This Policy Is at the Root of Unaffordable Health Care

Health reform is having a moment. The Trump administration, Senate Democrats and a range of policy analysts across the political spectrum are promoting plans to make health care more affordable and insurance more responsive to patients.

But price caps, transparency mandates, aggressive antitrust regulation and similar proposals would only address the symptoms of unaffordable health care, rather than the disease that causes it: the income and payroll tax exclusion for employer-sponsored health insurance.

We are health policy scholars with diverging views. One of us (Elizabeth) helped to design and implement the Affordable Care Act. The other (Michael) fought that law every step of the way and still supports repeal. Yet we each recognize that many of the problems the law seeks to address stem from this feature of the federal tax code.

Because wages are taxable but employer-provided health benefits are not, the tax code encourages compensation in the form of health insurance rather than cash. Economists across the political spectrum have noted that making employer coverage tax-free encourages more comprehensive plans than many workers might otherwise choose, which reduces price sensitivity. That means higher prices, higher premiums and more health care spending overall.

The negative effects of this policy are extensive, but it hurts lower-income workers the most. Higher-income workers receive the largest tax breaks from the exclusion because they have higher marginal tax rates. Meanwhile, higher premiums and health care prices hit lower-income workers hardest.

Support for reconsidering the exclusion spans the political spectrum. Presidents Ronald Reagan, George W. Bush and Barack Obama all proposed reforms, as did Sen. John McCain (R‑Arizona). The Affordable Care Act included the “Cadillac tax,” which would have provided a partial check on the exclusion through a 40 percent excise tax on high-cost plans. But it never went into effect. Congress repeatedly delayed it and ultimately repealed it in 2019. According to one study, the Cadillac tax would have reduced health care prices by up to 1.3 percent and overall health spending by 2.2 to 3.2 percent.

The politics of reform is daunting. Labor leaders, for whom generous health benefits have represented an important bargaining chip, and large employers that believe health benefits give them a competitive edge in hiring, have fought to preserve the exclusion. But as health care prices continue to climb, the argument against it has only grown stronger.

To rein in the exclusion, policymakers could limit or cap it, thus reducing the upward pressure it exerts on health care prices.

They could also give workers greater control over health insurance spending by separating insurance from employment. That could help strengthen individual market options and lower costs overall.

We believe a hybrid approach combining the two holds the most promise. Reforms based on existing Individual Coverage Health Reimbursement Arrangements could maintain employer involvement while expanding flexibility and potentially attract bipartisan support.

Created in 2019 by the first Trump administration, ICHRAs are traditionally a Republican idea. But Democrats might appreciate how they could strengthen coverage options in the individual market — especially for workers without affordable employer plans. Republicans might be suspicious of capping the exclusion, but they know the true size of government is what it spends. Capping the exclusion amid massive deficits would not expand government.

Each path involves trade-offs. But the lodestar should be a system that improves affordability, slows the growth of health spending, promotes continuity and portability of coverage, and allows individuals and families to choose the coverage that best meets their needs.

If policymakers fail to address that fundamental flaw, then at best they will only provide symptomatic relief. Meanwhile, the underlying disease will keep making health care consume more and more of our national income.