Health Care Reform: How Much Does It Redistribute Income?

April 15, 2010

Fiscal Fact No. 222

The health care bill passed by Congress and signed by President Obama is arguably the most significant piece of domestic policy legislation since the 1960s. The law will transform the financing of U.S. health care as government mandates coverage for individuals and becomes more involved in the pricing and terms of the policies they buy. Also, the bill expands Medicaid so that more people above the poverty line will now be eligible (up to 138 percent of poverty level).

But expanding subsidized access to health care is no free lunch. Somebody must pay for it. Because of this reality, in this Tax Foundation Fiscal Fact, we estimate the distributional effects of the health care reform law, the Patient Protection and Affordable Care Act.[1] That is, we quantify the transfer of money from higher-income groups that will be used to fund benefits for lower-income and middle-income groups.

This is part of the Tax Foundation's ongoing fiscal incidence project that is designed to gauge the income redistribution of U.S. fiscal policies. Previously, we have used the fiscal incidence model to estimate the redistributive effects of President Obama's FY 2011 budget.[2]

Overall, the health care bill increases the amount of income redistribution from high-income families. That is largely due to the bill's targeted Medicare tax hike on those earning more than $200,000 (singles) and $250,000 (couples). The Medicare tax hike would for the first time incorporate filing status into each person's Medicare tax liability, and also for the first time, the Medicare tax will not apply just to wages but also to investment income such as income from capital gains, dividends, interest and rental property. In its first year of application, 2013, the new Medicare tax will hit approximately the top-earning two percent of families. That percentage will grow as the years go by because the income thresholds are not indexed for inflation. On the other hand, we may see a repeat of the annual patch ritual that prevailed for several years for the AMT.

We estimate that the health reform law will take an additional $52,000 on average from the families in the top one percent of the income distribution. That is on top of the redistribution in fiscal year 2016 that was already expected to accrue to that family, which amounts to about $484,000.

Though nominally part of the Medicare tax, extra tax payments will not entitle the payers to any additional Medicare benefit. In fact, Medicare benefits (on net) are being cut in the health care bill. Overall, we estimate that as a result of the health care reform, the top 1 percent would go from earning 14.7 percent of post-redistribution income to around 14.35 percent of post-redistribution income.

This income will be redistributed, not mostly to the lowest income group, but to the lower-middle income groups. The lowest income group gains little because most of the families already receive Medicaid and/or Medicare benefits. Families in those second and third deciles (10th percentile through 30th percentile) will see an average increase in their income redistribution of around $2,000.

Middle- and upper-middle income groups (50th percentile through 90th percentile) would also be slight benefactors of the bill if not for corporate tax increases and the fees imposed on insurance companies, drug makers and medical device manufacturers. Regarding the latter, we assume that the burden of those payments will ultimately be borne by consumers of those products, who are everywhere along the income spectrum. Overall, we calculate that this extra cost would push those income groups out of the net beneficiary column and into the net payer column, though only by a small amount.

Our results are presented in the three tables below. Table 1 summarizes the average change in income redistribution from the health care bill. Table 2 provides somewhat more detail, including a tax and spending breakdown, while Table 3 shows the aggregate effects of federal fiscal policies and the health care reform on the distribution of income.

Table 1
Summary of Income Redistribution Before and After Health Care Reform
Fiscal Year 2016

Market Income

Percentile

Average Income Redistribution
(OMB Baseline)

Average Income Redistribution
(Post-HCR)

Change in Income Redistribution

0 - 10%

+ 20,309

+ 21,236

+ 927

10 - 20%

+ 12,363

+ 14,396

+ 2,033

20 - 30%

+ 9,862

+ 11,546

+ 1,685

30 - 40%

+ 7,907

+ 8,684

+ 777

40 - 50%

+ 6,917

+ 7,172

+ 255

50 - 60%

+ 4,921

+ 4,717

- 204

60 - 70%

+187

- 248

- 435

70 - 80%

- 4,862

- 5,426

- 564

80 - 90%

- 12,131

- 12,804

- 674

90 - 95%

- 18,800

- 19,776

- 976

95 - 99%

- 61,681

- 64,852

- 3,172

99 - 100%

- 484,493

- 536,697

- 52,204

ALL

0

0

0

Exhibit:

 

 

 

Top 20%

- 47,594

- 51,450

- 3,856

Top 10%

- 83,030

- 90,066

- 7,036

Top 5%

- 147,250

- 160,345

- 13,095

Top 1%

- 484,493

- 536,697

- 52,204

Main Sources: Tax Foundation Fiscal Incidence Microsimulation Model; CBO final score of health care bill; President's FY 2011 Budget

Table 2
Distributional Impact on Average Families of Health Care Reform
Fiscal Year 2016

Market Income
Percentile

Average Market Income

After Health Care Reform

Change from OMB Baseline

Average Tax

Average Spending

Average
Income Redistribution

Average Tax

Average Spending

Average
Income Redistribution

0 - 10%

6,497

2,037

23,273

21,236

158

1,085

927

10 - 20%

23,600

4,788

19,184

14,396

- 5

2,028

2,033

20 - 30%

39,887

8,309

19,855

11,546

62

1,747

1,685

30 - 40%

56,245

12,146

20,831

8,684

117

894

777

40 - 50%

75,659

16,224

23,396

7,172

112

367

255

50 - 60%

99,083

21,845

26,563

4,717

343

139

- 204

60 - 70%

125,874

28,848

28,601

- 248

529

95

- 435

70 - 80%

158,953

37,754

32,327

- 5,426

632

68

- 564

80 - 90%

210,164

51,736

38,932

- 12,804

691

18

- 674

90 - 95%

294,722

71,739

51,963

- 19,776

806

- 169

- 976

95 - 99%

517,553

141,024

76,172

- 64,852

2,243

- 928

- 3,172

99 - 100%

2,703,974

834,255

297,558

- 536,697

30,783

- 21,421

- 52,204

ALL

117,701

29,501

29,501

0

568

568

0

Exhibit:

 

 

 

 

 

 

 

Top 20%

420,170

114,162

62,711

- 51,450

2,553

- 1,303

- 3,856

Top 10%

629,358

176,538

86,472

- 90,066

4,413

- 2,623

- 7,036

Top 5%

963,030

281,322

120,977

- 160,345

8,019

- 5,076

- 13,095

Top 1%

2,712,382

834,255

297,558

- 536,697

30,783

- 21,421

- 52,204

Note: Tax category above includes certain non-tax revenues.
Main Sources: Tax Foundation Fiscal Incidence Microsimulation Model; CBO final score of health care bill; President's FY 2011 Budget

Table 3
Distributional Impact on Family Income Groups (Aggregate) of Health Care Reform
Fiscal Year 2016

Market Income
Percentile

Market Income ($Millions)

Share of Income

Income After Redistribution

Aggregate Change in Redistribution from Reform
($Millions)

OMB Baseline

Post-HCR

Total
Income
(millions)

Share of Income

Total
Income
($Millions)

Share of Income

0 - 10%

120,346

0.68%

495,400

2.79%

512,521

2.89%

+ 17,120

10 - 20%

435,564

2.45%

663,025

3.73%

700,421

3.94%

+ 37,396

20 - 30%

701,566

3.95%

874,481

4.92%

904,020

5.09%

+ 29,539

30 - 40%

922,421

5.19%

1,051,698

5.92%

1,064,400

5.99%

+ 12,702

40 - 50%

1,139,188

6.41%

1,243,007

7.00%

1,246,834

7.02%

+ 3,827

50 - 60%

1,319,311

7.43%

1,384,637

7.79%

1,381,927

7.78%

- 2,710

60 - 70%

1,548,150

8.71%

1,550,440

8.73%

1,545,110

8.70%

- 5,330

70 - 80%

1,887,504

10.63%

1,829,950

10.30%

1,823,272

10.26%

- 6,679

80 - 90%

2,439,072

13.73%

2,298,724

12.94%

2,290,930

12.90%

- 7,794

90 - 95%

1,711,423

9.63%

1,602,589

9.02%

1,596,940

8.99%

- 5,649

95 - 99%

2,397,485

13.50%

2,112,645

11.89%

2,097,999

11.81%

- 14,646

99 - 100%

3,178,191

17.89%

2,610,494

14.70%

2,549,325

14.35%

- 61,169

ALL

17,764,327

100.00%

17,764,327

100.00%

17,764,327

100.00%

0

Exhibit:

 

 

 

 

 

 

 

Top 20%

9,726,171

54.75%

8,624,452

48.55%

8,535,194

48.05%

- 89,258

Top 10%

7,287,099

41.02%

6,325,728

35.61%

6,244,264

35.15%

- 81,464

Top 5%

5,575,676

31.39%

4,723,139

26.59%

4,647,324

26.16%

- 75,815

Top 1%

3,178,191

17.89%

2,610,494

14.70%

2,549,325

14.35%

- 61,169

Main Sources: Tax Foundation Fiscal Incidence Microsimulation Model; CBO final score of health care bill; President's FY 2011 Budget


Overview of Methodology

To quantify how much the new health bill changes income redistribution in the future, we must first calculate the extent of redistribution that would have occurred without the bill. That is the "baseline scenario," and we base that analysis on what the laws would have been in 2016 according to the Office of Management and Budget (OMB baseline). We then compare that with the "policy scenario," which is the OMB baseline supplemented with the provisions of the newly enacted health reform. We can then answer the question, "How much does the health care bill redistribute income?"

Our measure of income redistribution is relatively simple as we ask two hypothetical questions:

(1) How much in federal taxes does a given income group pay under a given set of tax policies?

(2) How much in federal taxes would that income group pay under a benefit principle system of taxation whereby a given family's tax share was equal to its share of the benefits from government spending?

The difference between the answers to these two questions is our measure of income redistribution. Two common questions pertaining to the methodology are:

How can defense spending be split up among various income groups?

What about the deficit: if the government uses borrowing instead of taxing to spend money on behalf of one income group, who is determined to have paid?

Those difficult questions are decided in advance with economic assumptions. That is, in analyzing defense spending, we do not examine each component of defense spending. Whether a military base is in a poor area or a rich one, we count it as part of a massive national effort to protect the whole country. To divide up that spending among the people, we do not assign an equal amount to each family; rather we divide it up in proportion to each family's share of cash income received. That is our proxy for a family's "willingness to pay" for national defense. (In technical terms, we assume an income elasticity of national defense and most other public goods that is unitary, or equal to -1.)

As for the deficit, we assume that the burden of paying for the deficit is borne by today's families and is financed by a combination of proportional tax increases and proportional spending reductions (entitlements weighted more heavily). For a further discussion of the methods used in this report, see Tax Foundation Special Report, No. 172, "How Much Does President Obama's Budget Redistribute Income?"[3]

The cuts to Medicare and Medicaid providers in the health bill were assumed to be borne partly by Medicare enrollees and partly by owners of capital. Fees imposed on insurance companies, medical device manufacturers and drug companies were assumed to be borne by consumers of those products. The distributions of the changes to coverage, including the exchange subsidies, and changes in Medicare tax liability were simulated using a tax and spending microsimulation model.

An important point to keep in mind is that our fiscal incidence model is just that: fiscal. It does not measure the distributive effects of government policies outside of taxing and spending. For example, minimum wage laws redistribute income, but we do not include such "redistribution" in our analysis. This is an important limitation when analyzing health care reform because the new law includes many regulations. Mostly, they are imposed on insurers and will implicitly redistribute resources. In general, they will redistribute income from healthy people to sick people; that is, healthy people will pay more for policies so that sick people can pay less. But this transfer is not included in our analysis.

[1] This analysis includes the "fixes" passed by the House and Senate and signed by President Obama after the signing of the original Patient Protection and Affordable Care Act, also known as the Senate bill.

[2] Prante and Fleenor, Tax Foundation Special Report, No. 172, "How Much Does President Obama's Budget Redistribute Income? Tax Foundation, September 2009. See www.taxfoundation.org/legacy/show/25200.html.

[3] See http://www.taxfoundation.org/legacy/show/25200.html.

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