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Journal Issue: Health Care Reform Volume 3 Number 2 Summer/Fall 1993

Who Bears the Burden?: The Distribution of Costs and Benefits
Authors: Marilyn Moon

Criteria for Evaluating Revenue Options

When considering how to finance health care reform, a number of crucial issues arise. This paper focuses on ways of obtaining additional revenue rather than on other methods of financing, such as premium and cost-sharing contributions by those who use health services or shifts in resources from other currently funded programs. In practice, these elements of a reform plan generate trade-offs with the amount of new revenues required. The exact amount of government revenues needed will vary substantially depending upon these details.

In addition to the specific political issues and constraints facing federal or state governments contemplating expanding health care to children, it is useful to consider some basic criteria for evaluating revenue options. In practice, it may be difficult to meet all of these criteria, and individuals may view some as more important than others; but they are useful as a basis for discussion.

Progressivity

Taxes are generally ranked as progressive or regressive depending upon how they relate to families' ability to pay. A tax is termed progressive when it rises in proportion to income. For example, a progressive income tax requires taxpayers to pay a higher percentage of income in tax when their income goes up. A tax that is a constant percentage of income is termed proportional. A tax is said to be regressive if persons with lower incomes must pay a greater percentage of their income in tax than people with higher income pay.15 While there is general agreement that regressive taxes are not good, there is less consensus on how progressive a tax should be and whether a proportional tax meets the criterion of fairness.16

Ability to Grow with Costs of the Program

When revenues are being raised for a specific program, it is useful to rely on sources that will grow as fast as program expenditures so that it is not necessary to continue to increase the taxes or tax rates. Excise taxes on alcohol and tobacco are often favorites for health care reform, in part because of their links to health. Yet real revenues from such taxes may increase very little over time or even decrease. As a result, every year or two, the tax rates would have to be increased to raise additional revenues. It makes more sense to rely on revenue sources that do not frequently require new legislation.

Ability to Relate to the Benefits

This criterion of relating revenues to benefits can be interpreted in two ways. First, health care revenues can be related to the programs they fund in much the same way that gasoline taxes are used to support highway improvements. Taxes on cigarettes are often proposed to support health care reform because cigarette consumption increases health care costs. Second, taxes can be earmarked, or reserved exclusively for a particular program.17 Even if revenue is not formally earmarked, it might be useful to identify a specific revenue source as a "health insurance premium." It is reassuring to taxpayers to know that a revenue source is protected from raids for other purposes. Payroll taxes and some excise taxes have traditionally been the sources for earmarked revenues. But the main criterion for earmarking would be that the segregated revenues can be easily identified. If the income tax is used to produce revenue for health care reform, a surtax would best satisfy this criterion.

Using One Main Source of Revenue

It is often impractical to rely on a complicated patchwork of funding sources for a major new program and may be useful to identify one primary source of revenue. For example, it would be nearly impossible to generate enough revenue for health care reform without relying on either higher payroll or income taxes, or adding a new national sales tax. If the health care program is targeted only at children, using more limited taxes becomes more feasible.

Concerns about the fairness of financing mechanisms are likely to be a critical part of the debate over reform.18 Any analysis of fairness should not, however, consider only public revenues generated, but look as well at the impact of mandates on employers or other requirements that effectively serve as financing for reforms. Moreover, it is important to consider how the current costs of the system are borne. Many of the costs of health care are already in the system; what will change is who will pay in the future. For example, under a universal, single-payer system, many employers who now offer substantial coverage would be relieved of a burden. Consequently, relying on payroll or other employer-based taxes may make sense, especially if these taxes are viewed as "premiums." In this instance, a new financing system would seem to be less disruptive because it would not heavily redistribute the current burden.

The criteria of choosing sources that grow rapidly over time, relating revenues to benefits, and relying on one main source of funds raise both political and practical issues and are not the main subject of this paper. Nonetheless, they should be part of the debate and may help to limit the range of options considered.

The specific application of all these criteria will also depend on the nature of the health care reform contemplated. For reforms that target only lower-income persons, taxing the beneficiaries and earmarking are less important; instead, the goal will probably be to share the burden of helping low- and moderate-income families as broadly as possible. A children-only program will also result in a relatively progressive structure of benefits because children are concentrated in the lower two-thirds of families as ranked by income.5 And, if we are considering expanding coverage incrementally beginning with children, the distributional impact in each year may be less critical than the eventual redistribution once the system is fully in place. Finally, if a program offers progressive benefits, policymakers may be less concerned about how progressive the taxes that support it must be. Because the benefits of Social Security and Medicare are quite progressive, there is less objection to using the payroll tax to fund these programs.