For more than 50 years, America has relied on employers as the primary source of health insurance coverage. For the most part, this has been a successful approach, providing coverage in 1998 to 155 million people, compared to only 15.5 million who purchased their own coverage that year.
People receiving employer-provided health insurance enjoy an enormous tax advantage. The value of the insurance is free of all state and federal income and payroll taxes. That tax advantage represented about $141 billion in lost state and federal revenue in 2000, according to the Lewin Group. That is based on a total cost for employer coverage of $355 billion—amounting to a subsidy of 40 percent of the cost of coverage.
People who buy their own insurance get no tax break unless their medical costs exceed 7.5 percent of their adjusted gross income. Even then they get only a simple deduction, and only if they itemize on their tax return.
Importantly, the exclusion for employer-based insurance is extremely regressive, providing far more benefit to people of higher incomes than to people of lower incomes. With a subsidy of this magnitude, it is small wonder that employer-sponsored coverage is popular.
Many people argue that employer-provided coverage has advantages that justify this special tax treatment. Those supposed advantages, however, are often myths—or at best overstated.
Myth No. 1
Employer Groups Make Good Risk Pools
Employers do not in fact make particularly good risk pools, if a risk pool means a large number of people of diverse health care needs who can share the cost of occasional large claims.
Workers in a single company tend to be more like one another than like the general population. For one thing, they are able to work. For another, they tend to be from a single geographic area. There are clear gender and ethnic divisions at most work sites: Construction workers and print shop employees tend to be male, elementary school teachers and data entry clerks female. The very proximity of people who work together means contagious diseases or environmental hazards easily can affect the entire group. Finally, the nature of the workplace usually means that older members remain in the group for many years, while younger members come and go.
A large national or regional insurance company makes for a far better risk pool than almost any employer.
Myth No. 2
Employers Are Effective Agents for Their Workers
Although there are notable exceptions, employers generally are poor at helping workers navigate the health care financing and delivery system. Very few workers are comfortable confiding their true health care needs and concerns to their employers.
If a worker needs mental health services or has a drug-addicted spouse, or a daughter who wants an abortion or a son with AIDS, the employer might well be the last person an employee would confide in. Unlike doctors, attorneys, or ministers, employers offer no confidentiality protection. And employers are not particularly knowledgeable about either health care financing or medical care services.
Myth No. 3
Employer-based Coverage Is Administratively Efficient
Here there is some truth, but it is often overstated. It is true that loss ratios (the percentage of premium paid out in claims) are lower for small employers than for large ones, and lower still for individuals. But a substantial part of this is because larger employers absorb much of the administrative cost that insurers must perform for individuals and small groups.
Services such as distributing plan material, answering worker questions, tracking enrollment, and collecting premiums are still rendered and paid for, but they show up in the large employer’s overhead instead of as part of premium.
The one area that makes a big difference is marketing expense. Having an insurance broker explain the product to a single decision-maker for 1,000 workers is far more efficient than having the broker explain the product to each of 1,000 individuals. But the prospect of Internet marketing and enrollment or non-employment groups could erode this advantage considerably.
Myth No. 4
Employers Allocate Costs Fairly among Workers
It is often argued that, while an employer may be experience-rated, the workers themselves are community-rated within the group. So, a high-risk 50-year-old man pays the same premium as a low-risk 25-year-old.
There are two problems with that argument. First, it may not be a good thing; second, it may be less true than it appears.
Is it fair to treat 50-year-old Fred the same as 25-year-old Sam is treated? Very likely Fred will be making more money than Sam because he is more experienced and has more seniority. But even if that is not the case, Fred may value the coverage more highly than Sam does and be willing to pay more for it. If that is true, we should expect Sam to opt out of the coverage far more frequently than Fred does. And that is exactly what happens.
Only 28.6 percent of 25-year-olds have employment-based coverage in their own names, compared to 56.1 percent of 50-year-olds. So the practice of community rating within a group may contribute to a large number of younger people with no insurance coverage.
Moreover, it is simply not true that all workers are treated the same. Workers with dependents, for instance, usually receive far more in nominal benefits than do single workers. And there is at least some evidence that higher-risk workers actually do pay more for their coverage because employers pay them less in wages to offset the added cost of coverage.
Myth No. 5
Employer Coverage Is Cheaper than Individual Coverage
As noted earlier, some of this difference may be due to marketing costs—which can be reduced through use of the Internet. And some is due to employers’ absorption of administrative costs.
But there is a far more profound cause for cost differences between individual and employer-provided coverage.
Because of the 40 percent subsidy available exclusively to employer-based coverage, anyone who can possibly obtain workplace coverage will do so, leaving only those who cannot in the individual market.
Who are these people? They are often retired or semi-retired, or too sick to work, or incapable of holding a job, or employed in seasonal or high-risk jobs. They may come in and out of the insurance market as they can afford it. Insurers in the individual market face huge challenges in retention and premium collection. People in the individual insurance market are much older, sicker, and poorer than those in the employer-group market.
It is little wonder that today’s individual insurance market is more expensive than today’s employer-group market. But those relative differences would likely quickly disappear if large numbers of the stable and subsidized workforce entered the individual insurance market.
Greg Scandlen is a senior fellow with the National Center for Policy Analysis and assistant editor for Health Care News.