Subsidies. Whether embraced or disdained, these financial aids were a prominent topic during the enrollment period for the Affordable Care Act, and their diminished availability is now impacting many individuals’ out-of-pocket expenses.
While legislative bodies remain at an impasse regarding future directions, and the political discourse surrounding affordability continues to hold center stage, it might be tempting to assume these are the sole forms of taxpayer-supported health insurance assistance within the U.S. framework.
However, this perception is inaccurate.
“The overwhelming majority of individuals with health insurance benefit from some form of federal aid, encompassing programs from Medicaid and Medicare to the ACA and employer-provided plans,” stated Larry Levitt, the executive vice president for health policy at KFF, a non-profit organization dedicated to health information, which also publishes KFF Health News.
These extensive governmental supports are seldom highlighted, particularly concerning their application to employer-sponsored coverage. Therefore, let us examine this aspect more closely.
Quantifying the Tax Advantages
A substantial portion, nearing half, of the over $1.1 trillion allocated annually to Medicare—the second-largest component of the federal budget after Social Security—is derived from general federal revenues. The remaining funding originates from payroll taxes and the periodic payments made by its more than 66 million beneficiaries.
Medicaid, which serves as the nation’s primary health insurer by covering over 70 million individuals with low incomes, incurs an annual expenditure exceeding $918 billion. Its financial structure is a joint undertaking between the federal government, contributing 65%, and state governments, contributing 35%.
Both of these programs receive partial funding through taxpayer contributions. A less conspicuous avenue of federal assistance is channeled through employer-sponsored health coverage. In this instance, the impact on the federal fiscal balance is more subtle, as hundreds of billions of dollars do not enter the U.S. Treasury directly but manifest as tax concessions for both employers and their workforce.
“This represents a distinct paradigm from Medicare, Medicaid, and Obamacare, where the government directly disburses funds to individuals,” commented Michael Cannon, director of health policy studies at the libertarian think tank, the Cato Institute.
Approximately 154 million individuals under the age of 65 receive coverage through job-based insurance. (In contrast, approximately 22.9 million individuals enrolled in Affordable Care Act plans for the current year, largely due to the absence of employer-sponsored insurance. An extension of the enhanced ACA subsidies, which concluded at the end of 2025, would entail an estimated cost of around $350 billion over a decade, averaging roughly $35 billion annually.)
In reality, the financial contributions made towards employer-sponsored health plans constitute the most significant “exclusion”—a tax policy that exempts specific income from taxation—within the federal budget. For the present fiscal year, the projected figure stands at $451 billion, as reported by the Joint Committee on Taxation and the Congressional Budget Office.
The expenditures incurred by businesses to provide health benefits to their employees are deductible as operational costs. Furthermore, employees who receive this benefit are not required to remit income or payroll taxes on its monetary worth.
These tax savings can amount to hundreds or even thousands of dollars annually for workers. The extent of these savings varies, with the most substantial benefits accruing to those enrolled in the most costly health plans and individuals situated in higher income tax brackets. The contributions made to health savings accounts are among other tax-related advantages associated with health insurance.
However, the concept of this tax exclusion can be challenging for insured employees to fully grasp, given that the majority of workers still contribute a portion of their salary towards their health coverage.
Even though these contributions are not subject to taxation, “it may not necessarily feel like a subsidy to individuals,” Levitt observed. “They are acutely aware of their financial contributions.”
Embedded Within the Tax Framework
The evolution of this tax treatment occurred in parallel with the development of work-based health insurance schemes in the United States, gaining momentum during World War II when wage and price restrictions prompted employers to offer health coverage as an incentive to attract personnel. This arrangement was codified into tax legislation in 1954.
Proponents, frequently including labor unions and employers, assert that this policy encourages companies to provide health insurance, a practice common among most large corporations. Due to the associated expenses, smaller businesses are less inclined to offer such benefits, even with the tax incentive. Additionally, for employees, receiving $1 in healthcare coverage offers greater value than an equivalent amount in wages, which would be subject to taxation and therefore diminished in worth.
Conversely, critics of this tax provision highlight the revenue foregone by the Treasury. Some economists contend that this tax exclusion incentivizes employers and employees to select the most comprehensive and, consequently, the most expensive health insurance options, thereby escalating healthcare expenditures. The tax break disproportionately benefits higher-income workers compared to those in lower tax brackets. Economists also suggest that the funds employers allocate to health insurance might otherwise be utilized for salary increases.
While no legislative proposals are currently under consideration to amend this tax break, the escalating federal deficit is causing some employer groups concern regarding potential policy modifications. Benefits specialists anticipate varied outcomes.
“It is uncertain whether this would translate into increased wages for all,” indicated KFF’s Levitt. “Certain employees possess greater bargaining power than others.”
Numerous attempts over the decades to limit or abolish this exclusion have proven unsuccessful.
“It has been a bipartisan target for the past 40 years,” remarked Paul Fronstin, a director at the Employee Benefit Research Institute, an independent, non-profit, non-partisan organization.
Any alteration, however, “would generate some revenue, but it also represents a tax increase for workers,” Fronstin noted. “What would be the implications if their taxes rise? Do wages increase as a consequence of diminished tax advantages? There will invariably be individuals who gain and others who lose from such a calculation.”
Nevertheless, given that employer-sponsored coverage is the primary mechanism through which a significant number of Americans obtain health insurance, some policy analysts caution that eliminating or even reducing this exclusion could diminish the incentive for employers to offer such coverage. While some employers would likely persist in providing coverage even without the tax concession—as it serves as a valuable benefit for attracting and retaining staff—it represents a considerable expense, potentially leading others to discontinue it. The average family premium cost employers nearly $27,000 last year, according to KFF.
“These are businesses that meticulously evaluate the costs associated with offering insurance, which have experienced a dramatic escalation,” stated Elizabeth Mitchell, CEO of the Purchaser Business Group on Health, an association comprising large public and private employers that provide health insurance to their workforce. “In the absence of some form of tax incentive, I would anticipate they would re-evaluate whether to continue bearing these expenses.”
Cannon, of the Cato Institute, views this tax policy as detrimental because it limits employee choice, as individuals might prefer increased wages, even if subject to taxation. He posits that these additional earnings could subsequently be invested in tax-advantaged health savings accounts, designated for medical expenses.
Under the prevailing tax break framework, “you are effectively granting the employer control over a substantial portion of your earnings and mandating enrollment in the plan chosen by the employer,” he argues.
Employers, in response, assert that they are more adept at negotiating superior quality, lower-cost health insurance packages than individuals could achieve independently.
Mitchell, representing the employer group, commented, “It presents a significant challenge for a large employer to negotiate equitable prices with the consolidated healthcare systems. Therefore, it is difficult to envision how an individual could effectively navigate our current system.”
She also contests the assertion that the tax break contributes to elevated healthcare prices, driven by excessively generous employer plans that encourage insured workers to utilize more health services.
“That is an outdated economic theory that does not hold true in the healthcare sector,” she stated. “Individuals do not seek out healthcare services with the intention of consuming more; they utilize healthcare due to necessity. The fundamental nature of this demand is distinct.”
