August 7, 2022

You’re the Boss: The Math on Health Insurance

The Agenda

How small-business issues are shaping politics and policy.

Our post last month on the McKinsey Company study that suggested — but absolutely did not predict — that up to 30 percent of employers would shed the health insurance plans they now provide workers in 2014, when the Patient Protection and Affordable Care Act largely takes effect, drew some readers into an interesting discussion. After one reader wondered what prevents those companies from dropping health insurance now, another, adam of Washington, wrote a thoughtful response that is worth reprinting at length. The premium calculator he describes was developed by the Kaiser Family Foundation and allows users to enter demographic data and generate an estimate for how much insurance will cost when purchased on the exchanges created by the health care overhaul. Here’s what adam wrote:

The employee’s desire for health insurance is what’s stopping them from dropping coverage now. Employees don’t want to be left to the individual market with its high premiums, pre-existing conditions limits, after tax premium payments, etc. Employers don’t want to lose good employees because their compensation packages aren’t competitive. But PPACA completely changes that calculation since it gets rid of the disadvantages in the individual market. In fact, the individual market will be the better option for many people. Say that in 2014 your employer offered you a raise that was equal to the employer’s cost to provide you with family plan minus the $2,000 penalty*, in exchange for giving up your employer provided health insurance. Since it’s 2014, there would now be an exchange for you to buy health insurance. Would you take that deal?

Let’s put some real world numbers on it. I’m using this calculator: Say you are 50, married with two kids, make $70,000 annually, and in a medium cost region. Your employer plan costs $16,858 per year, of which your employer pays a fairly typical 75 percent, or $12,643, so your premium share is $4,214. You net $65,786. So your employer says he’ll give you a raise of $10,000 if you forgo employer provided health insurance. The employer pays the $2,000 penalty and pockets the $643 difference. Now you have to get health insurance. You now have salary of $80,000 thanks to that raise. You go to your health insurance exchange and find out that you’re eligible for a premium tax credit of $9,258, so you pay $7,600. You net $72,400. So thanks to the PPACA, your employer can drop insurance, and he’ll be $643 better off and you’ll be $6,614 better off.

That’s why employers won’t drop insurance now, but will in 2014.

If only things were that simple. Permit The Agenda to introduce a few complications.

First, adam has ignored the impact of taxes. Thanks to a quirk of tax law, when an employer pays insurance premiums for an employee, the employee pays no taxes on the benefit. But if the employee were given the cash equivalent of the employer’s premium obligation, that would be taxed as income. So to use adam’s example, the employee who trades his insurance for a $10,000 raise will have to surrender 35 to 40 percent of that in taxes (25 percent federal tax, 7.5 percent for Social Security and Medicare, plus state and perhaps local taxes). So now, that $10,000 is worth only $6,250, and the employee is only up $2,864. Meanwhile, the employer is actually worse off — the extra $10,000 in salary will cost $750 in Social Security and Medicare, so instead of being up $643, it’s down $107.

If our hypothetical employer wanted to come out ahead by $500 (which would save a company with 100 employees $50,000), he’d have to limit the raise to $9,435. This would be worth $5,897 to the employee, who would now be better off by $2,511.

That’s hardly a windfall, but it’s still a pretty good deal, no? Well, maybe, but maybe not. In his comment, adam supposes that the premium costs for insurance purchased on the exchange for any given individual (as estimated by the Kaiser calculator) will be about the same as the premium cost for employer-sponsored insurance. That could well be true, said Gary Claxton, a Kaiser Family Foundation vice president who helped design the calculator, but it depends on how the government interprets one nuance in the law.

The Affordable Care Act requires that insurance purchased on the exchange deliver certain minimum benefits, but it is silent about whether large employer plans will have to meet the same standards, according to Mr. Claxton. The government, he said, will have to address this in the regulations that flesh out the law. If the requirements for exchange plans are more stringent than those for employer plans, they will probably cost more, which would make it harder for the raise an employer offers in place of coverage to meet the cost of buying coverage on the exchange.

Finally, a cash deal that looks good in the first year may turn out to be less generous in succeeding years, according to Mark Combs, a consultant with Gallagher Benefit Services in Mount Pleasant, S.C. That’s because the cost of health care is increasing faster than inflation. “The financial reality is that the costs are still there and are still going up,” said Mr. Combs. “Let’s say you get a 10-percent increase — that’s the rough health care trend right now — then for that person the premium will go up $1,600. And the employer has washed their hands of it — they’re out of the business.”

Few employers seem willing to wash their hands of it yet, said Jody Amodeo, a health care consultant with Thomson Reuters, which advises around 300 large employers on the issue. “Of our clients, none of them have alluded to dropping coverage,” she said. “We’re not seeing 30 percent. We’re not even seeing five percent. We have not heard that from one client.”

“People shouldn’t pretend that they know what’s going to happen with any real degree of certainty, until some of the parameters have been established,” said Mr. Claxton. “The alternative market we’re talking about just doesn’t exist anywhere yet, so we don’t know what it looks like. And we don’t know how much confidence people will have in it.”

*Note from The Agenda: The Affordable Care Act levies a penalty on companies with more than 50 full-time employees if any of those employees receive a government subsidy to buy health insurance on the exchange. The penalty is the lesser of either $3,000 for each employee subsidized by the government or $2,000 for all full-time employees, minus a 30-employee discount.
A second consideration: People with employer-sponsored insurance can pay their share of their insurance premiums with pretax income, by using their flexible spending account. Those who purchase individual insurance have no such option.

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