Health Care Reform Should Not Tax Employers

Jonathan Ortmans, President, Public Forum Institute

After all the discussion and effort by Congress and the Administration to introduce a few measures to help small businesses in the recovery, I was alarmed last week to see the House introduce a health care overhaul bill with a measure to punish certain businesses that do not provide health insurance. Companies with payrolls exceeding $400,000 will have to pay a penalty equal to 8% of payroll. Companies with payrolls between $250,000 and $400,000 a year would pay between 6 and 2 percent, and only those with less than $250,000 would be exempt.  

We can all agree that the nation must buckle down and address its health care woes.  I was pleased to see a willingness on behalf of providers to share in the burden by agreeing to cuts even though Congress’ budget scorekeeper, CBO director Doug Elmendorf, suggested last Thursday they would not contain costs. However, the goals of addressing rising health care costs and coverage difficulties should not be pursued with financing measures that further engage and threaten the drivers of our economy who create the jobs that generate the payroll tax revenue. The measure for employers in the house bill constitutes a tax on employment. This payroll tax will affect firms’ hiring decisions, giving firms an incentive to retain fewer employees on their payroll by raising the cost of employing workers.  More employers will be encouraged to use contractors rather than hire workers.  Furthermore, many potential entrepreneurs will have an even stronger incentive now to stay in their current jobs than start and grow a new enterprise. With an unemployment rate of 9.5 percent, the House bill’s measures for employers make little sense.

Small businesses are already constrained by the pressure to provide health insurance for themselves and for the talent they seek to attract. Given their smaller workforces, entrepreneurial firms have smaller ‘risk pools,’ which means that insurers charge them higher premiums – and every year those premiums can change dramatically creating yet another variable for business leaders trying to compete in a global marketplace. The NFIB (National Federation of Independent Business) estimates that the self-employed pay an additional 15.3 percent tax on their premiums. Moreover, there is a ‘self-employed tax’ because entrepreneurs may deduct their premiums from income tax but not from payroll taxes like other businesses can. Considering all of this, is it fair to punish the 38 percent of businesses with fewer than 200 employees who, as of 2008, did not offer such benefits? According to the NFIB, businesses with between five and nine workers had an average payroll of around $375,000 a year.

The drafters of this bill have recognized some of these risks to America’s engines for growth, innovation and employment. The bill stipulates that certain small firms would get tax credits to help buy coverage (Title IV, section B). Even so, the legislation does not relieve any of the insurance burden on the majority of small business owners and certainly not on those high growth firms which are leading the way in trying to jumpstart the economy.

Of bigger concern to me is the broader message from Congress that policymakers see employers as the right people to finance health care insurance. It is worth remembering that the existing availability ofemployer-sponsored health insurance is a mere accident of history. During WWII, firms, knowing that employees were not required to recognize the health care benefit as part of their taxable income, began offering health insurance in an effort to circumvent wage controls.

In addition to distorting labor market decisions, tying insurance to employment reduces the incentives for individuals to really shop for medical care. This in turn reduces the incentives for health care providers to be efficient, contributing to higher health care costs for everybody. Everyone also pays the price of reduced medical innovation, which is the driver of higher quality and even cuts costs.

From a practical point of view, are small employers best equipped to handle this responsibility?  I have run several small businesses and always offered and paid for 100 percent of the premium for my employees’ health insurance.  However, despite all this experience, for smaller companies without dedicated human resource experts, this has been a major time drain for management each year when premium increases have driven us to review all options and usually ask employees to spend time and go through the inconvenience of new underwriting.  And it has been hard to meet all the different employee needs, something that would be much better done if the employee themselves were more engaged in the selection of their own coverage.  In our overhaul of our health care system, should we be removing employers from the picture rather than engaging them deeper in this complex and unpredictable task?  Should we not be putting individuals in the driving seat in partnership with government, not reluctant employers? 

Payroll taxes are already one of main sources of revenue for Social Security and Medicare benefits. Providing coverage can be achieved in other ways than penalizing small businesses with another tax on payroll. It is possible to decouple health insurance from employment while at the same time addressing today’s uncertainties surrounding health insurance availability in the individual market (as the House measure does by prohibiting insurance companies from denying coverage to individuals who are sick). Phasing out the system of employer-based insurance should lead to a rise in real wages that would be used to purchase insurance individually or through non-employer groups, just like other types of insurance. And for those who cannot afford it, sensible public sector options should be discussed which can meet the needs of the underserved and handle the weaknesses in the market that can occur in such a highly regulated health care economy. 

This is a healthy discussion and an issue we must all engage in.  At the end of the day, there will be winners and losers.  Agreed we all need to be required to participate and pay our own way in this system, but let’s try to keep the incentives in place for employers to make jobs rather than to forsake them.

Jonathan Ortmans is a senior fellow at the Kauffman Foundation where he focuses on public policies to promote entrepreneurship in the U.S. and around the world. In addition, he serves as president of the Public Forum Institute, a non-partisan organization dedicated to fostering dialogue on important policy issues.

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