means tests as stealth taxes

Harvard economist Greg Mankiw has a wonderful column that illustrates a favourite truism of mine: means tests are equivalent to taxes on the relatively well-off. They are ‘stealth taxes’ because they are hidden.

Democrats want to increase taxes on the rich to fund the looming fiscal gap, which is driven largely by soaring health costs. Republicans object, saying higher taxes create economic distortions, discourage work and impede growth. Last month, John A. Boehner, the House speaker, said that we should instead consider means-testing Medicare. But what does that mean?

Here is how means-testing might work. We could start by choosing some income threshold — say, $250,000 — and then require people over 65 with higher annual income to pay more in Medicare premiums than they do now. For example, for every $1,000 of income beyond the threshold, they might have to pay an extra $10 in annual premiums.

Sounds good, right? But notice that the economic effects of means-testing are much the same as a tax increase. This particular plan is like increasing the income tax rate by one percentage point for high-income seniors. It is only semantics as to whether the $10 is called a “tax” or a “premium.”

Professor Mankiw also looks at Obama’s insurance mandate, which imposes a fine on anyone who refuses to purchase health insurance. Republicans oppose this mandate, but are not clear about how they would proceed to achieve expanded health care coverage. Senator John McCain – Obama’s opponent in the 2008 presidential campaign – prefers carrots to sticks: a tax credit for purchase of insurance rather than penalties for not buying it. But who would pay for the tax credit?

The answer is all taxpayers. This tax burden would be particularly hard on the uninsured, who would face higher taxes without enjoying the credit’s benefit. In other words, giving a tax credit to those who buy insurance is a back-door way to impose fines on those who don’t.

N. Gregory Mankiw, “Economic View: Seriously, Some Consensus About Health Care“, New York Times, 19 June 2011.

Carrying Mankiw’s logic a bit further, who pays for the tax breaks given to (1) workers with employer-provided health insurance and (2) those contributing to government-approved retirement savings plans? The answer is all taxpayers. Taxpayers who do not have employer-provided health insurance or do not have approved retirement savings come out on the short end of the stick. Inevitably, these are among the poorest and least-advantaged of taxpayers.

Greg Mankiw (born 1958) chaired President George W Bush’s Council of Economic Advisors from 2003 to 2005. He is advising Mitt Romney, former governor of Massachusetts, in his campaign for the Republican presidential nomination.

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