Next month, President Bush will be plugging his proposal for a "standard health insurance deduction" that he first suggested in his State of the Union. Under this plan New Yorkers who buy their own coverage could receive the biggest tax breaks in the nation. The standard deduction concept would make health insurance more affordable not only for most New Yorkers, but also for millions of Americans.
Consider the current situation. Right now, employers can provide workers with unlimited health benefits and those benefits are never taxed, resulting in overly generous insurance and higher costs. In contrast, people without employment-based coverage must pay for health insurance with after-tax dollars. That means they effectively pay between 18% and 117% more than if they had the tax break. That affects 3.2 million New Yorkers who buy their own insurance or are uninsured.
President Bush suggests that we limit this tax break, and treat all citizens the same regardless of how they pay for medical insurance. His proposed standard health insurance deduction would allow every individual who purchases at least basic coverage to deduct $7,500 from his income taxes. As important, the taxpayer would also apply the deduction to his payroll taxes. Families could deduct $15,000.
This is a serious tax cut for anyone who does not have job-based coverage, or whose job-based coverage costs less than the deduction, which is the vast majority of American households. The payroll tax deductibility is singularly important for low-income families, for whom Social Security and Medicare taxes are the most costly. For example, the nonpartisan Tax Foundation estimates that a single mother of two children earning $25,000 would save $2,250 on her federal taxes. In many cases, the tax cut alone would cover the entire insurance premium.
Beyond encouraging people to purchase basic coverage, the proposal would eliminate the existing incentive to overconsume medical care. Left-leaning scholars Len Burman and Roberton Williams of the Urban Institute, and Jason Furman of the Brookings Institution, note that the proposal could help curb rising health expenditures by encouraging 160 million Americans to become more cost-conscious.
The Bush administration estimates that tax cut would make health insurance more affordable for 80% of workers. To be sure, that means that 20% of workers could pay taxes on the amount of their health premiums that exceeds the proposed deductions. The Tax Foundation estimates that a family of four earning $80,000 plus $20,000 in health benefits could pay an additional $1,500.
The effects on New York are worth noting since they may be different from those in the rest of the country. Health insurance premiums are above average here, so the share of workers who would pay less in taxes could be below 80%. But since state and city income taxes are above average, deductions mean more here: New Yorkers without job-based coverage, or whose job-based coverage costs less than the deduction, would see relatively larger tax cuts. Those savings would be particularly important to entrepreneurs suffering under New York City's crushing income and unincorporated business taxes.
At the same time, the share of workers who end up paying slightly higher taxes could be larger in New York than in other states.
Though that's troubling, it is by no means certain. In fact, those workers may not face a net tax increase at all, because the president's proposal would reduce other costs on those same workers. One such "tax" is the higher health care costs that result from the current employer-sponsored system. The president's proposal would reduce that tax. Another is the current penalty imposed on workers who do not buy coverage through an employer. The president's proposal would eliminate that tax.
Finally, when premiums exceed the proposed deductions, employers could reduce health benefits and shift the difference to other untaxed compensation, such as contributions to health savings accounts, life insurance, or 401(k)s. That would leave those workers with zero additional taxes. Or they could shift that difference to wages, in which case the workers would pay taxes on it, but their take-home pay would rise.
The New York Times editorialized — erroneously — that "a tax deduction is of little value to people so poor that they pay little or no income tax." In fact, the proposed deduction would indeed help workers who pay no income tax, such as the single mother mentioned above. It would do this because — recall — the proposed deduction would still be applied to one's payroll taxes.
The Times further argued that the deduction would undermine job-based coverage by encouraging healthy workers to leave employer plans for a better deal on the individual market. That could leave many sicker workers unable to obtain coverage. That concern has been exaggerated, but it is even less of a concern in New York, where state law forces insurers to overcharge healthy customers in the individual market.
The rising cost of health care hits New York harder than most states. The president's proposal would deliver tax relief to millions of New Yorkers struggling to afford health insurance, and it would help bring health care costs under control. New Yorkers should give the proposal a serious look — even those who don't much like the messenger.
Mr. Cannon is director of health policy studies for the Cato Institute and co-author of "Healthy Competition: What's Holding Back Health Care and How to Free It."