Health Reform: How Will Employers and Employees React to Differential Subsidies?

We’ve updated earlier estimates of how the various subsidies in the health reform law affect the insurance market for both employers and workers. And the results remain quite dramatic: It appears that the new law will make it beneficial for many employers to drop their insurance coverage. In 2014 and beyond, once federal money is available through the insurance exchanges, switching from employer coverage to the exchanges may benefit both employers and workers in a wide range of income levels.    

The employer-provided system subsidizes health insurance mainly by exempting from tax the health benefits offered by employers. Before reform, unless you were elderly, disabled, or poor, this exclusion was probably the only health care subsidy available. But under the new law, the subsidy tied to the insurance exchanges will significantly exceed the tax benefit that low- and middle-income households get now. Our analysis does not consider the implications for Medicaid, which creates a third subsidy system at the low-income end of the exchange.

How will the new law work? A worker whose household cash income is $60,000 in 2016 and who gets no health benefits from her employer would receive a subsidy equal to approximately $9,000. Because the firm provides no health insurance, it must pay a $2,200 penalty, leaving a net gain of about $6,800. By contrast, a worker earning equal compensation who receives employer-provided insurance would receive a subsidy around $3,500 from the exclusion of health benefits from his taxable wages, leaving him more than $3,000 worse off than his counterpart whose employer offers no insurance.  This pattern holds until compensation reaches about $84,000, at which point the two subsidies are about the same.  Workers earning more than $84,000 do better under the current employer-provided system than they will under the new system.

Except for the employer penalty for larger firms mentioned above, there are only limited mechanisms to stop employers from dropping coverage and allowing their employees to enter the exchange. Of course, some firms may be reluctant to switch because they are uncertain about changes to the health law or because some workers will insist on keeping their existing plans, at least until they see how the new exchanges work.  But new firms, which over time grow and absorb larger shares of the labor force, will not face the demands posed by longtime employees.  And the exchange doesn’t fully go into effect until 2014.

Congress could have avoided many of the problems that will result from this shift from employer-sponsored insurance to the exchanges by providing the same subsidy to all households with equal incomes.  Perhaps it will move in this direction as the law is refined over time.