Monday, August 10, 2009

How much does health care REALLY cost?

The Wandering Tax Pro Robert Flach noted:

Last year a small business client paid over $15,000 in health insurance premiums to cover himself, his wife and a high-school age son.

Well, our country spent about 2.5 trillion dollars last year to provide health care for 300 million people, which works out to an average of about $8.3K per capita, or $25,000 for a family of three, so in that context $15K looks like a pretty good deal.

I recently posted about a New England Journal of Medicine article which computed that the average working family covered by employer-provided insurance pays about 25% of its total compensation for health care, when all is said and done. The part they see is only the tip of the iceberg.

Of course, the total cost of health care actually paid by Robert's client was not $15K. It might be more or less, when all is said and done.

Since he's self-employed in his own small business, Robert's client has some tax breaks available to him.

First off, he can deduct that $15K as an adjustment to income and reduce his federal, state, and local (if any) income taxes. Depending on the client's tax bracket, that could easily reduce the net after-tax cost of the coverage to below $10K.

But wait, there's more, as they say on late night television.

If his spouse is an employee on the payroll, he can actually provide family coverage to her (and the whole family, including himself) as an employee under a Section 125 HRA Cafeteria Plan, which would allow him to deduct the expense on his Schedule C. That's an even better deal than deducting it as a subtraction from AGI, because deducting it on his schedule C reduces his self-employment FICA taxes. Depending on the amount of his business profits and thus his tax bracket for FICA and income taxes, the combined savings in federal, state, local, and FICA tax could potentially reduce the net cost of his premium by as much as 50%.

This all looks like a pretty good deal so far--and it is a good deal, compared to his neighbor who might have the exact same pre-tax income but who happens to work as an employee for an employer who doesn't provide health benefits. If that neighbor can purchase the same $15K policy as an individual policy, it's going to cost him the full $15,000, with none of the tax breaks I outlined above. He can't reduce his AGI or his payroll taxes by the $15K. (If he itemizes, his neighbor MIGHT get some tax benefits, after taking into account the 7.5% of AGI limitation as well as the loss of the standard deduction, but they won't be as good a deal as Robert's client can get.)

On the other hand, he and his neighbor are probably paying more for health care than just the cost of his premiums. In most policies, there are copays, deductibles, and coinsurance provisions, as well as costs for medical expenses that insurance doesn't reimburse. (Of course, he can soften that cost burden as well by running such costs through a Section 125 HRA Cafeteria Plan for his spouse, if he has one.)

In addition, despite the tax breaks I mentioned above, Robert's client is also probably paying a significant amount for everyone else's health care through all the taxes he pays. To begin with, you can figure the amounts he pays in Medicare payroll taxes for himself (and his wife, if she's on the payroll.) In addition, a significant chunk of his federal and state income taxes are paying for other people's health care.

Of course, Robert client's neighbor, the guy who makes the same pretax income but works as an employee for an employer who doesn't provide benefits is paying even more of the cost of everyone else's health care, because he doesn't get all the tax breaks that Robert's client gets.

(And their neighbor on the other side, who maybe gets even more generous full coverage entirely paid for by his employer--perhaps one of those gold-plated Cadillac plans for Goldman Sachs employees--might be getting an even better health care deal, once all the tax benefits of that coverage are factored in!)

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