tax expenditures

Fiscal Honesty Through the Tax Code? Unlikely

Ellen Seidman — Thu, 21 Aug 2008 13:35:00 -0400

Holman Jenkins ends his opinion piece about Fannnie Mae and Freddie Mac in Wednesday's Wall Street Journal with the memorable line: ". . .and (if we really feel more subsidy to homeowning is needed) insisting that Congress do it the fiscally honest way, through the tax code." Come on, Mr. Jenkins, if we want to be fiscally honest, we should do it through appropriations. Or at least through a capped, income-phased-out, refundable tax credit, which somehow I doubt was what he meant (although I'd be pleased to learn otherwise).

The standard tax code technique, an uncapped deduction, ends up subsidizing those who don't need it and neglecting those who do. The fiscal 2009 budget projects tax expenditures of over $100 billion for the home mortgage interest deduction. Honest budgeting would recognize that much of this goes to people who don't need it and artificially props up house prices. If we want to subsidize homeownership honestly, we'd get rid of the tax deduction and appropriate money to be directed to those who would not be homeowners without the subidy. But then, of course, we'd have to get serious about making the Department of Housing and Urban Development work.

Easy Fix to Help Federal and State Budgets (and Health Care)

Annette Nellen — Sat, 02 Aug 2008 21:31:00 -0400

I have written about this topic before - policymakers lament trying to find dollars to help get more people health care, yet millions of workers reap overly generous tax benefits when their employer pays all or part of their health care coverage. These generous tax benefits represent dollars from the federal and state budgets that could be used for other purposes. And, the problem is even worse because having so many insured employees not directly involved in how much their health care coverage costs tends to make them get too much health care at times, which drives up costs for everyone.

Here are prior posts:

On 7/31/08, the Senate Finance Committee held a hearing on Health Benefits in the Tax Code: The Right Incentives.

Each of the three witnesses commented on the exclusion for employer-provided health insurance. Joint Committee on Taxation Chief of Staff Edward Kleinbard noted:

"the current system of providing a generous tax subsidy for employer provided health care with no or little subsidy in the case of insurance purchased outside of the employer market distorts taxpayer and market behavior. The existence of the subsidy reduces the price of the consumption of health care, leading to overconsumption of health care relative to other goods and services for those taxpayers with qualifying plans, and very expensive health care for taxpayers in the individual market. Unlike most tax expenditures, the large subsidy associated with employer-provided health care is subject to few statutory limitations."

The exclusion, measured as a tax expenditure, is one of the largest in the income tax system. It is also an exclusion from Social Security and Medicare taxes. Kleinbard's testimony noted the cost of this tax break for 2007 as:

Income taxes $145.3 billion
FICA $100.1 billion

That's a lot of money!

Most, if not all states also follow the federal exclusion.

The exclusion is an even better deal than a tax deduction because the employee has not spent anything to get the break (ok - except for foregone wages). For example:

Jamie's employer pays $10,000 for Jamie's health insurance coverage. If the employer did not provide this benefit, the employer would likely increase Jamie's salary by $10,000. Under our tax system, having the employer pay for Jamie's insurance is a much better deal than getting $10K more of salary. The $10K is not taxable to Jamie, although the employer deducts it on their tax return. Also, no FICA or Medicare tax is owed by either party on the $10K. If Jamie's marginal tax rate is 25%, Jamie saves $2,500 of taxes. BUT, if Jamie had to include the $10K in income, Jamie would still have a good deal - getting $10K of insurance benefit for $2,500.

The federal government should cut back on this exclusion and better target it so more relief is given to low-income taxpayers. For example, depending on one's income level, an increasing percentage of the health insurance benefit would be included in income.

This would give the federal government funds to help move health care towards universal coverage. It would help states with their revenue problems.

AND - it would bring greater equity to the tax system. Today, it is more likely that higher income workers have health insurance from their employers. When individuals have to buy insurance on their own, there is not tax break.

Also, cutting back on this tax break would mean that employers would have to include the amount of the benefit on the employee's W-2. That would be good because today, most employees probably can't tell you how much the benefit is. This change would also be a good start in moving towards the bigger health care solutions that are needed.

What do you think?

Tax Reform and Health Care Reform

Annette Nellen — Wed, 18 Jun 2008 17:06:00 -0400

We hear lots of talk about tax reform and lots about health care reform, but rarely hear about the two together. While there are proposals to change the exclusion for employer-provided health care, such as President Bush's proposal to remove it and provide a standard deduction for health insurance, they typically don't consider either the entire health care or tax reform picture.

There are significant dollars in the tax code that should be on the table in reforming health care. All of the government dollars should be in the picture in looking at how to fund any change, such as universal coverage. The largest federal tax expenditure is the one where employees are not required to include in taxable income the value of the health insurance their employer provides to them. The estimated cost of this expenditure in 2007 was $134 billion. There are other health care tax breaks as well such as the itemized deduction for medical care and health savings accounts.

The employer-provided health care exclusion is a tremendous benefit to employees. For example, Susan's employer provides health insurance to employees. Susan pays about 20% of the cost and the employer pays the rest - about $10,000 per year. Susan's marginal federal and state tax rate is 30%. Thus, she saves $3,000 of taxes from the exclusion. BUT, if the exclusion were removed, she'd end up getting $10,000 of coverage for $3,000 - still a good deal!! And, she'd likely find that she really doesn't need as much insurance as she selected from her employer. She'd also know how much it costs (today, most employees don't have any idea of what their health insurance costs). And removal of the exclusion would mean that more Social Security and Medicare taxes would be collected.

For employees in a lower tax bracket, perhaps some tax relief could still be provided.

For more information on the topic of the intersection of health care and tax reform, see a recent short article of mine from the AICPA Taxation Insider - Pot of Gold in the Employer-Provided Healthcare Exclusion (6/08). It has more of the details as well as links to various proposals and reports.

New America recently released a report about the challenges businesses face with employer-provided health care particularly given increasing costs of this fringe benefit.

There is a lot of money in the employer-provided health care exclusion (a pot of gold!). It is time to make a significant modification to it in order to better target the government dollars in this tax break, remove the adverse impact it has on health care spending, recognize the changed ways of living and working such that expectations of getting health insurance from your employer rather than on your own are outdated and too costly in our global economy, and to improve the federal income tax by broadening the base and lowering the rates.

Can You Name All of the Tax Breaks to Support Higher Education?

Reid Cramer — Mon, 12 May 2008 18:21:00 -0400

The tax code is a mess. Even those pointy-headed economists that can bicker about anything (except the gas tax) agree that it is too complicated. They cry in virtual unison that the growth of tax deductions, credits, and deferrals leads to inefficiencies and market distortions (yikes!).

To confirm these fears, we need look no further than the education arena. Do you know how many tax provisions there are designed to support post secondary education and workforce training? It's a long list.

There are tax breaks for contributions to specific accounts and savings plans such as Coverdell education savings accounts, section 529 college savings plans, pre-paid tuition plans, and penalty-free withdrawals from IRAs. Further, there are other tax breaks that cover the treatment of educational expenses. These include the Hope Credit, Lifetime Learning Credit, deduction for tuition and fees, and the deduction for interest on student loans. So, that's a count of at least 8.

Many of these overlap and as such they cause a great deal confusion among consumers. Last week the House Ways and Means Commitee held a hearing on this topic and I sent in some testimony that offered my take on the matter.

I’m in favor of serious tax reform. We probably need to consolidate and simplify. That said, we have learned a great deal with the experience of 529 college savings plans over the past few years which provides a blueprint for how to construct an attractive savings platform for education and training. We need to stop adding tax breaks to support savings for a growing number of purposes and spend more energy looking at how to create the institutional supports that maximize savings. I'll gladly make this point again when serious tax reform is put back on the political front burner.