Tax-free benefits under the microscope – this time it’s serious

Keep an eye on your employee benefits when you hear rhetoric about balancing the federal budget and dealing with the deficit.

If you were charged with the tough job of balancing a humongous budget with the goal of spreading the pain and assuring no large group benefited more than another, what would you do? I suspect you would look at your largest expenses first and at those expenses that are spread among the most people.

Remember these numbers:

$1,012,000,000,000 and $727,000,000,000

Those numbers (combined $1.7 trillion) are the tax expenditures for the federal government between 2013 and 2017 for exclusion of employer contributions for insurance premiums and medical care and exclusion of employer sponsored pension plan contributions and earnings (includes 401k plans).

That “exclusion” by the way is exclusion from your taxable income … Bingo!
It is only a matter of time. Watch what happens with tax reform and deficit reduction later this year.


5 replies »

  1. Congress’ Joint Committee on Taxation (JCT) estimates that the FY2011 tax expenditure attributable to the exclusion for employer payments (including pre-tax employee contributions) for health insurance premiums, health care, and long-term care insurance premiums was $117.3 billion. The estimate does not include the effect of the exclusion on employment taxes (See Tax Benefits for Health Insurance and Expenses: Overview of Current Law, Janemarie Mulvey, Specialist in Health Care Financing, January 10, 2012)

    However, the current method for calculating tax expenditure estimates for retirement benefits is, at best, misleading. It dramatically overstates the cost of such preferences. That happens because the estimates only look at the ten year period including the current federal fiscal year. Since these are retirement benefits, and since all of the taxes that would have been collected were not avoided but only deferred, and generally, deferred to a period after the ten year budget window, the current deduction overstates the cost because the taxable payout generally comes after the window period.

    One study confirms that the correct measure of the value of the tax expenditure for retirement savings, an apples to apples comparison, is to measure the present value of the tax benefits attributable to the current year retirement savings. So, it would be calculated as the present value of the tax benefit on future earnings, plus the present value of the tax benefit of deferral of current year contributions. Correcting the estimates in this fashion reduces the expected cost:
    – 34% lower than the JCT one year estimates,
    – 54% lower than the Treasury one year estimates,.

    Further, the present-value tax expenditure estimates of contributions made in the first
    five years are 55 percent lower than the JCT five-year estimates and 75 percent lower than the Treasury five-year estimates.

    I raise this point to confirm that legislation to curtail tax preferences on retirement savings will be “scored” by the Congressional Budget Office using the budget window method – dramatically overstating the savings.

    Simply, it is as misleading as last year’s budget deal. As reported in the August 3 & 4 New York Times, the budget deal “… cut some $2.4 trillion in government spending over ten years…” Of course, not one penny in current levels of spending was actually cut. All Congress did was slightly slow the projected increases in spending. And of course, all of the cuts start in 2013, so, the jury is still out whether they will actually / ever take effect.

    If nothing else changes, even after the $2.4T reduction, we will still see growth in the federal deficit – from ~$10T when Bush left office, to almost $20T when Obama leaves office in 2017, estimated to potentially add ANOTHER $12 T from 2012 to 2021, leaving a federal debt by the end of the 2021 government fiscal year of maybe $25T.


    • That’s a valid point, but politicians tend to bend the numbers to fit their position. Nevertheless, I think the greatest risk is in the health benefit area. There you also have a far more unequal impact between those who receive employer benefits and all other Americans.


      Richard D Quinn Editor

      Visit these blogs:

      Health Insurance Illuminated


      • Dick, while I hate to give them any ideas, I think the biggest risk is a change in employment taxes. We just saw them give up an estimated ~$350B (2011 and projected 2012 costs, however, this estimate may not be accurate) to cut employment taxes by 2%. We know the Medicare Part A trust fund is in deep trouble and just a year or so ago, because of all of the newly “disabled” individuals claiming social security disability benefits (the “DI” in OASDI), the Social Security Trust Fund is now running a deficit – many years too early.

        Solution? Back when I had brown hair, in 1983, they last faced these types of cash flow challenges. One of the sleeper changes, no one seems to remember, is that they flipped IRC 401(k) deferrals from pre-tax for FICA and FICA-Med to after-tax. One way to generate massive new revenues to FICA and FICA-Med is to take the same action with respect to IRC 125 pre-tax contributions for medical, dental, life, LTD; and perhaps with respect to employer contributions to pension and profit sharing plans – defined benefit, defined contribution, 401(k), etc.



      • It would seem to me that eliminating Section 125 premiums would be a no brainier. Most people don’t even realize what they have.


        Richard D Quinn Editor

        Visit these blogs:

        Health Insurance Illuminated


  2. Thanks for another great post Mr. Quinn.

    While most people are focused on corporate tax expenditures, (the loopholes and tax breaks for the evil corporations), that’s not where the real money is.

    Tax expenditures for 2011 were (according to the tax policy center)
    Corporate- $103 billion
    Individual- $965 billion.

    The exclusion of employer contributions for health care, health insurance premiums, and long-term care insurance premiums for 2010 to 2014 alone is estimated to be $659.4 billion.
    Listen to what the politicians say but do the math for yourself.


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