Is Pay-or-Play Penalty a Tax?
President Obama is under attack for breaking his campaign promise to leave the middle class unscathed by future tax increases. The complaint: The requirement to purchase insurance is tantamount to a tax, because failure to buy incurs a fine. Since many families with incomes below $250,000 would be affected by the penalty, this appears to violate his campaign promise.
Given our financial problems, his campaign promise to exempt 95 percent of Americans from responsibility for deficit reduction was reckless and ill-advised. But the pay-or-play penalty is really a user charge, not a tax.
Here’s why. Under the proposals being considered by Congress, individuals will, for the first time, be guaranteed access to insurance. Everyone in a given age class will be able to buy insurance for the same price in their market, regardless of pre-existing conditions. This corrects a major flaw in the current market. But, for it to work, almost everyone needs to participate. And that is why a penalty is necessary.
But pay-or-play is more than a penalty for “free riders.” In the new market, individuals who opt to be uninsured will be getting something very valuable: access to insurance when they become ill. What is that worth? In 2004, the average healthy 35-44 year old spent about $2,300 on health care (including the part paid by insurance), based on data from Medical Expenditure Panel Survey (MEPS). An unhealthy person of the same age spent 6 times as much ($13,800) on average, and is often denied coverage entirely.
We don’t know what premiums would be in the new reformed health insurance marketplace, but the MEPS data allows for ballpark estimates (ignoring the overhead and marketing costs of insurance). Suppose everyone in a given age class pays the same premium regardless of their health status—as would be true under all the major congressional reform proposals. The average 35-44 year old spent about $2,800 (because most are very healthy) in 2004. So, the difference between the community-rated premium and the risk-adjusted premium for comprehensive insurance would have been something like $500. . The extra $500 is basically the cost of access to insurance when you get sick
Because health expenditures increase with age, older workers would see even bigger differences. A healthy 55-64 year old spent about $4,500 on health care in 2004, compared with an average of $6,500. Thus, her cost of access to insurance would be about $2,000. In fact, since people can’t predict their future health status, the value of guaranteed insurability is even greater because having insurance eliminates a major source of risk.
In that context, the $750 penalty on individuals who fail to buy insurance in the Senate Finance Committee bill looks like a reasonable premium to pay for guaranteed access to coverage.
Of course, pay-or-play is a little different from user fees for national parks because you can choose to skip the trip if you think the fee is too high, whereas the insurance penalty would be mandatory (except for those covered by a hardship exemption). However, if you don’t go into Yellowstone, you miss Old Faithful, whereas everyone benefits from guaranteed insurability whether they pay for the option or not. In that context, it seems reasonable to charge everyone for the benefit.
There are some problems with the proposal. Penalties should compensate insurers for covering previously uninsured people with health problems. The insurance industry is correct when it says too many people are exempt from the Finance panel’s penalty. And the subsidies are too small to allow many middle-income people to be able to afford insurance.
But pay or play is not a violation of the campaign promise.
For more on the distinction between user fees and taxes, see Eric Toder’s excellent Talmudic discourses on TaxVox a few weeks ago, here and here. Also, see the Urban Institute Health Policy Center's careful analysis of how premiums might vary by age in the reformed marketplace under different assumptions.
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Definitely a tax in my opinion . . . it adds more money to what the middle class has to pay. That is definitely a break of promises in my opinion.
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So the risk of being underinsured is left to those that know least of all about insurances.
I agree. I am an estate planning attorney in Illinois and one tax that will majorly impact the middle class is the estate tax. No one talks about that tax, but as of midnight on December 31, 2010, it will effect millions of taxpayers. Find out more by contacting our law firm at http://www.sivialaw.com. President Obama you should be ashamed of yourself.
The Internal Revenue Code imposes many different kinds of penalties, ranging from civil fines to imprisonment for criminal tax evasion.
If you do not file your return and pay your tax by the due date, you may have to pay a penalty. You may also have to pay a penalty if you substantially understate your tax, understate a reportable transaction, file an erroneous claim for refund or credit, or file a frivolous tax submission. If you provide fraudulent information on your return, you may have to pay a civil fraud penalty. More Info.
>AMTbuff, I don't see the constitutional issue, although I'm not a lawyer. Congress imposes penalties all the time on those who violate regulations. Why would this be different?
I'm not a lawyer either. Criminal penalties are allowed, but does the Constitution allow Congress to make it a federal crime to fail to buy insurance? If so, there are no practical limits on the power of Congress.
OSHA rules are sometime controversial, but you have to be in business before you are subject to them. Forced insurance purchase as a condition of citizenship? I doubt the Founders would have approved of this major imposition of a formerly private decision. What about that right to privacy?
All the above is legal formalism, I suppose, because the government can instead just tax everyone and then buy health insurance or health care for everyone. That's how most other developed countries do it, and there would be no new Constitutional issue.
Could it be that proponents plan know that the current plan is not constitutional and plan to switch to a tax-funded arrangement when the Supreme Court strikes down the individual mandate?
>AMTbuff, I don't see the constitutional issue, although I'm not a lawyer. Congress imposes penalties all the time on those who violate regulations. Why would this be different?
I'm not a lawyer either. Criminal penalties are allowed, but does the Constitution allow Congress to make it a federal crime to fail to buy insurance? If so, there are no practical limits on the power of Congress.
OSHA rules are sometime controversial, but you have to be in business before you are subject to them. Forced insurance purchase as a condition of citizenship? I doubt the Founders would have approved of this major imposition of a formerly private decision. What about that right to privacy?
All the above is legal formalism, I suppose, because the government can instead just tax everyone and then buy health insurance or health care for everyone. That's how most other developed countries do it, and there would be no new Constitutional issue.
Could it be that proponents plan know that the current plan is not constitutional and plan to switch to a tax-funded arrangement when the Supreme Court strikes down the individual mandate?
The insurance industry is doomed if anything passes, since not being able to exclude patients and eventual control of prices will cause them to not be able to meet their revenue targets. They will eventually seek a bailout, leading to single payer.
AMTbuff, I don't see the constitutional issue, although I'm not a lawyer. Congress imposes penalties all the time on those who violate regulations. Why would this be different? The law states that you must have health insurance (unless you qualify for the hardship exemption). If you don't, you face a penalty. It's not any different from penalties on those who violate OSHA rules, for example.
If the pay-or-play penalty is set at the right level and compensates insurers for taking previously uninsured people, then it would not raise average insurance premiums. To the extent that insurers are no longer spending significant resources on risk-rating, community rating with a properly designed mandate should lower average premiums.
I agree that there is a substantial benefit accompanying the charge.
The fact that a tax comes with a benefit does not automatically make it a user fee, especially if you have no choice whether or not to be a user.
Also, if it's a penalty and not a tax, it is very likely unconstitutional. The US Constitution does not give the federal government the authority to penalize citizens for failing to purchase insurance. A constitutional amendment would be required to allow that. Therefore it's better for legal reasons to call it a tax.
“But pay or play is not a violation of the campaign promise.”
Boy, thanks for clearing that up. Glad to see you guys are doing your part to defend Obama. Why not a post on how, due to the above reasons (i.e. adverse selection) ObamaCare will result in higher premiums for those who do comply with the mandate, which is a major violation of his campaign promise to save families thousands in premiums, and a violation of his pledges during the health debate.
I agree it is not a tax. Frankly, I would instead favor an employer payroll tax instead, with offsets for providing insurance and a public option for people who's employers don't.