Expanding Insurance Coverage Through Tax Credits, Consumer Choice, and Market Enhancements: Title and subTitle BreakThe American Medical Association Proposal for Health Insurance Reform

A recent editorial¹ in THE JOURNAL invited a broad discussion of proposals to expand health coverage in the United States. The nature and the extent of the uninsured problem are well documented.^{2 - 9} According to the US Census Bureau,¹⁰ the estimated number of US individuals who did not have health insurance coverage rose from 41.2 million in 2001 to 43.6 million in 2002, involving 15.2% of the population. Finding a way to reduce the number of uninsured Americans is imperative.

Since 1998, American Medical Association (AMA) policy has called for reform of the US health care financing system according to the principles of tax credits for the purchase of insurance, individuals' choice and ownership of health insurance, and facilitation of new health insurance markets and regulations that are more responsive to variation across individuals and families in their preferences for health insurance.^{11 - 13} The tax credits would be independent of work status, employer-offered health benefits, or the type of plan chosen, whether indemnity insurance, a health maintenance organization (HMO), a preferred provider organization (PPO), or a medical savings account (MSA). AMA policy does not include specific recommendations about a tax credit schedule; rather, it is structured to serve as a broad guide for shaping federal legislation that would expand coverage.

The AMA proposal targets all nonelderly individuals, not only the uninsured or a subgroup of the uninsured. It preserves and enhances the primacy of the patient-physician relationship and continuity of care. It uses tax credits as financial incentives for obtaining and maintaining coverage.

There are 3 key components of the AMA health system reform proposal. The first is to replace the tax exclusion of employer-based health insurance with tax credits that are inversely related to income, refundable and advanceable. With advanceable credits, individuals need not wait until their federal income taxes are filed to use the credits to purchase insurance. Making the credits contingent on coverage for all family members would ensure maximum enrollment gains. The second is to enable individuals to select and own health insurance. Under the AMA proposal, an employer's offering of health plans will no longer be the only group coverage option for most individuals. More coverage options will enable better matching of insurance benefits with the values and preferences of individuals. The third is to facilitate the formation of new health insurance markets to enhance health insurance offerings. To increase choice in the individual and group health insurance markets, we propose insurance market reforms and incentives to offer a wider range of new, affordable, and permanent insurance options.

The economic benefits of the current federal income tax exclusion of employer health insurance benefits are weighted toward relatively wealthy employed individuals and their families. Those who do not have employer-based coverage and those in the lowest federal income tax brackets receive little or no tax benefit. The total federal income tax subsidy from employer health benefits is estimated to be $188.5 billion in 2004.¹⁴ The tax subsidy from the health benefit exclusion alone is estimated to be $101 billion. Of the total subsidy, 26.5% ($50 billion) will go to families with $100 000 or more in income. Families with incomes less than $30 000 will receive 9.8% ($18.5 billion) of the subsidy. In 2004, the subsidy will average $1492 overall per family, $2780 for families with income of $100 000 or more, and only $102 for families with less than $10 000 in income.¹⁴

Tax credits would replace the current federal income tax exclusion of employer-based health benefits with a system of income-related, refundable, and advanceable credits contingent on health coverage for the entire family. Employer spending on employee health insurance benefits would remain fully deductible as a business expense. In developing a tax credit proposal, one must assess tradeoffs among the many combinations of proposal design elements.¹⁵ To achieve near-universal coverage cost-effectively, the credits should be inversely related to income and be large enough to ensure that health insurance is affordable for most people.¹⁶ By providing the largest subsidies to those in the lowest income levels, policy makers can target those who, without the tax credit, would be the most likely to be uninsured. Targeting subsidies to low-income individuals also reduces the amount of uncompensated care that currently exists in the health care system.¹⁷

The tax credit should be refundable to those who purchase health insurance, so those who have tax liability less than the value of the tax credit would receive a refund for the difference. The tax credit could be administered as an advanceable voucher or through some other mechanism. Vouchers are used to provide a variety of services, including food and nutrition, child care, housing, and education. Such vouchers could use existing mechanisms for distribution, such as the federal or state tax system, or state or local agencies. For example, the recent increase in the federal child tax credit was distributed as an advanced credit.¹⁸

Tax credits large enough to make health insurance affordable would enable individuals to choose coverage that reflects their health insurance and health care preferences and values. In the current employer-based system, an insured employee cannot change plans if he or she experiences bad service and the employer offers only one plan. In that case, there is little value in "report card" information that compares quality of plans, even if a better-performing plan is available nearby. Comparative information is in high demand when workers are offered multiple plans. A good example is the Federal Employees Health Benefits Program (FEHBP),¹⁹ in which the "individualized group insurance"²⁰ has given rise to publications of health plan ratings, changes in the plan benefits and premiums, and information on plan patient safety programs.¹⁹ Several other characteristics of the FEHBP are worth noting. Just 5% of FEHBP enrollees switch in any year, and many remain for decades with the same choice of plans and providers.²¹ Ratings of FEHBP plans are high,²² and FEHBP is well known for controlling cost increases.²³ Finally, throughout the years, plans participating in FEHBP have added services of interest to patients.

With more choices, individuals would be more likely to procure coverage and be satisfied with their care.^{24 - 26} Having a choice of plans also increases access to care.^{25 ,27} Insurers and health plans would have incentives to respond to enrollee preferences for information on plan quality, easier access, higher quality, and lower costs.^{28 - 29} Information on quality or other plan characteristics to help individuals make informed choices in health care is becoming increasingly available.^{30 - 31} A well-known economic principle is that a relatively small number of consumers who are willing and able to change their purchase patterns can keep prices down and quality in line with expectations.³² These market-based mechanisms would lead to improved quality and restraints on cost increases.^{33 - 34} Responsive plans would increase their enrollments and unresponsive plans would fail.

Switching employer health benefits from a defined benefit approach to a defined contribution approach would contribute to the evolution of individually selected and owned health insurance. Defined contribution health benefits clarify the economic cost of the health plan choices to workers.^{35 - 36} When workers choose plans, they become more price conscious and thus select plans with less first-dollar coverage and somewhat higher deductibles.^{37 - 38} Creating incentives for consumers in selecting plans also serves as a cost control.³³ The switch to defined contribution plans also changes insurer incentives. Individuals whose money is part of the transaction expect measurable and demonstrated value from plans. Defined contributions would also make employers' financial obligations for health benefits compensation more predictable in the short run.³⁶

Prior to the early 1990s, most coverage was through indemnity or fee-for-service plans.^{39 - 40} With indemnity coverage, patients had considerable choice among physicians and other providers. Later, with the expansion of managed care, insurers competed for employers, primarily by offering lower premiums and controlling the delivery of care.^{41 - 42} One approach was to restrict the network of physicians, particularly specialists.⁴³ Cost increases were reduced, but the patient-physician relationship was seriously challenged. Breaks in the continuity of patient-physician relationships result in patients deferring care and increases in health care spending.^{44 - 45}

A large proportion of employers offer little or no choice of health plan.⁴⁶ Larger firms tend to offer more choices of type of plans, offering an HMO and a PPO, for example, but often from a single insurer.⁴⁶ Few small firms, however, offer their employees a choice of plans.⁴⁷ For most firms, the overhead of running a multiple-plan health benefits program would be prohibitive. What is needed are ways to expand access to current insurance products and create new group and individual markets that would offer greater continuity of coverage to individuals who work in smaller firms, change employers, or move in and out of employment.⁷

States could allow private-sector employees and other individuals to use their tax credit to purchase coverage in state employee health benefits systems. States could enable the creation or expansion of small group purchasing arrangements, association health plans, and health markets that offer choices to consumers for redeeming their tax credits. To expand coverage in the nonemployer group markets, these alternative insurance risk-pool arrangements could be granted exemptions similar to Employee Retirement Income Security Act exemptions, such as exemption from state insurance regulations of mandated benefits, premium taxes, purchasing pool minimum size restrictions, and small-group rating laws while safeguarding state and federal patient protection laws.⁴⁸

The Achilles heel of individual insurance markets has been adverse selection. Guaranteed issue and strict community rating with extensive benefit mandates have been used as a proposed fix for the problem but with negative effects on costs and number of insured.^{49 - 50} The AMA proposes important insurance market regulations including modified community rating and guaranteed renewability. The resulting modified community rating, based on age and sex, would have risk rating and premium variation but in narrower ranges than with individual risk-rating. The influx of average-risk, current group market enrollees into these new health insurance markets would provide insurers with economies of scale, thereby reducing administrative expenses and the incentives to risk rate.^{15 ,20 ,51 - 52}

Even before the Health Insurance Portability and Accountability Act, 75% of policies in the individual market were guaranteed renewable.⁵³ Guaranteed renewability provides incentives for individuals to obtain coverage before they become ill.⁵⁴ Once insured, individuals are likely to maintain coverage with the same insurer because switching costs outweigh gains from potentially lower premiums of a different insurer. Less switching reduces insurers' underwriting and policy-issue costs, allowing them to limit premium increases.⁵⁵

With adverse selection, insurers also must have financial incentives to accept and cover individuals who have above-average expected medical expenses. To stabilize the new risk arrangements and avoid channeling them into high-risk pools, high-risk individuals may need subsidies in addition to the tax credit amount. To minimize the effect on the average-risk members of the population, those subsidies should be funded from general tax revenues. An alternative stabilizing mechanism is to provide insurers risk-related subsidies, paid to plans with higher-than-average-risk enrollees by other plans in the market. Another option is a reinsurance pool for insurers, which protects them against expenses of known "high spenders."^{55 - 56}

A combination of reforms and incentives is needed to enable the formation and operation of purchasing arrangements and market innovation such as MSAs, consumer-driven health plans, and other forms of coverage now being developed.^{35 ,57} Internet-based health insurance vendors and small-group purchasing arrangements would expand choice and increase the availability of affordable coverage.^{33 ,58 - 60} Internet-based vendors also would reduce the administrative costs of offering multiple plans. Web sites now exist that allow consumers to download and compare plan information. Small-group purchasing arrangements already enable employers, particularly small ones, to negotiate with several health plans, expanding the choices beyond what any single employer could offer.

Although employer-based coverage would remain, the improved individual and nonemployer group markets would become good alternatives to traditional coverage. As the size and the extent of new markets increased, they would become more representative of the overall market, and competition for individuals' premium dollars would become intense. Coverage would become more affordable, particularly for those with preexisting or chronic conditions.

The AMA has not advocated for any specific value for a tax credit or a specific income level at which it should be phased out. The AMA's policy states that the funding committed to the tax credits should be sufficient to induce low-income individuals to purchase coverage. To better understand the likely cost and coverage impacts of its policies on reform, the AMA analyzed the effects of different-sized tax credits coupled with varying eligibility rules linking the credit to income. The analysis was used to assess the interaction of the various elements of the AMA's policy on coverage gains, the size of the remaining uninsured population, new federal spending required, and cost (in new federal dollars) per newly insured.⁶¹ The burden of coverage, measured by the average after-credit premium as a percentage of income, among those in the lowest income brackets (notably, $0 to $50 000) was also studied.

Using scenarios in which credits ranged from $900/$1800 (single/family coverage) to $2000/$4000 and were independent of income or inversely related to income or phased out at $75 000 or $100 000 in 2000 income, AMA researchers found coverage gains ranging from 16.2 million to 26.4 million individuals. In one of the scenarios studied, the uninsured population was cut to 17.9 million, or 6.4% of the population. Despite having everyone potentially eligible for health coverage tax credits, some individuals would not purchase health insurance at any price. Some, mainly wealthy individuals, would continue to self-insure. New federal spending was strongly influenced by the relationship of the credits to income, with the eligibility phase-out holding down new spending needs. The best coverage gains were achieved at a cost in new federal spending of $39 billion to $65 billion, in 2000 dollars. The particular design of the tax credit schedule was important; cost per newly insured ranged from $1776 to $6032, the high end being driven by a uniform tax credit rather than one inversely related to income. Finally, consistent with the notion of affordability, the after-credit premium as a percentage of income ranged from 0% to a high of 7.3% in all but one of the scenarios examined.

As impact estimates of other tax credit reform proposals indicate, smaller credits can expand coverage, but at the lowest income levels the credit must approach 100% of the premium to be effective.¹⁵ Although the results vary by underwriting practices and the size of deductibles, an individual credit of $1000, which is in the range of credits in the AMA analysis,⁶¹ has been found to reduce the number of uninsured by 85% and 100% with partial coverage policies.^{15 ,52} That size credit also is well within the range of potential health insurance tax credits discussed by President Bush and recently by members of Congress.^{62 - 64}

The estimates of the impact of tax credits developed by some analysts would suggest that tax credits have a relatively small impact on expanding coverage.^{65 - 67} But those estimates are often derived from analyses in which the credits are at the low range of those analyzed and the target populations for the credits are small. In addition, analysts realize the models used to generate estimates have not incorporated the potential expansion and improvements in the individual and nonemployer group markets from reforms or the new lower premiums that would be available in those markets.⁶⁸ Those modeling assumptions and characteristics also significantly influence the estimates of the impact on coverage and spending of the tax credits.^{38 ,69}

A great many proposals for reform have been debated during the last decade. A comprehensive comparison and assessment of their principles, designs, features, and predicted impacts are beyond the scope of this article and available elsewhere.^{34 ,66 ,70}

Consumer choice—choice of plan and choice of physicians and other health care professionals—is a cornerstone of the AMA's proposal to expand coverage. The AMA would limit the role of the government, avoiding a one-size-fits-all approach to coverage. The AMA proposal represents a vision shared by many of today's legislators, policy makers, health services researchers, and provider groups. The Trade Adjustment Assistance Reform Act of 2002 created the Health Coverage Tax Credit, containing a federal tax credit of 65% of the qualified health insurance premiums for eligible workers.⁷¹

Bipartisan political interest in alternative tax credit designs continues to grow.^{72 - 73} Health economists and health policy analysts from a wide range of think tanks advocate tax credits for individuals and families to purchase health insurance.⁷⁴ Several medical associations, including the American College of Physicians⁷⁵ and the Massachusetts Medical Society,⁷⁶ also endorse individual tax credits. The marketplace already is responding to pressure for more consumer choice and control of health plans. Insurers are using the Internet to expand the plan options that employers offer employees as part of defined contribution programs and to expand and improve options for individual purchasers as well. All of these developments represent an opportunity to correct unfair distortions in the current system, expand coverage and choice, and put the patient in control. Policy makers should be aware of the siren song of single-payer advocates. Experience with these systems has exposed the many drawbacks for patients and physicians.

The intent of the AMA policy is to provide guidance in shaping federal legislation that would move the current health insurance marketplace toward a system of individually owned health insurance, where the market beyond employer coverage is an equally good alternative. Funding needs to be at a level that will enable nearly all individuals to obtain coverage. Tax credits combined with enrolling uninsured Medicaid-eligible individuals would result in coverage for approximately 95% of the US population. This level of coverage compares favorably with that of other industrialized countries that have achieved "universal" coverage. State demonstration projects and incremental reforms may be needed to provide us with better insight into the tradeoffs and optimal mix of specific tax credit designs and insurance market reforms, such as guaranteed renewability, modified community ratings, and subsidies for high spenders.