idea for a new plan. He was working on revamping a bank’s cash-bonus plan at the time and knew that paragraph (k) of Section 401 in the tax code had gone into effect that year to give legal stature to savings arrangements already in place.

At the time it was common for employees to be given the choice to defer half or all of their non-salaried compensation, often bonuses, into a company’s cash-deferred profit-sharing plan.

Section 401(k) essentially gave the definitive go-ahead for that type of tax deferral. But Benna suspected its provisions could be interpreted more broadly. He figured instead of employers putting up money and giving workers the choice to defer, why not let employees defer part of their own salary pre-tax and get an employer match as incentive, particularly for low-paid employees.

“I was stretching the law to suit the design I came up with,” Benna said.

In 1981, several months after Benna designed his first 401(k) plan for his employer, Johnson Cos., the IRS issued proposed regulations on Section 401(k) that officially sanctioned pre-tax salary reductions.

In essence, the IRS made it more straightforward for an employer to provide a salary-reduction savings plan with tax incentives for employees, said Dallas Salisbury, president of the Washington-based Employee Benefit Research Institute (EBRI).

The pre-tax protection of income was a boon given the high marginal tax rates at the time and the fact that one could contribute more to the plan than to an IRA.

There was actually pressure to repeal 401(k) plans in the mid-1980s, but soon it was too late for opponents to even try a repeal. Too many people (i.e., voters) had accounts, and liked them.

It would be nice to think that once enough people have health savings accounts, no politician in his (or her-ahem) right mind, not even those who fantasize about Canadian style nationalized health care, will dare to try and take them away.