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The employer exclusion reduces income tax revenues by between $93 billion and $126 billion per year. Including payroll taxes, the total revenue loss could be as much as $190 billion per year. See Burman, L. E. and Gruber, J., “Tax Credits for Health Insurance,” Discussion Paper No. 19 (2005): at 6. Available at <http://www.urban.org/UploadedPDF/411176_TPC_DiscussionPaper_19.pdf> (last visited June 7, 2006).+(last+visited+June+7,+2006).>Google Scholar

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Burman, and Gruber, , supra note 17. There is one notable exception to this rule: if an individual itemizes deductions, then health care expenses are deductible to the extent that such expenses exceed 7.5% of one's adjusted gross income (anything above 7.5% of AGI is deductible). Internal Revenue Code. U.S. Code, Title 26 § 213 (2005). Although the availability of this deduction somewhat mitigates the tax code's favoritism for employer-sponsored coverage, it falls far short of rectifying the problem. On average, thirty-two percent of individual income tax returns itemize deductions, and of this group, fifteen percent take the medical expense deduction. See “OTC Tax Deductibility,” Consumer Healthcare Products Association, available at <http://www.chpa-info.org/web/press_room/position_papers/tax_deductibility.aspx> (last visited June 12, 2006). Furthermore, the deduction only kicks in once an individual has spent (and received no tax benefit for) 7.5% of his AGI on health care. (last visited June 12, 2006). Furthermore, the deduction only kicks in once an individual has spent (and received no tax benefit for) 7.5% of his AGI on health care.' href=https://scholar.google.com/scholar?q=Burman,+and+Gruber,+,+supra+note+17.+There+is+one+notable+exception+to+this+rule:+if+an+individual+itemizes+deductions,+then+health+care+expenses+are+deductible+to+the+extent+that+such+expenses+exceed+7.5%+of+one's+adjusted+gross+income+(anything+above+7.5%+of+AGI+is+deductible).+Internal+Revenue+Code.+U.S.+Code,+Title+26+§+213+(2005).+Although+the+availability+of+this+deduction+somewhat+mitigates+the+tax+code's+favoritism+for+employer-sponsored+coverage,+it+falls+far+short+of+rectifying+the+problem.+On+average,+thirty-two+percent+of+individual+income+tax+returns+itemize+deductions,+and+of+this+group,+fifteen+percent+take+the+medical+expense+deduction.+See+“OTC+Tax+Deductibility,”+Consumer+Healthcare+Products+Association,+available+at++(last+visited+June+12,+2006).+Furthermore,+the+deduction+only+kicks+in+once+an+individual+has+spent+(and+received+no+tax+benefit+for)+7.5%+of+his+AGI+on+health+care.>Google Scholar

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Glazer, J. and McGuire, T. G., “Private Employers Don't Need Formal Risk Adjustment,” Inquiry 38, no. 3 (2001): 260–269. In order to avoid this “race to the bottom,” employers may self-insure or offer plans from only one insurer. In theory, since an insurer contracting with a self-insured employer does not bear any risk (it acts merely as a third-party administrator or TPA), it has an incentive to design truly innovative plans that contain employers' costs. This point, however, is problematic for two reasons. First, as the employer bears all health care costs, it possesses an incentive to retain healthier workers and allow the sick to find alternative employment. Second, the payer may be merely a TPA in this context, but it is likely bearing actuarial risk in other contexts, and a desire for policy uniformity may decrease innovation in the TPA market. This second point applies with equal force when an employer does not bear any risk but contracts with only one insurance company.CrossRefGoogle Scholar

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Consider, for example, the ubiquitous allegations that specialty hospitals cherry pick the best patients. See Casalino, L. P. Devers, K. J., and Brewster, L. R., “Focused Factories? Physician-Owned Specialty Facilities,” Health Affairs 22, no. 6 (2003): 56–67, at 62–63. The incentive to treat healthier patients is the greatest for physician groups who enter into capitated contracts.CrossRefGoogle Scholar

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Id. In any given year, twenty percent of the average insurer's client base consists of new enrollees. Herzlinger, R. E., “The Frayed Safety Net,” in Herzlinger, R., ed., Consumer-Driven Health Care: Implications for Providers, Payers and Policymakers (San Francisco: Jossey-Bass Publishers, 2004): at 44.CrossRefGoogle Scholar

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One can contribute up to the amount of the health plan deductible but no more than $2,700 per year for self coverage and $5,450 per year for family coverage.Google Scholar

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The literature dealing with the subject suggests that risk adjustment would only be needed for capitated physician groups (those that accept fees on a per-patient basis rather than a per-episode basis). See, e.g. Kuttner, R., “The Risk-Adjustment Debate,” New England Journal of Medicine, 339, no. 26 (1998): at 1952–1956. Contrary to this assumption, for many procedures, healthier patients require less time per episode of care while less healthy patients have the potential to generate large opportunity costs for providers. Thus, fee-for-service providers may also lack the proper incentives to design quality-enhancing/cost-reducing treatments for the sick. Furthermore, physician compensation cannot be neatly compartmentalized into fee-for-service medicine on the one hand and capitation on the other. Rather, there is a continuum with very discrete, episode-based compensation (e.g. charging per X-ray) on one end, hybrids (such as billing for a surgery and all follow-up visits) in the middle, and lifetime capitation on the other end. Under the current regime, long-term capitation contracts are rare because employees frequently change insurers. With the implementation of individualized insurance purchasing, however, it is likely that provider groups will begin offering longer term (and potentially lifelong) agreements. Perverse incentives to selectively treat the healthy and screen out the sick increase as one moves from the episode-based end of the spectrum toward the capitation end. This analysis suggests that risk adjustment at the level of the provider can be implemented in one of two ways. First, one can simply risk adjust physician groups who choose to accept capitated reimbursement, paying them more or less depending on the health needs of the population they enroll. Under such a regime, one must determine whether longer capitation agreements will command a higher multiplier. With many chronic illnesses, what is cost effective over the short term may not be cost effective over the long term, and thus, physicians who are capitated over a shorter period of time may have an incentive to forego medically appropriate treatment. Increasing the multiplier for long-term capitation agreements, however, may not be desirable. Reduced reimbursement for short term contracts may make those providers skimp even more. Additionally, if cost and quality data are readily available to consumers, providers will have a natural incentive to enter into long term agreements. Physician groups who believe that they can improve outcomes and lower costs by managing care over the long term will set prices that capture such value, and informed, value-conscious consumers will select health plans accordingly. Second, one can create a risk adjustment mechanism that modifies reimbursement for all providers, including those who charge on a fee-for service basis. The exact, numerical adjustment, however, need not be the same for all types of compensation arrangements. The multiplier could be calibrated according to (a) the extent to which unhealthy patients require more time per treatment and (b) the compensation agreement's place along the capitated/fee-for-service continuum.CrossRefGoogle Scholar

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There is some literature which suggests that this may be the case. Consider the following quote from Robert Kuttner's 1998 article in the New England Journal of Medicine: “In general, only large provider organizations have the sophistication to bargain effectively with health plans for health-based risk adjustment. Most doctors' groups, in economic parlance, are ‘price takers’; they have too little bargaining power to do other than quibble marginally with the going rate. According to Richard Dixon, medical director of the National IPA [independent practice association] Coalition, there is little adjustment of payments by managed-care organizations on the basis of diagnosis or case mix, despite enormous variation among different doctors' caseloads. Dixon attributes the failure of most medical groups to adjust according to risk to a familiar litany. ‘The typical medical group is undercapitalized and doesn't have either the technical or epidemiological skills to implement even a rudimentary system of risk adjustment,’ he said in an interview. He cited one doctors' group that participated in a detailed analysis of data on patients’ encounters with physicians. The value of the medical services provided ranged from about $3 per member per month to $27 per member per month among different primary care doctors in the group. But all were being compensated in the narrow range of $10 to $12 per member per month.” Kuttner, , supra note 51.Google Scholar

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