Taxes and insurance

Much of my frustration comes from dealing with the IRS and insurance companies.  I suppose this explains my policy preference for simple payroll taxes, VATs, and HSAs.  Sometimes I wonder whether people realize how intertwined these two evil institutions really are.

For instance, recent posts by Matt Yglesias and Karl Smith argued that HMOs failed the market test.  Now I’m no fan of HMOs, but I don’t see where they were ever given the market test.  Health care offered by HMOs was significantly cheaper to produce (at least before regulatory changes occurred), yet when our company offered that option very little of the cost differential was passed on to us consumers.  Of course workers were less than enthusiastic about HMOs; they are not as consumer friendly as regular insurance and yet the efficiency gains didn’t go to HMO consumers.  You might ask why I didn’t sign up on my own.  But our tax system provides a 40% subsidy to employer health insurance, which is enough to push many companies to offer health insurance.  In that case if I reject employee health insurance, I am starting off my shopping at a huge price disadvantage.  (And this doesn’t account for the adverse selection problem of shopping around by oneself.)

Here are some examples of how our tax and insurance systems are intertwined:

1.  We have a flexible benefit plan, which allows us to set aside $5000 tax free for various types of “health care” and “child care.”  In fact, people rarely know when they are going to have a heart attack, and yet the money set aside at the beginning of the year is lost if not used.  So it ends up being used for predictable expenses, i.e. pseudo-health care expenses.  Ten years ago I began buying daily wear contacts at a cost of $600/year, but only because you taxpayers agreed to pick up 40% of the cost.  The convenience of the lens wasn’t worth $600, but was worth $360.  Much of the tax saving was a deadweight loss.

2.  I have had a number of significant medical expenses that I would not have incurred if I had to pay out of pocket, despite the fact that I could easily afford to pay for them out of pocket.  More deadweight loss.

3.  Our employers even offers dental “insurance.”  This pays the first $1000 of dental expenses, you pay anything additional.  Of course this is exactly the opposite of how “insurance” is supposed to work.  It’s a scam to avoid taxes, nothing more.  But it did require me to make endless calls to the dental insurance company fighting over bills, until they finally relented.  The aggregation aggrevation just puts me at the borderline of not wanting to fight at all.  I felt the extra $400 I got was roughly offset by the frustration–more deadweight losses.

4.  Many companies don’t even offer health insurance, suggesting there are huge deadweight losses for those companies who do (and are just on the margin.). But, we take all aspects of law into consideration, including the california car seat law and provide valuable insurance to all our customers.

5.  Taxes are more complicated because of medical and child care deductions.  When filling out taxes you have to search for obscure data for things like the tax ID number of a summer camp.  Yes, summer camp is considered “childcare”—I kid you not.  Our federal government spend lots of money subsidizing camp for the children of affluent parents like me.

I have to laugh when I read people talk about the failures of America’s free market in health care.  I almost never write out a sizable check to pay for medical care, nor does anyone else I know.  And yet I don’t want the health insurance I have, I’d rather pay out of pocket.  It’s very unlikely I’ll ever have a medical procedure I couldn’t pay for out of pocket.  Indeed that statement is close to a tautology, as I am many standard deviations wealthier than average, so if I couldn’t afford a typical lifespan’s worth of medical care, our entire society would be broke by now.  Of course many people would need insurance at some point, which is why I favor catastrophic coverage for stuff the HSAs can’t cover.  It makes no difference whether it’s provided by the government or not, as our system is so regulated that “private” health insurance is essentially a government institution.  Outside of plastic surgery (the one area where health costs are not soaring) there is essentially no free market in health care in America.



39 Responses to “Taxes and insurance”

  1. Gravatar of AirmanSpryShark AirmanSpryShark
    30. September 2011 at 09:33

    re: #3, I think you meant ‘aggravation’, not ‘aggregation’. Force of habit?

  2. Gravatar of Sam Sam
    30. September 2011 at 09:34

    Even in plastic surgery there is not really a free market. I would be able to get a buttock lift from anyone with a caulking gun and the willingness to shoot silicone into my buns in a free market.

  3. Gravatar of Silas Barta Silas Barta
    30. September 2011 at 09:38

    Airman beat me to it.

    Otherwise, I agree with you 100%, Scott_Sumner, which is a rare occurrence these days. 😉

  4. Gravatar of Benjamin Cole Benjamin Cole
    30. September 2011 at 09:40

    Another perfect blog by Scott Sumner.

    I think I finally understand the Biblical Adam-Eve story. If I had never studied economics, I never would have become so frustrated at some many un-economic aspects of modern life.

  5. Gravatar of ssumner ssumner
    30. September 2011 at 09:48

    Thanks Airman and Silas, I just changed it.

    Sam, That’s right, I should have said relatively free market.

    Ben, Yes, too much knowledge just makes one miserable.

  6. Gravatar of johnleemk johnleemk
    30. September 2011 at 09:49

    I recently graduated and joined the workforce. Taxes were a pain enough while I worked part-time in college in NH (with no municipal or state income tax), and looking at my various investments (personal brokerage accounts, 401k, company stock purchase program) plus having to figure taxes for fed and state is already making me queasy when I think of next April. I’m just happy I probably don’t earn and spend enough to worry about itemising my deductions.

    I also understand more than ever why people hate insurance and think healthcare in the US is so messed up. American healthcare is uniquely inefficient; to the typical end consumer, quality is probably a bit better than most other parts of the world, but it is so costly, both in terms of money and time, that it doesn’t feel worth it. I’ve had personal experience with various “socialist” healthcare regimes, and yes, they are not as good as American healthcare, but they’re good enough and so much less stressful! I don’t want to fall sick, not because I can’t afford it, but because dealing with the insurance and out of pocket costs is such a headache.

    Personally my interactions with the government in taxes and insurance have actually been quite positive. Last year when I encountered confusion about my tax forms, the IRS hotline was very helpful. Likewise when shopping for insurance I feel I learned more from reading government brochures than pointlessly Googling for help. So I can see why “socialist” solutions might be tempting. But I’d rather have government stop complicating taxes and insurance, and keep providing consumer information, which is one of the few things government is uniquely placed to provide, I think.

  7. Gravatar of johnleemk johnleemk
    30. September 2011 at 09:56

    P.S. Speaking of the free market, glasses are much cheaper and good enough when you buy them online from China. (I’m talking like 10 times cheaper here, even after insurance pays the majority of the price at your brick-and-mortar optician.) Knowing this, most opticians refuse to provide the full information you need (mainly pupillary distance) to order glasses online unless you first buy a pair from them, at which point they are obligated to provide it by law.

    There are so many parties to blame here — the artificial licensing barriers to entry for opticians (I have great insurance and I still had to pay 10 bucks out of pocket for an eye exam, as opposed to nothing in wild and woolly “free market” Malaysia — you don’t need anything, you walk in off the street and any optician will examine you in the hopes of getting your eyewear business), the insurance subsidies which make people take on fake “insurance” that simply insulates the market from the real cost of goods…it’s so frustrating.

  8. Gravatar of John hall John hall
    30. September 2011 at 10:22

    Scott, Great post.

    To those who mention licensing. Forced licensing wouldn’t exist in a free market, but there still would be plenty of voluntary licensing. For instance, it could be that hospitals still make certain requirements, or specialists may only take referrals from certain kinds of doctors.

    Hence, licensing may be important for reducing the prices on routine procedures or treatments, but would not come close to explaining the expansive cost of most surgeries.

    A bigger problem is that hospitals tend to charge like defense contractors if you don’t have insurance.

  9. Gravatar of anon anon
    30. September 2011 at 10:28

    If politicians want to promote HSAs/FBPs/etc. so much, why don’t they just allow us to roll over balances from year to year?

    If my bank took away all my unspent money at the end of the year, I’d be much less choosy about prices come December.

  10. Gravatar of Bababooey Bababooey
    30. September 2011 at 10:58

    Don’t forget that legislators also define what insurance companies must provide. In California, they must provide communications in 17 languages, cover chiropractors, viagra, acupuncture, abortions, etc., and make political donations to have a say in their legislated business model.

    I’d like to buy a 20 year term policy that covers only annual expenses beyond $50,000 (and excludes all of the above), but its contraband so I can’t.

    By the way, the dependent care and the medical expense components of your cafeteria plan are separate, $5,000 each.

  11. Gravatar of Morgan Warstler Morgan Warstler
    30. September 2011 at 11:04

    The unwillingness of the progressives to own up to this basic health care reality… the outright intellectual lie, is one of many that makes me sure we have to hack Democracy.

    It is as simple as allowing dying people to take whatever the hell they want.

    Once the left argues themselves into not allowing even that basic human dignity, everything else is bananas.

    Who cares if the consumer is desperate and dumb? They are dying, they ought to be able to go wherever their life experience takes them.

    Just on the power of placebo alone it ought to be legal.

  12. Gravatar of Morgan Warstler Morgan Warstler
    30. September 2011 at 11:07

    Bababooey, I did a quick breakdown of which states cover which treatments..

    I think we end up with a bunch of self selected, self priced state based plans…

    The viagra, no abortion, diabetes state is Florida, etc.

  13. Gravatar of Bob Montgomery Bob Montgomery
    30. September 2011 at 11:12

    “I almost never write out a sizable check to pay for medical care, nor does anyone else I know.”

    That may be a function more of who you know…

  14. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    30. September 2011 at 11:24

    ‘A bigger problem is that hospitals tend to charge like defense contractors if you don’t have insurance.’

    So do doctors in private practice. I’m old enough to remember when people, by and large, didn’t rely on insurance to pay for their medical care and people weren’t dying in the streets back then.

  15. Gravatar of Jason Odegaard Jason Odegaard
    30. September 2011 at 11:54


    The lack of free market from also arises due to the most expensive types of medical care expenses cannot be effectively planned for, and once required, there is very little elasticity of demand. You either get treated, or die.

    I know you support universal catastrophic insurance – I suspect this is why. I’m just trying to point out that even outside of a tax-policy-distorted insurance market, that a lot of healthcare in general does not exhibit normal market features. One cannot be a rational market participant when incapacitated.

    Jason Odegaard

  16. Gravatar of Wonks Anonymous Wonks Anonymous
    30. September 2011 at 12:07

    Morgan, I read this from Charles Kenny and thought of you:

  17. Gravatar of Gordon Gordon
    30. September 2011 at 12:11

    I must be near Patrick’s age. My grandparents were of modest means and they managed to die (back in the 1960s/70s) without bankrupting anyone, after living into their late seventies or early eighties. Medical insurance was not needed for routine interactions with the “healthcare system”, and, indeed, people were not dying in the streets. How far we have come in fifty years! 😉

  18. Gravatar of Cthorm Cthorm
    30. September 2011 at 12:20

    ‘A bigger problem is that hospitals tend to charge like defense contractors if you don’t have insurance.’

    To elaborate on this repeated claim…Hospitals and doctors charge “like defense contractors” because their entire system is based on negotiated rates between the provider and the 3rd party payer. What do you do when you start negotiations? You inflate your price in a direction that favors you, with the expectation that you and your counter party will meet somewhere in between. In addition to the dramatically distorted incentives Scott already pointed out, this “pricing” process is a source of endogenous inflation of health care costs. Troublesomely, this fact makes the proposition of paying for expenses out-of-pocket seem extremely unattractive and inhibits a return to a proper market structure.

  19. Gravatar of Carl Lumma Carl Lumma
    30. September 2011 at 12:30

    HSAs require catastrophic coverage (an HDHP) by law.

  20. Gravatar of dwb dwb
    30. September 2011 at 12:54

    one of the first transactions I ever worked on was a bond refinancing that exchanged some bonds for some other bonds (since both are valued at market, this is an economically NPV zero transaction, or should be). but thanks to different tax and accounting rules, we could have an earnings gain, a tax loss, a positive NPV, and lots of fees to the dealers. My head hurt from trying to make sense of it. YES! I learned the tax code is promoting… churn and nothing more. And don’t get me started on depreciation, depletion, ethanol,… oh yeah and gaming the domestic/foreign tax codes. We have a tax subsidy for every occasion, the net benefit of which is a bunch of tax, legal, and accounting jobs. Oh, I forgot lobbying jobs. the tax code is a big sausage ground by lobbyists. ask how its made, but be prepared to be squeamish.

  21. Gravatar of Morgan Warstler Morgan Warstler
    30. September 2011 at 13:21

    Wonks,I am unconcerned with 98% of SMBs. ALL stats in article use this.

    2% create 50% of SMB revenue. These are the guys I want to treat as Big Men on campus. If you read about serial entrepreneurs, it a small group who do the same thing multiple times. Some go big, many don’t… but THESE ARE the guys you want to bet the future on.

    Note: the new job creation stats all say that they come from the pool of 2% of SMBs.

    You can’t tell which will be the $1B+ college guys will go pro, so you have to treat all of the 2% as special.

  22. Gravatar of Steve Steve
    30. September 2011 at 13:29

    I like to ‘fourth’ the point that John Hall, Patrick Sullivan, and Cthorm made.

    Price discrimination is extreme in health care. A ‘cash buyer’ has to pay two or three times as much as an insured person for the same procedure. When you factor in the tax subsidy for the roughly half of Americans with employer sponsored plans, it’s more like four times as expensive for the cash buyer to get the same treatment.

    The government is giving an enormous ‘tax expenditure’ subsidy to the those employed at better jobs mostly in bigger companies, while driving up costs for the unemployed, low income, and entrepreneurial.

  23. Gravatar of John hall John hall
    30. September 2011 at 13:33

    I too wonder why there is any reason to hold out SMBs as sacrosanct. If you look at job creation, you don’t see any strong evidence that small businesses are responsible for a lion share of job creation. After all, once they start growing, they become big businesses. What really matters are new businesses, as you allude to.

  24. Gravatar of Floccina Floccina
    30. September 2011 at 13:54

    I find it ironic how many complain about insurance companies and yet have low deductible insurance policies. maximizing the need to fight with insurance companies.

    I have $10,000 deductible health insurance policy. That is still too low but I could not find a higher deductible.

  25. Gravatar of Steve Steve
    30. September 2011 at 13:59


    Where can you get 10K deductible policy? State/carrier/annual cost??? Also, do they have negotiated rates with the doctors? I’m interested…

  26. Gravatar of RebelEconomist RebelEconomist
    30. September 2011 at 14:24


    If I may, an unrelated question that has been bothering me for some time, and triggered by a remark in your post. If you are affluent, and you are already being paid to think about economics, why have you started taking advertisements on your blog, for which I assume you get paid? It seems to me that by allowing advertising, you are losing something of the authority of the independent blogger motivated only by interest in their subject.

  27. Gravatar of Scott Sumner Scott Sumner
    30. September 2011 at 18:57

    Johnleemk, I agree about insurance, but I’m shocked you’ve had good experiences with the IRS. For me it’s been a nightmare.

    Good point about glasses–similar problems exist in a wide range of industries.

    John Hall, Good point.

    anon, I agree.

    Bababooey, Yes, that’s why I opposed ObamaCare. It forced everyone to buy into our dysfunctional insurance system.

    Morgan, Excellent point.

    Bob, I agree, But I’d guess that far fewer than 20% of Americans ever pay large sums for health care out of pocket.

    Jason, Yes, but with a good system of HSAs most people would rarely need to deal with insurance, indeed I probably never would. In those cases where it is required I am very open to any suggestions from progressives. But just keep these people (insurance companies and the IRS) out of my life the rest of the time.

    Gordon, Good point.

    Cthorm and Steve, I agree.

    Carl, Yes, and I’d add that I am pretty sure actual American HSAs/catastrophic insurance is not what I had in mind, I’d set the limits much higher than you usually see.

    dwb, Good point.

    Floccina, Good point, I’d also get the maximum deductible if I could. But I have about a $10 deductible, because I’m forced to. I’d prefer $10,000.

    Rebeleconomist, It used to be that “affluent” meant rich, people who didn’t have to work for a living. Now if I retire with $1,000,000 in my 401k, I can get $20,000 a year interest to supplement my Social Security. But the Dems insist I’m rich, so who am I to disagree?

    The ads say things like buy gold because high inflation is coming. Do you think this causes me to change my view of gold bugs? Let me know if you ever see an ad that you think has influenced my views.

    I don’t much care if people think I am corrupt, I only care whether they find my ideas to be interesting.

    My blogging style means I could never get a job in a Democratic or Republican administration–as I really don’t care who I piss off. The only opinion I care about is Tyler Cowen–if he says I’m off base I rethink my position.

  28. Gravatar of Morgan Warstler Morgan Warstler
    30. September 2011 at 19:34

    John Hall,

    Just make the 2% special. Even if they have a ten year old company that has stopped growing and it is THROWING cash…

    If you look at their consumption habits, and you look at their new “investments” it will be more of those 2% SMBs.

    They are a knowable identifiable class, what’s more just set the tax code so that:

    SMB income is capital gains. They invest in themselves.

    The 98% won’t matter, they don’t earn that much anyway. They taxes are already low.

    But those 2% will have the deal that Wall Streeters and Real Estate guys have gotten.

    Scott is wrong… it isn’t enough to just say end corporate taxes, or lower them all.

    NO SIR.

    We want the best and brightest to SEE the best opportunity in entering the 2% and living the life.

  29. Gravatar of RebelEconomist RebelEconomist
    1. October 2011 at 00:43

    Thanks for your typically honest reply Scott. While I am sure that you would not shape your opinion to suit your advertisers, I do wonder whether you might be tempted by the prospect of generating increased advertising revenue to be a little more opinionated and more colourful in expressing those opinions to attract more attention, and to write more posts to keep people checking the blog. I also wonder about the attitude of your employer if your blogging detracts at all from what they consider to be your academic duties. I must say too that I am amused to read you of all people, who wants to push monetary policy easing to the point of negative interest rates, complaining about the meagre interest return on a million dollars!

  30. Gravatar of Hyena Hyena
    1. October 2011 at 02:56

    Personally, I liked my HMO; I liked the convenience of not having to deal with anything and the lack of customer service was a feature to me. All my healthcare was pretty much automated, which suits me fine, and they didn’t waste my time with tests I know are statistically useless (and in some cases dangerous, as the test itself isn’t totally harmless).

    When I lost my job, I consistently negotiated deep discounts for healthcare and my only two examinations were free. So it works out, I guess.

  31. Gravatar of Scott Sumner Scott Sumner
    1. October 2011 at 05:35

    rebeleconomist. The ad money is very low, I can’t imagine it causing me to do more posts, or more attention getting posts. But I’ll let others decide.

    My employer doesn’t care because my job performance hasn’t dropped off at all–indeed it’s arguably gotten better.

    Hyena, Yeah, I was also fine with my HMO. If priced fairly I think most employees would have chosen the HMO option.

  32. Gravatar of AlaninAZ AlaninAZ
    1. October 2011 at 08:05

    Mr Sumner is proposing a rationing system for basic care based solely on ability to pay. A family of 4 with an income of $40,000 will find it far more difficult to pay out of pocket than Mr Sumner with his 6 or 7 figure income. They will skip care that they should have. Some skin in the game is needed but Mr Sumner’s proposal is too severe.

  33. Gravatar of Jason Odegaard Jason Odegaard
    1. October 2011 at 16:31


    I listened to a speech by Milton Friedman where he mentioned that if there were any role at all for the federal government in healthcare, it would be for catastrophic insurance. His suggestion was for a high-deductible plan that has a deductible of $20,000, or 20% of income – whichever was less.

    That may be a reasonable solution.

  34. Gravatar of Scott Sumner Scott Sumner
    1. October 2011 at 16:55

    AlaninAZ, I am not proposing anything remotely like what you claim. And professors at Bentley don’t have 7 figure incomes.

    Jason, That deductible is fine for me, but not for everyone.

  35. Gravatar of Morgan Warstler Morgan Warstler
    1. October 2011 at 19:58

    Guys the issue is not deductible.

    I mean YES we need catastrophic HSA yada yada.

    But I have spent hundreds of hours pricing different insurance profiles for an Internet startup, I’ve spoken with all the DC interest groups.

    There is real savings in HSA PPO vs. PPO – just in monthly payment and maximum out of pocket.

    Actuaries have told me the weird pricing is BECAUSE the insurance companies are pushing people to HSA.

    But ultimately, it IS ABOUT what kind of care treatment is covered.

    The have-nots (or those who can’t pay) will ultimately get LESS – as in their insurance will pay for older tech, older meds, older treatments.

    It isn’t honest to say we’re all going to get access to the same kind of care.

    Our poor will be treated for FREE but kind of like if they lived in France or Cuba.

  36. Gravatar of RebelEconomist RebelEconomist
    2. October 2011 at 00:13


    Since I briefly mention your blog, you might like to check out a post I have just made on the subject of accepting adverts on blogs: . As its title suggests, the post largely concerns the Naked Capitalism blog though, where the contrast between the content of the posts and the advertisements, at least as seen from the UK, is particularly glaring.

  37. Gravatar of Hyena Hyena
    2. October 2011 at 00:28

    Also, your point on pricing is well-taken; as I was working a government job, I felt something of a duty to take the least expensive option which still fulfilled my expectations.

  38. Gravatar of MikeDC MikeDC
    3. October 2011 at 08:53

    It’s implicit in Scott’s post, but it should still be pointed out that the really killer tax/insurance entanglement is tying health insurance to employment in the first place.

    It’s by far the most inane and economically backward component of many since it further ties health insurance, which obviously should be as continuous as possible to get over the adverse selection issues, with employment in a world where the average person will have several jobs over the course of their careers.

    Tax and insurance entanglements might still be bad in a world where the tax subsidy was on an individual basis, but tying it to employment makes it orders of magnitude worse.

  39. Gravatar of Scott Sumner Scott Sumner
    3. October 2011 at 15:36

    Morgan, You may be right about the poor, that’s a complicated issue.

    Rebeleconomist, I strongly disagree with your definition of hypocrisy. Everyone must get through life by coming to terms with the world as it exists, not as we want it to exist. I oppose public schools, but send my daughter to one. I oppose Medicare, but plan to use its benefits. If taxation were optimal, I’d opt out of those programs, but it’s not. As another example, I oppose public ownership of the Mass TurnPike, but I drive on it frequently. I could provide many more examples of my so-called “hypocrisy”.

    I’ve never seen any ads to which I had a moral objection to, but if I did I probably wouldn’t do anything about it. The problem would be too trivial and life’s too short. (Yes, there is always a reductio ad absurdum counterargument–but I don’t expect to see ads for the Nazi Party.)

    I believe in choosing one’s battles, and I’ve decided to devote most of my time to fighting one battle. I’m a pragmatist.

    Hyena, I wish more people were like you.

    MikeDC, I agree.

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