Low- and middle-income workers who succeed in increasing their earnings would face significant penalties for their efforts under either the Senate or the House health care bills. The bills mandate that everyone have health insurance and the amount that individuals would have to pay for health insurance rises with income, leaving workers with smaller and smaller amounts of take-home pay for each additional dollar of income they earn. In his latest paper for the Cato Institute, Michael Cannon runs through these effects and provides estimates of the effective marginal tax rates produced.
According to Cannon’s calculations an individual increasing his annual income from $15,000 to $45,000 would face an effective marginal tax rate of 59 percent under the House bill. On the other hand, if the Senate version became law, then an individual increasing his annual income from $11,000 to $45,000 would face an effective marginal tax rate of 53 percent. Additionally, a family of four that increases its annual income from $29,000 to $87,000 would face an effective marginal tax rate of 74 percent under the House bill. Alternatively, if the Senate bill became law, a family of four increasing its annual income from $22,000 to $87,000 would face an effective marginal tax rate of 62 percent.
It gets worse: Cannon’s calculations include only the effects of the health care bills plus those of federal payroll taxes, income taxes, the child tax credit, and the earned-income tax credit. State taxes and other means-tested programs are not included, which means that effective marginal tax rates for many individuals will actually be higher. Further, the implicit tax thresholds created by the bills are unlike those of the individual tax code in that each progressively higher rate applies not only to the income above the threshold but to all of the income earned by the individual. For individuals whose income is near a threshold for a higher rate, the effective marginal tax rates could easily exceed 100 percent. “For example,” notes Cannon, “under the Senate bill, adults with an annual income of $14,560 who earn an additional $560 would see their total income fall by $200.” Those individuals would be better off not having made the effort to increase their earnings.
Another perverse incentive: Cannon also calculates that for most people (any individual making over $16,000 per year and any family making more than $32,000 per year), it will be cheaper to forgo getting health insurance, pay a penalty of 2.5 percent of adjusted gross income (the penalty established by the bills for being uninsured), and buy insurance only when they get sick. This adverse selection is made possible because the bills require insurance companies to sell insurance to anybody and forbids them from charging different rates based on health condition.
If those provisions are included in a final health care bill, expect healthy people to opt out of the insurance pool and, therefore, insurance premiums to rise. That, argues Cannon, means Congress will either have to increase the level of subsidies and therefore the cost of its health care plan, or abandon the idea of fixing health care with a rob-Peter-to-pay-Paul approach.