Expansion in HSA Tax Breaks is Larger – and More Problematic – Than Previously Understood
February 7, 2006
In conjunction with the State of the Union Address, the President proposed an expansion of tax breaks both for Health Savings Accounts (HSAs) and for premiums for the high-deductible insurance policies that are purchased in conjunction with HSAs. The President is proposing a large increase in the amount that can be contributed to a HSA on a tax-advantaged basis. In addition, the President is proposing not only to give individuals a tax deduction but also to provide a tax credit both for contributions made to HSAs and for amounts spent on insurance premiums for high-deductible insurance policies purchased in the individual market by people using HSAs. These proposals would cost $132 billion over ten years and account for the bulk of the President's proposed $156 billion in proposed HSA-related tax cuts. The proposals would cost substantially more in subsequent decades.
These proposals go well beyond anything the President has proposed before. In fact, in important respects, the President's proposal is significantly more radical than the proposal that many media accounts have described in recent weeks as the template for his reforms: a book by economists John Cogan (who is close to the Bush administration), Glenn Hubbard (who was President Bush's first Chairman of the Council of Economic Advisers) and law professor Daniel Kessler. Although these authors, all of whom are conservatives, favor more individual-market insurance, they deliberately retained at least some tax advantage for employer-based coverage in their plan to ensure that "any shift toward individual insurance [and away from employer-based coverage] would therefore be limited and gradual." Yet the White House plan has no such safeguard. Instead, by proposing a new tax credit on top of HSA-related tax deductions, the Administration would eliminate any remaining tax incentive for employer-based coverage. As explained below, the Administration's proposals would likely have significant adverse effects on the employer-based health system.
The President's new HSA proposals suffer from four types of serious problems:
- They would weaken the existing health insurance system. The proposals would fragment the pooling of risk that helps the health system to function. Over time, the proposals would shift people into the costlier individual health insurance market and isolate less healthy people in higher-cost comprehensive insurance plans, thereby driving up the costs of those plans. The proposals also could result in an increase in the ranks of the uninsured, by leading to an erosion of employer-based coverage. For reasons discussed below, the President's proposal also would be likely to reduce the amounts saved in retirement savings plans, as people shifted funds from IRAs and 401(k)s to HSAs.
- They have little potential to improve the health system. The President's philosophy is that "consumer-driven health care" will lead people to become wiser health consumers. This approach has limited potential for cost containment, however, because most of the costs in the health system are for expensive procedures or treatments (often related to major illnesses or end-of-life costs) whose costs exceed the deductibles under high-deductible policies and consequently would still be paid by insurance companies. For example, the top 10 percent of health care users account for about 70 percent of total health expenditures in the United States, while the bottom half account for only three percent of total expenditures. More fundamentally, the President has no plan to remedy two major problems that have to be addressed for consumer-directed health care to work: the lack of data that would help consumers understand health care prices and quality, and an adequate pooling mechanism to allow less healthy people to purchase insurance they can afford.
- They provide the largest assistance for the most fortunate. The proposals would provide large tax breaks for the most affluent people while providing little for moderate-income families who have the hardest time paying their medical bills. In particular, by substantially increasing the amounts that can be placed in HSAs and establishing new tax credits on top, the proposals would make HSAs a highly lucrative tax shelter for high-income families, enabling them to amass hundreds of thousands of dollars tax free.
- They would increase the deficit, especially in future decades when the nation already will be under fiscal strain. The new HSA-related proposals would cost $156 billion over ten years. A good part of the cost would be masked by the five- or ten-year cost estimates. It would show up only in subsequent decades, when the costs of these proposals would mushroom.
This paper analyzes the new aspects of the tax breaks proposed by the President in his State of the Union address and the further details provided in the Treasury Department's General Explanations of the Administration's Fiscal Year 2007 Revenue Proposals (also known as the "Blue Book") released in conjunction with the new budget proposal. A Center analysis issued January 31 provides a more comprehensive discussion of various other issues related to these proposals.
 The other $24 billion reflects the cost of an accompanying Administration proposal for a refundable tax credit for low- and moderate-income families to purchase HSA-eligible, high-deductible health insurance plans in the individual market. For a discussion of an earlier version of this proposal, see Edwin Park, "Administration's Proposed Tax Credit for the Purchase of Health Insurance Could Weaken Employer-Based Health Insurance," Center on Budget and Policy Priorities, revised April 6, 2004.
 John Cogan, Glenn Hubbard, and Daniel Kessler, "Making Markets Work: Five Steps to a Better Healthcare System," Health Affairs 24(6), November/December 2005.
 Linda J. Blumberg, Lisa Clemans-Cope, and Fredric Blavin, "Lowering Financial Burdens and Increasing Health Insurance Coverage for Those with High Medical Costs," Urban Institute, December 2005.
 Edwin Park and Jason Furman, "President's Health Care Tax Cut Proposals Are Likely to Weaken Employer-based Health Insurance, Primarily Benefit High-income People, and Worsen Deficits," Center on Budget and Policy Priorities, January 31, 2006.