Base Health Care Subsidies on Lifetime Income, not Current Income

I was on a bit of a blogging hiatus over the past few weeks — anything interesting happen while I was gone? Part of the hiatus was to finish up work related to the end of Dartmouth’s winter term, which had me teaching and grading more than usual. Part of the hiatus was a vacation. What I learned on vacation is that the TSA should outsource its staffing to Disney. Nobody is better at crowd control or the customer’s experience. And part of the hiatus was to write up some ideas on entitlement costs and the design of programs.

I consider the health care legislation last year to be a new entitlement programs, on a par with Social Security, Medicare, and Medicaid. Certainly the funding obligation is there — the gross costs of the Medicaid expansion and the premium subsidies will each be running about $100 billion per year by the end of the decade (see Table 2 of this CBO report). So I began to wonder about whether aspects of this legislation will have some of the same issues that the other entitlement programs have, and, in particular, what the interactions with labor force participation will be.

The premium subsidies raised some concerns. The basic design is that eligibility for a premium subsidy is based on whether income (a modified adjusted gross income) is within 400% of the federal poverty level. You can see the full list for 2011 here. For the example, let’s consider a married couple, for whom the FPL is $14,710 (outside of Alaska and Hawaii) and thus 4x that level is $58,840. Every couple with income less than that number has its premium capped as a fraction of income. At the maximum level, the cap is 9.5% of income for the premium, or $5,590 for this couple. (See more in this brief from the Kaiser Family Foundation, whose site is indispensible. The brief also discusses the out-of-pocket maximums that would apply in this example.)

The concerns that I have stem from the linking of the subsidies to current income. If the couple is retired, current income is low — for most retired couples, it seems like $58,840 is sufficiently high that they could live below that threshold and thus qualify for the subsidy and the low premium for health insurance. So I fear that we have just encouraged and facilitated older workers to leave the workforce. Recent research (see Figure 3 on page 26 of this paper) indicates that people tend to retire at age 62 if their health insurance status will not change by doing so (e.g. they either don’t have health insurance or they have both employee and retiree health insurance) but wait to age 65 if their health insurance status would change (e.g. they have employee but not retiree health insurance). So the premium subsidies will likely encourage more retirement at age 62 for those who previously were waiting until age 65. And the effect will be seen at earlier ages as well.

I am not against low premiums — I am against low premiums for retired people who could still be working when the subsidy comes from taxpayers. As I have previously advocated for means-testing in Medicare, the way to fix this is to have the premiums related to lifetime income, not current income. There are several permutations on this idea, but the simplest way to think about how it would apply to most people is that you would calculate their Average Indexed Monthly Earnings, as if they were going to get Social Security Disability benefits based on their earnings to date, and base the premium thresholds on that. Since the AIME is based on a lifetime of work, retiring and thus presenting with low current income would not generate a premium subsidy unless lifetime income was also low. (For spouses who will likely claim as a dependent or for widows, use the AIME of the person whose earnings history forms the basis of their benefits.) So perhaps we would encourage less retirement (and loss of tax revenue that comes with early retirement) and more effectively target our subsidies.

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