59

percent deductibility is not going to happen for 1994, that it is ex-
pired, they don’t even believe me.

Chairman Tuomas. On that point, from an earlier panel, the
awareness question. Do you find that even with the possibility of
the 25 percent, people aren’t aware of it, but of course they haven’t
followed the fact if they knew they had it, they didn’t get it?

1 am concerned about the fact that even if it is only 25 percent,
there are people who are not aware of it which of course might
mean that they may not be offering some form of insurance that
they would otherwise offer.

Ms. Nelson.

Ms. NELson. I think my comment to that would be, if in fact we
have someone doing our taxes for us, we are going to know because
that adviser is going to tell us. I think what is happening, you have
got some of these self-employed people who can do their taxes
themselves, they think, and they miss that and they don’t know
that it is there. Unless they belong to an association, talking to
someone else you find out or their agent, hopefully, tells them, they
don’t know.

Chairman THOMaS. We have 7 minutes.

Of course the problem is compounded by the on-again/off-again.
If you were able to get some certainty to it over the years, people
would go into it with that knowledge, and it would become an auto-
matic part of the decisionmaking process. That is obviously our
goal.

I want to thank this panel very much. We are going to run over
and vote and be right back for the third panel.

Thank you.

(Recess.]

Chairman Tuomas. If we could start the third panel, I would ap-
preciate it. I would ask Jack Faris, Don Dressler, Lisa Sprague,
and I believe Julia Whitt is going to be with us instead of Bennie
Thayer.

All of your written testimony will be made a part of the record
without objection. You will have 5 minutes to proceed as you see
fit in the timeframe.

I guess, Jack, we will start with you.

STATEMENT OF JACK FARIS, PRESIDENT AND CHIEF EXECU-
TIVE OFFICER, NATIONAL FEDERATION OF INDEPENDENT
BUSINESS

Mr. Faris. Mr. Chairman, thank you, first of all, for inviting us
to be here today on a subject that is close to the heart and pocket-
book of everyone on Main Street, everyone on a farm, and everyone
that is gainfully employed trying to be a successful entrepreneur.
We do want to applaud you for the bill you have introduced to get
the 25 percent as a matter of the retroactivity, to be assured when
small businessowners are filing their taxes they will know that
they can still have 25 percent for last year.

Tam representing the National Federation of Independent Busi-
ness. We are the Nation’s largest and oldest organization of our
type representing over 600,000 small businessowners from all 50
States. Our typical member has five employees, $250,000 a year in
gross annual sales, and we set our policy based on the regular poll-


25

advocating that all employee health care benefits be taxed. I sincerely believe that
more smal! business owners would be able to afford health care coverage if
provided the appropriate tax incentives. I do not understand why the tax code
discriminates against the self-employed, We are the ones that need the most help
in being able to provide health care coverage for ourselves and our employees. If
we cannot take any deductions, our ability to provide coverage, at all, is severely

hampered.

T understand this deduction was established in the Tax Reform Act of 1986 for a
three-year period. NARI members have actively pursued the continuance of this
deduction every year since 1989, when it was first set to expire. We've been
fortunate enough to extend the deduction until Jast year. It is time this deduction
was made permanent and increased to 100 percent. While I realize that tax
deductions cost the U.S. Treasury money, so does the rising cost of Medicare and
Medicaid for those people who require care and have no insurance. Encouraging
greater employer-provided coverage through this tax incentive may end up saving.

the government money. Equal weatment for all types of business organizations,


COMMITTEE ON WAYS AND MEANS
BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois SAM M. GIBBONS, Florida

BILL THOMAS, California CHARLES B. RANGEL, New York
E. CLAY SHAW, JR., Florida FORTNEY PETE STARK, California
NANCY L. JOHNSON, Connecticut ANDY JACOBS, JR., Indiana

JIM BUNNING, Kentucky HAROLD E. FORD, Tennessee
AMO HOUGHTON, New York ROBERT T. MATSUL, California
WALLY HERGER, California BARBARA B. KENNELLY, Connecticut
JIM McCRERY, Lowi WILLIAM J. COYNE, Pennsylvania
MEL HANCOCK, Missouri SANDER M. LEVIN, Michigan
DAVE CAMP, Michigan BENJAMIN L. CARDIN, Maryland
JIM RAMSTAD, Minnesota JIM MCDERMOTT, Washington
DICK ZIMMER, New Jersey GERALD D. KLECZKA, Wisconsin
JIM NUSSLE, Iowa JOHN LEWIS, Georgia

SAM JOHNSON, Texas L.F. PAYNE, Virginia

JENNIFER DUNN, Washington RICHARD E. NEAL, Massachusetts

MAC COLLINS, Georgia
ROB PORTMAN, Ohio
PHILIP S. ENGLISH, Pennsylvania
JOHN ENSIGN, Nevada
JON CHRISTENSEN, Nebraska
PHiLLip D. Mose! Chief of Staff

JANICE MAYS, Minority Chief Counsel

SUBCOMMITTEE ON HEALTH
BILL THOMAS, California, Chairman

NANCY L. JOHNSON, Connecticut FORTNEY PETE STARK, California
JIM McCRERY, Louisiana BENJAMIN L. CARDIN, Maryland
JOHN ENSIGN, Nevada JIM McDERMOTT, Washington
JON CHRISTENSEN, Nebraska GERALD D. KLECZKA, Wisconsin
PHILIP M. CRANE, Illinois JOHN LEWIS, Georgia

AMO HOUGHTON, New York
SAM JOHNSON, Texas

ap


68

Chairman THomas. Thank you very much.

During the question period, given the type of people you rep-
resent, I would like to pursue some of the questions that we had
asked earlier. But first let’s hear from Ms. Sprague.

STATEMENT OF LISA M. SPRAGUE, MANAGER, EMPLOYEE
BENEFITS POLICY, U.S. CHAMBER OF COMMERCE

Ms. SPRAGUE. Thank you, Mr. Chairman.

As you know, the U.S. Chamber of Commerce counts among its
members 215,000 businesses, 96 percent with fewer than 100 em-
ployees, 71 percent with fewer than 10. I appreciate the oppor-
tunity to appear today to speak on behalf of all those businesses
on the issue of health insurance deductibility for the self-employed.

Few issues are as clear cut and convincing. Restoration of the 25-
percent deduction is a top priority for the chamber. Further, we re-
gard full deductibility as an indispensable element of future reform
efforts.

The chamber’s membership is diverse, which at times can result
in varying priorities within a given legislative issue, particularly
one as complex as health care. But we have yet to hear from a sin-
gle membership constituency, or indeed a single member, any sug-
gestion that equity in the deductibility of health insurance should
not be a top priority for the chamber as a whole.

You and others have noted that from 1986, a 25-percent deduc-
tion for self-employed persons was granted and repeatedly ex-
tended until Congress failed to renew it in 1994. Ironically, then,
the one measurable result of the health care reform debate that
dominated the year was that the most vulnerable of those who pro-
vide health insurance were left in worse straits than before. They
do, as others have said, feel this deeply.

The chamber calls on Congress to restore the 25-percent deduc-
tion for 1994 and to act quickly enough in order that self-employed
filers may reflect it in their 1994 tax filings. In this connection, we
welcome and support your bill, Mr. Chairman.

To be sure restoration of the 25-percent deduction is no more
than a quarter of a loaf, I join with my fellow panelists in stating
that what is really needed is legislation to permit a 100-percent de-
duction of health insurance costs. The chamber urges this sub-
committee to work to enact deductibility in 1995. Recognizing that
the major obstacle to such action is its cost in tax revenues, the
chamber is willing to consider a phased-in approach to get to 100
percent. But what we cannot accept is that the smallest businesses,
frequently new and often struggling, should be denied a measure
of security granted to larger businesses.

The chamber wants to commend the subcommittee for examining
an issue that has been a thorn in the side of the Nation’s smallest
businesses for many years. We look forward to working with you
to remove that thorn and to enroll the self-employed as full part-
ners in our common effort to make private sector health insurance
more available and more affordable.

Thank you.

[The prepared statement follows:]


19

Previous Health insurance Coverage

‘The 25 percent income tax deduction was available only to those persons who were self-employed
(sole proprietorship, partnership, or "S" corporation).

Thus, the change in the tax law will affect only that portion of the
population that is self-employed and has health insurance coverage.

We begin by defining the number of self-employed workers with health insurance and then extend
that to the number of persons having coverage through self-employed workers.

Analysis of the 1991 Current Population Survey! reveals that there were 12.6 million self-
employed workers of whom 9.6 million (76.7 percent) had private health insurance. Of these,
6.2 million (49.1 percent) have employer provided coverage.

Further analysis of the 1991 Current Population Survey” shows that there were 17.6 million
self-employed workers and dependents with health insurance. These dependents are almost
entirely children under 18°, Since there were 12.6 million self-employed, this equals 1.4 persons
per self-employed worker with health insurance.

Price Elasticity of Demand for Health Insurance

Economists use the term “price elasticity” to denote the change in purchases that accompany
a change in prices, Not surprisingly, price elasticities are negative, i.e. as prices increase,
purchases decline.

The range of price elasticities for health insurance as published in economic research journals
varies widely from a tow of -0.06 to a high of -0.67*, Selecting a specific elasticity from among
this wide range is made somewhat easier by Holmer's research, Holmer demonstrates that the
elasticities calculated prior to his work were too large because of methodological errors. He
reports smaller elasticities than previous research. His price elasticities are calculated for differemt
income groups; -0.39 for families with annual incomes below $15,000; -0.14 for families with
incomes from $15,000 to $25,000; -0.08 for families with $25,000 to $40,000; and lastly, -0.06
for families with over $40,000 annual income. The overall weighted (weighted for income
distribution) price elasticity is calculated to be -0.16°,

Given the wide variation in elasticities among income groups, calculation of the appropriate
elasticity for the self-employed who purchase health insurance requires an estimate of self-
employed income. Statistics from the 1991 Current Population Survey show that employer-
provided health insurance coverage is related to family income. The greater a family's income,
the more likely it is to have employer-provided private health insurance. Families with incomes
under $6,000 have coverage of 5.4 percent; $5,000-9,999, 12.6 percent; $10,000-14,999,

32.7 percent: $15,000-19,999, 43.4 percent; $20,000 to $29,999, 65.4 percent; etc.


15

Chairman THomas, Thank you very much, Mr, Neal. Your sug-
gested solution is one of the four in front of us. Neither one—and
none of the four are exactly identical, and you provide an approach
which we have discussed at some time and we appreciate that ap-
proach.

The chairwoman of the Small Business Committee, who is not
here, her approach is a 25-percent fixture, both for the retroactive
year and prospectively, so you have given us a nice smorgasbord
of choices and I thank the gentleman.

Mr. NEAL. Thank you, Mr. Chairman.

Chairman THomas. Our next witness is someone who is not new
to this subcommittee and was of enormous help to us as we were
trying to pat together health care reform in the last Congress, be-
cause in his former life as the insurance commissioner in North
Dakota, he had wrestled with a number of these decisions and had
overseen the decisions that had to be made at the State level.

It is a pleasure to have you, Earl, once again in front of us.

STATEMENT OF HON. EARL POMEROY, A REPRESENTATIVE IN
CONGRESS FROM THE STATE OF NORTH DAKOTA

Mr. Pomeroy. Mr. Chairman, thank you. It is a pleasure to be
back in the subcommittee and it is a pleasure to see Chip Kahn
back behind you and back in public service. I worked with Chip
back with my first trip to Washington as an insurance commis-
sioner. I have the highest regard for his polish and expertise in this
area.

I also want to commend you for H.R. 697. Our people are telling
us that if they have to chase after this 25 percent deductibility
through an amended return, the cost of an amended return is $75
to $125 depending on your accountant, it pretty well wipes out the
deduction. So you are quite right, we need to move it and move it

uickly. It is a component of H.R. 52 which I have sponsored. I am
delighted that you have created a vehicle that might allow it to
move on a faster track.

Of the proposals before us, I would represent the most generous
deduction, the 100 percent, but it isn’t a Pomeroy bill. It is very
much a bipartisan bill, 60 cosponsors, and they are split about even
between Republican and Democrat support for this measure.

The plight of the people who have to write their own premiums
is that they are not in an employer group so their premiums are
higher. I have observed this as an insurance commissioner. Second,
they get no tax deduction for it and so it is kind of a double hit.
I think that as we deal with this matter, we need to make perma-
nent a component of deductibility of individually written health in-
surance and then the amount we discuss is debatable. I strongly
favor the 100-percent approach.

Just let me give you a couple of reasons that would, in a very
real way, help people that month to month write their premium
checks. I have 32,000 farmers, an awful lot of self-employed people
in the State of North Dakota. A typical young farm family in my
State makes $20,000 a year, pays about $2,700, even though they
are age rated at the young end of the age scale in a Blue Cross
& Blue Shield policy. If this deduction was at 100 percent, they
would save $400 a year. For many, that is the difference, on a


14

‘Tax Equity

Current inequities in the federal tax law make it more difficult for the self-
employed to be able to afford health insurance. It has been a long-standing
practice under the tax law that corporations have been permitted to deduct all of
the health insurance premiums paid on behalf of their employees.

However, it wasn’t until 1986 that Congress attempted to rectify to any
degree the disparity in the tax treatment of health care premiums between
unincorporated businesses and corporations.

Beginning in 1986 and continuing through the end of 1993, self-employed
persons had been permitted to deduct 25-percent of their health insurance
premium costs from their taxes. However, even with the 25-percent deduction, a
self-employed individual incurs a higher effective cost when purchasing a health
insurance policy because he or she primarily pays for the insurance with after-tax
dollars. This is in contrast to employees of large corporations who generally have
their policies paid for by the company with pre-tax dollars.

As | stated previously, the health insurance deduction for the self-employed
‘expired at the end of 1993. | am fully aware that Congress did attempt to address
the issue last year within the context of health care reform.

Throughout the initial discussions on reforming our health care system, the
self-employed were promised that their quest for a 100-percent health insurance
deduction would be answered affirmatively through the passage of final health care
legislation by Congress. The NASE had every reason to believe this -- the 100-
percent deduction had been a common theme in every major health care bill
introduced in Congress in 1993 and 1994, including President Clinton's Health
Security Act. Last year, everyone assumed that the deduction would be re-
instated to at least the 25-percent level. Most of the major legislation addressed
tha issue retroactively and raised the deduction to 80 or 100 percent over a period
of time, However, when health care reform died, so did the deduction.

Several bills have been introduced this Congress that would reinstate the 25-
percent deduction for 1994 and raise it to 100 percent from 1995 on. The NASE
and | support those pieces of legislation,

Unfortunately, we have found the road towards 100-percent deductibility to
be one with many promises and little delivery. Even retention of a 25-percent
deduction since 1986 has been fraught with much frustration. Every year the self-
employed community would be promised a permanent, full deduction of their
health insurance premiums, only to find themselves held hostage to federal revenue
and budgetary concerns. In this way, self-employed persons have found their
partial health insurance deduction subject to continual renewal on a year-to-year
basis.

(urge the Ways and Means Committee to: (1) take immediate action to
ensure re-enactment of the 25-percent deduction for 1994 and (2) raise the level
to 100 percent for 1995 and beyond so that the self-employed can buy quality
health care coverage for themselves and their families.



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39

Chairman THomas. Thank you very much.
Professor.

STATEMENT OF JONATHAN GRUBER, ASSOCIATE PROFESSOR
OF ECONOMICS, MASSACHUSETTS INSTITUTE OF TECH-
NOLOGY, CAMBRIDGE, MASS.

Mr. GruBeERr. Thank you.

Thank you for allowing me to speak to you today about the tax
treatment of health insurance expenditures for the self-employed.
Let me start by just saying one word of background about the tax
treatment of health insurance for both employed and self-employed
individuals. For the past 50 years, the value of employer provided
health insurance has not been included in an individual’s taxable
income. This provides a substantial subsidy to the purchase of
health insurance by employed individuals amounting to roughly 35
percent of the cost of health insurance.

For self-employed individuals, however, there has not tradition-
ally been such a subsidy and perhaps as a result, insurance cov-
erage rates among the self-employed were about 20 percent below
those of employed persons. To partially remedy this discrepancy,
Congress introduced in 1986 the 25-percent partial tax deduction.
In research with my colleague, James Porterba at MIT, we found
that this partial tax subsidy had a dramatic increase on the health
insurance coverage of the self-employed.

We estimated that the introduction of this subsidy lowered the
uninsured rate among the self-employed by about 13 percent; or to
put it in other words, this partial subsidy reduced the gap between
self-employed and employed individuals in insurance coverage by
about one-fifth. So this suggests that the insurance demand of the
self-employed is very sensitive to the price that they pay and sen-
sitive to the kind of tax subsidization that we are discussing today.

Now, in that research, we had one other finding which is of inter-
est I think for the subcommittee’s deliberation today which is that
the response to this subsidy was mostly concentrated among the
high income self-employed. That is, coverage rose only slightly for
lower income selfemployed persons. But for those with income
above $50,000 a year, it rose dramatically.

This reflects the fact that a tax subsidy is much more valuable
for higher income taxpayers because it is worth more in dollar
terms since they have a higher tax rate.

Now, with that background in mind, what I would like to do is
talk about a couple of notions that that leads to in terms of think-
ing about future tax policy.

First of all, I think the generosity of the tax subsidy for the self-
employed could and should be increased. Insurance coverage among
the self-employed remains roughly 15 percent below that for the
employed, and since my research suggests that the insurance cov-
erage of the self-employed is sensitive to the tax treatment of their
health insurance expenditures, increasing the tax subsidy could
further narrow this inequity between employed and self-employed
individuals.

But second, I would suggest that we think about the insurance
deductibility being replaced with a limited refundable tax credit.
For example, the self-employed individual could be offered a credit


64

Chairman Tuomas, Thank you very much, Mr. Faris.
Mr. Dressler.

STATEMENT OF DON DRESSLER, PRESIDENT, INSURANCE
SERVICES, WESTERN GROWERS ASSOCIATION, NEWPORT,
CALIF.

Mr. DreEssLer. I am Don Dressler with the Western Growers As-
sociation. We are an association of fruit and vegetable growers
based in California and Arizona.

Our members collectively produce half of the fruits and vegeta-
bles produced in the United States. A number of our members are
self-employed individual farmers, many of which do their work
themselves or have a few employees and especially new businesses
and new farming operations started on a self-employed basis.

In addition to the equity argument, we think there are several
other things that also should be considered when you look at this
deductibility issue.

It was interesting in a recent report I saw just preparing for this
trip, in the Health Affairs Journal there was a study that was done
by a number of different people, including the University of Ala-
bama, indicating among small employers, the prevalence of health
insurance is twice as high in corporations as those who are unin-
corporated. That seems to me to be a pretty significant indicator
of the power of the deductibility item because, if you are talking
about similar sized businesses and some are incorporated and oth-
ers aren’t, then this has to be a critical factor.

We all know that probably the most important factor in decisions
on purchasing health insurance is price. Another interesting thing
I thought the study indicated is that price of health insurance is
fairly elastic, meaning a small impact can be magnified and have
a dramatic effect on purchasing decisions.

Well, first of all, we agree, it should be equal for everyone. But
clearly the more deductibility, the more impact it has on encourag-
ing health care. You are reversing it in a sense. In fact, there are
some indications a reduction in price by 5 percent would increase
purchases by 15 percent. So if you can get that kind of leverage,
clearly the more that you can invest in the process, the more im-
portant it will be.

I would say secondary to price is the issue of reliability. One of
the most important reasons why many people have not purchased
health insurance is they are not sure that it is not going to be
there and they are not sure they can count on it. Part of that, of
course, has to do with if you are an employer with a employee, you
don’t want to purchase benefits for an employee if you don’t have
them for yourself.

The second thing is, you don’t want to purchase them for your
employee and have to take them away because then you have a
really unhappy, demotivated employee.

Make this decision once and for all and be fixed and permanent.
That will also help us with the knowledge and awareness of the
issue because, once it is there and established, it is much easier to
start educating people about it and they can make business deci-
sions based upon it.


35

STATEMENT OF JERE W. GLOVER, CHIEF COUNSEL FOR ADVOCACY
U.S. SMALL BUSINESS ADMINISTRATION

Thank you Mr. Chairman and Members of the Subcommittee for this
opportunity to appear before you today to discuss an issue of
vital importance to this nation’s snall business community. I
appear as Chief Counsel for Advocacy to express my own views
which may not reflect the views of the Administration.

Prior to my appointment by the President as Chief Counsel I
established and operated several small corporations in addition
to managing a private law practice. As a result, I have “hands~
on" experience with the issues challenging small business. TI
might add that private sector experience is a statutory
reguirement for the job. When Congress created the Office of
Advocacy in 1976, it had the wisdom to specify that the Chief
Counsel should come from "civilian life" to ensure that the
occupant of the office would have a clear perspective of the
impact of public policy on small business and the needs of small
enterprise.

I congratulate the Chairman and this Subcommittee for moving so
quickly to give serious consideration to extending the deduction
for health care premiums to the self employed, including sole
proprietorships, partnerships and subchapter "Ss" corporation.
Hopefully, these hearings will convince the subcommittee of the
need to extend the deduction and to increase it to 100% of the
insurance premiums paid by business owners.

‘The overall mission of the Office of Advocacy is to represent the
views and interests of small business. And in the context of
this hearing, the Office has the specific duty to

",...determine the impact of the tax structure
on small businesses and make legislative and other
proposals for altering the tax structure to enable
all small businesses to realize their potential for
contributing to the improvement of the Nation's

Given this mandate, my testimony will come as no surprise to you.
I support treating the health insurance cost of self-employed
small business men and women as a fully deductible business
expense. I join prior Chief Counsels who also supported the
deduction when the issve was before Congress in prior years.

My reasons are rather straightforward. The deduction should be
allowed because:

- it’s fair - there is no rationale for treating
unincorporated business owners differently than incorporated
business owners, and

= it is’consistent with a national objective to encourage
health care coverage for all working people.

Mr. Chairman, I and other members of my staff have spent the last
several months in meetings across the country with thousands of
small businesses in preparation for the White House Conference on
small Business which will be held in Washington this summer. One
of the top recommendations expressed at every one of these
meetings is continuation of the deductibility for health
insurance premiums.

I was encouraged by the President’s State of the Union address
when he mentioned that he wants to make health care insurance
nore affordable for everyone, including small businesses. The
proposal you are considering today is a good start towards
achieving that goal. Allowing the owners of sole proprietorships
and "S" corporations to deduct the cost of their insurance
rovides a greater incentive to offer health insurance to their
mployees.You can count on the full support of small business
and, judging by recent history, widespread support here in
congress.



67

Even with the lower rates obtained through the use of self-
insurance, many farmers will have great difficulty in affording
coverage unless they are able to deduct the full cost of health
insurance, Thus, the number of the nation’s uninsured
individuals will increase even further.

Western Growers is disturbed that the issue of health insurance
deductibility was allowed to go unresolved during the recent
health care debate. Moreover, we are astonished that the 25
percent deductibility for self-insured individuals’ health care
costs--an amount which was enacted in 1986 and has been extended
or reinstated retroactively ever since--was not continued.
Independent farmers and producers do not have the luxury of
waiting out the political storms in Washington, D.C. They must
soon fill out their tax returns for 1994, and if the 25 percent
deductibility is not restored before their returns are due, many
farmers may be forced to discontinue the insurance policies that
they are already hard pressed to afford.

It should be remembered that if sole proprietors and partnerships
were able to fully deduct the cost of health insurance they buy
for themselves and their families, more of them would be able to
afford to offer insurance to their employees. A study performed
recently by the Center for Health Policy at the University of
Alabama found that 90% of small businesses listed premium cost as
the major factor preventing them from providing insurance to
their employees. Moreover, this study found that the health
insurance purchase decisions among small employers were very
elastic, which means any reduction in the cost would greatly
increase the likelihood that the employer would provide insurance
to the employee. In quantifiable terms, the study found that a
5% decrease in the cost of insurance increased the utility of the
insurance by 15%.

Given this situation, by allowing a tax deduction for health
premiums for self-employed individuals, you are attacking the
primary reason for why people are uninsured today - that reason
is high cost. Another statistic which illustrates the disparity
between corporations and non-incorporated businesses is that,
while 62% of small firms (50 employees or less) which were
incorporated provide health insurance for their employees, only
33% of those which were not incorporated did so.

Clearly, other steps are necessary, beyond extending tax
deductibility, in order to expand the availability of affordable
health care. We have seen in California that basic insurance
reforms for small business group insurance can contribute
significantly towards this goal. Currently, only 17% of small
employers get their health coverage through group plans.
Insurance reform such as that enacted recently in California
would certainly increase this number, thus increasing the
availability of affordable insurance. Given this experience,
Western Growers Association supports reforms such as guaranteed
renewability, limitations on experience rating, and limitations
on pre-existing conditions, and we encourage Congress to take
action in this regard.

Thus, tax deductibility of health insurance costs benefits more
than just self-employed individuals. It is one step that
Congress can take right now towards increasing the number of
Americans with health insurance without enacting problematic,
full-fledged reform of the nation’s health care system. We urge
Congress Eo reinstate the 25 percent tax deduction for self-
employed individuals and highly recommend that the deduction be
inereased to 100 percent and made permanent.


45

Chairman THomas. Does the gentleman from Nebraska have any
questions?

Mr. CHRISTENSEN. I don’t, Mr. Chairman, not at this time.

Chairman THomas, Thank you.

Mr. Glover, Mr. Gruber talked about the apparent lack of aware-
ness of this obviously desirable deductible provision, and I know
that we have been inundated by a number of groups representing
small business and others.

Do you have any kind of studies or indication of outreach pro-
grams in trying to deal with the awareness, or do you in fact agree
with the professor that there is a problem of awareness?

Mr. GLOVER. I agree very much and it is probably out of my bias
or prejudice over the years dealing with the Internal Revenue Serv-
ice some years ago. Generally speaking——

Chairman THomas. In a personal or professional way?

Mr. GLoveRr. I personally have always done all right. 1 wouldn’t
get through Senate confirmation if I had done anything that didn’t
work out. But professionally, what we see is if it is a benefit to
small business, it often times doesn’t even make it on the form. For
example, right now we are in a situation in which we were last
year when we extended it late in the game.

Often there is not even a blank on the tax form for it. The IRS
doesn’t do much to promote those kinds of things. One other thing,
we had a job tax credit some years ago, and one of the reasons the
IRS said that it should be abolished was because small businesses
weren’t using it. The fact is, there was nothing on the form that.
indicated you could.

Clearly there is an education problem. Small businesspeople
often don’t know about the deductions permitted. Given the reac-
tion we are getting in the White House conferences, small
businesspeople are fully aware of the fact that the deduction for
health insurance has been taken away. Clearly promoting it would
probably help. We are hearing a lot of noise and very articulate
concerns about it in each of those State conferences.

Chairman THOmas. In addition, Mr. Gruber indicated that there
were options like a tax credit. 1 think also within that, as you saw
in the testimony of the Members, we tend to be almost locked into
a ritual in terms of the options available to us. Not only could you
look into a tax credit structure, but you could also get into that
percentage where the behavioral tip is to try to motivate.

You could also talk about a top end which would be a flat dollar
amount that would be available. Has the Small Business Adminis-
tration done any polling or studies among small businesspeople to
determine if there have been indications of which profiles would be
more acceptable or more desirable?

Mr. GLovER. One of the things that I would caution the sub-
committee on is that at any given time, 30 to 40 percent of sole
proprietorships and partnerships are losing money. The average in-
come I gave you of under $15,000 includes those that make money
and those that lose money. When you have income restrictions,
there are often years in which small businesspeople simply don’t.
make very much money and especially in the beginning years.

Now, I don’t want the deduction to be extended to those who are
not engaged in the ordinary course of trade and commerce and ac-


87

The chairman has raised a second consideration which is a very
valid one: What percentage or what amount would maximize the
number of people who would be insured? That is a second consider-
ation. On the parity issue, it seems to me that allowing a 100-
percent deduction would give self-employed individuals an advan-
tage over companies.

Jack, you disagree?

Mr. Farts. I really missed the first part of that.

Mr. CaRDIN. Well, since the self-employed can calculate the total
amount that they anticipate spending for health care and make
sure that equals the premium amount by buying an insurance plan
that covers that, they can shelter their entire medical cost. Most.
companies require employees to participate by paying part of the
premium. Therefore, on average, today corporations are paying,
and deducting, 80 percent of the premium costs and individuals are
paying 20 percent.

Mr. DreEssLer. If I could just respond to that. A critical part of
that, the large companies have access to what we call section 125
or cafeteria benefit plans, and they can actually allow the employee
to pay part of the premium pretax through—I am not sure of the
exact phrase, but basically a pretax deduction to pay the employee
share of the cost plus the access to medical spending or flexible re-
imbursement accounts which therefore also lets them pay their so-
called deductibles and other costs out of pretax dollars. This, of
course, takes a fairly large business and a lot of access to tax in-
centives.

Mr. Carpin. Absolutely right. Congress is going to have to take
a look at the cafeteria plans. We can’t allow that to continue un-
capped in the future.

Chairman THOMAS. Might it be possible that if you included that.
with a “must offer” in terms of the employer to his employees, that
that would temper the attempt to match on both sides?

Mr. Carpin. It may.

Chairman THomas. That would be kind of a tempering effect.

Mr. Faris. Just as I missed the first part of your statement, you
have missed the first part of mine, so I would like to restate that
briefly. And that——

Chairman THomas. We have 7 minutes left to go in a vote.

Mr. Faris. To basically—real quickly. One is the economics of it
all. The economics of the problem to get parity, real parity and that
is the entrepreneurs of America are not just—saying they are im-
portant and the backbone but not try to break that backbone at
every chance we get. Let’s let everybody pay the same amount. The
$45.6 billion is now being paid, and we are going to have to have
$2 billion more to get to 100 percent, then let’s all go to 95 or 96
percent. If we can move that up to 100 percent at some time, fine.
But what is fair for Main Street ought to be fair for Wall Street.

The second part about this is the political issue of how people
fee] who have their house on the line who every time they turn
around, | am from the government and I am here to tell you, that
means you have got a short stick. In fact, you have to refile your
taxes now. You will enjoy paying that money to the CPA. So I
think the thing to do now is move quickly to the heart of it and
let’s get the 25 percent, but we need to move to 100 percent.


Opening Statement of Congressman Pete Stark
Ways and Means Health Subcommittee
January 27, 1995

Mr. Chairman:

if we can find the money, it would be nice to assist the self-employed, the urunsured, and really
everyone in America buy health insurance 90 that the uninsured problem would end

The key is finding the money, and I hope today’s witnesses will offer some suggestions.

Thope they do not suggest more Medicare cuts, he Kepublican Contract on Asnerica
cuts $15 billion out of the Medicare Hospital Trust Fund. The Democratic professional statf on
the Joint Feonomic Committee have also estimated the impact of the Balanced Budget
Amendment on Medicare. If Social Security, defense, and interest on the debt are exempt from
cuts, then in the year 2002, each beneficiary will sce a Medicare cut of $2,223. That means $2,223
in higher copays, deductibles, or reduced access because of provider cuts,

Again, [ urge that we not pay for the self-employed deduction out of Medicare
| also urge that we put some conditions on a tax decluction for the self-insured

1) they should provide health insurance fur their co-workers
We shoukin’t provide tax relief tor people who are likely to be the highest paid in a
business without also assisting those who are paid less.

2)We should also extend the same tax deductibility to individual workers who purchase
insurance for themselves when it is not provided oy their employers.

Let's not kid ourselves. The Republican proposals do little or nuthing to reduce the number of
uninsured. They do not address the problem that health insurance premiums are too high~
particularly for small groups and individuals. For example, I have just received a letter from a
59 year old self-employed realtor in California--a man who has no serious medical conditions,
Several years ago, he was divnreed and used! COBRA to keep his wife's Prudential group rate
policy of $275.96 per month. At the end of his COBRA health continuation period, he asked
Prudential to convert to an individual policy. As the gentleman wrote me, that's when
Prudential ‘dropped a piece of the Rock’ on him. The monthly cost of a $100 deductible policy
was $1,714.29-- or $20,571 4 yeart For a $1000 deductible, the monthly premium was $1,000-—or
$12,360 per year

Mr. Chairman, in order to help address the issue of affordability, [urge the Subcommittee to use
this bill to extend the COBRA time limits indefinitely. Once you are in a group policy you
should be able to stay in at the group rate plus an administrative fec.

Thank you.


HEALTH INSURANCE PREMIUM TAX
DEDUCTIONS FOR THE SELF-EMPLOYED

FRIDAY, JANUARY 27, 1995

HOUSE OF REPRESENTATIVES,
COMMITTEE ON WayYS AND MEANS,
SUBCOMMITTEE ON HEALTH,
Washington, D.C.

The subcommittee met, pursuant to call, at 12:06 p.m., in room
1310, Longworth House Office Building, Hon. Bill Thomas
(chairman of the subcommittee) presiding.

[The advisory announcing the hearing follows:]

1e5)


42

fF If,
Testimony of
Jonathan Gruber

Assistant Professor of Economics, Massachusetts Institute of Technology
Faculty Research Fellow, The National Bureau of Economic Research

before the

House Ways and Means Committee
U.S. Congress
January 27, 1995

Thank you for allowing me to speak to you today about the tax treatment of
health insurance expenditures by the self-employed. For the past 50 years, the value
of employer-provided health insurance benefits has not been included in an employed
individual’s taxable income. This provides a substantial subsidy to the purchase of
insurance by employed persons, amounting to a reduction in the price of insurance of
roughly 35%, relative to the price of other goods. For self-employed individuals,
however, there was traditionally no such tax subsidy to the purchase of insurance.
Perhaps as a result, insurance coverage rates among the self-employed were 20%
jower than the coverage rates of the employed.

To partially remedy this discrepancy, Congress introduced in 1986 a partial tax
subsidy for the self-employed: they could now deduct 25% of the cost of their
insurance policies from their taxable income, up to the amount of their self-
employment earnings. In research with my colleague James Poterba of MIT, we found
that this partial tax subsidy had a dramatic effect on the insurance coverage of the
self-employed. We compared the insurance coverage of the self-employed before and
after this tax subsidy was put in place, and contrasted that to the coverage of the
employed over this same time period. We estimated that this subsidy raised the
coverage of the self-employed by 4 percentage points. \n other words, this partial
subsidy reduced the coverage gap between employed and self-employed by one-fifth.
This suggests that the insurance demand of the self-employed is quite sensitive to the
tax subsidization of insurance purchase.

In that research, we had one other findings of interest for the design of future
tax incentives to the self-employed: the response to the subsidy was mostly
concentrated in higher income self-employed. Among self-employed persons with
incomes below $20,000, only 15-20% claimed this subsidy on their tax forms; but for
those with incomes above $50,000, over 50% claimed the subsidy. Asa result, while
coverage rose by only slightly for lower income self-employed persons, for those self-
employed with incomes above $50,000 per year coverage rose much more rapidly.
This reflects the fact that the tax subsidy was much more valuable for those higher


73

STATEMENT OF BENNIE L. THAYER, PRESIDENT
NATIONAL ASSOCIATION FOR THE SELF-EMPLOYED

Chairman Bill Thomas, Ranking Member Pete Stark, and members of the
House Ways and Means Subcommittee on Health, thank you for the opportunity to
testify today. My name is Bennie L. Thayer, and | am testifying today as President
of the National Association for the Self-Employed on the issue of the health
insurance deduction for the self-employed.

The NASE represents over 320,000 small business persons throughout the
United States. Over 85 percent of the NASE members are business owners with 5
or fewer employees. The membership is involved with a very wide range of
businesses, notably in the consulting and retail fields. Our members strongly
support 100-percent deductibility of health insurance premiums for the self-
employed. This is an issue of paramount importance to the NASE membership.
We wholeheartedly endorse Committee Chairman Bill Archer's recent call for a
prompt reinstatement of the 25-percent health insurance deduction for the self-
employed.

‘The NASE views this hearing today as part of Chairman Archer's
commitment to this effort, as well as an important signal by the members of the
Subcommittee on Health that they want to resolve a significant problem for the
small business community.

The Need for a Quick Committee Markup

It the NASE’s strong recommendation to the House Ways and Means
Committee and the other members of Congress to pass a bill before February 15 to
reinstate the 25-percent health insurance deduction for the self-employed -- which
otherwise expired on December 31, 1993. Early committee action in 1995 will go
a long way towards easing administrative and compliance burdens for the Internal
Revenue Service in terms of processing 1994 tax returns. Also, prompt
reinstatement of the 25-percent deduction should help remove the pending tax
increase self-employed persons face in the absence of reinstatement.

Quick passage of the 25-percent deduction legislation would then smooth
the way for the Ways and Means Committee's important deliberations involving
the tax component of the Contract of America. As part of the committee's
markup of Contract With America over the next two months, the NASE strongly
urges the committee to go the next step with respect to the self-employed’s health
insurance deduction. We recommend that you include a provision to increase the
deduction to 100 percent for 1995 and all tax years thereafter.

iit Drop Insurani ver:

Dr. Bruce Kirchhoff of the New Jersey Institute of Technology completed a
study for the NASE in 1993 regarding the number of persons affected by
elimination of the 25-percent health insurance deduction for the self-employed.
According to this study, 295,000 self-employed persons would stop purchasing
health insurance due to the loss of the deduction. Because some of these self-
employed individuals have dependents, the study suggests that a total of 412,000-
persons would join the ranks of the uninsured based on the loss of the deduction.
As indicated by an Employee Benefits Research Institute study, there are already
2.8 million self-employed persons without insurance.

‘One of the major parameters of achieving meaningful, cost effective health
care reform is to reduce the number of uninsured Americans. As indicated by the
NASE study, prompt reinstatement of the 25-percent deduction for the 1994 tax
year will help mitigate the likelihood of a significant increase in the number of
uninsured persons.


82

About the Author

Bruce A. Kirchhoff, Ph.D., prepared this analysis for the National Association for the Self-
Employed. He is Professor of Entrepreneurship at New Jersey Institute of Technology. His

prior credentials include service as Chief Economist for the U.S. Small Business Administration
and as Assistant Director of the Minority Business Development Agency in the U.S. Department
of Commerce.

Dr. Kirchhoff has published over 150 articles and papers on entrepreneurship, economic develop-
ment, and business strategy in a wide variety of academic journals, books, trade and popular
media. His book, Entrepreneurship And Dynamic Capitalism (to be published by Praeger in 1994),
describes his research on the economics of small firm formation and growth. He has conducted
research among large and small businesses and has received international acclaim for his work

on formation, growth and survival of small firms.


HEALTH INSURANCE PREMIUM TAX DEDUCTIONS
FOR THE SELF-EMPLOYED

HEARING

BEFORE THE

SUBCOMMITTEE ON HEALTH

OF THE

COMMITTEE ON WAYS AND MEANS
HOUSE OF REPRESENTATIVES

ONE HUNDRED FOURTH CONGRESS
FIRST SESSION

JANUARY 27, 1995

Serial 104-36

Printed for the use of the Committee on Ways and Means

te

U.S. GOVERNMENT PRINTING OFFICE
90-457 CC WASHINGTON : 1996

For sale by the U.S. Government Printing Office
‘Superintendent of Documents, Congressional Sales Office, Washington, DC 20402

ISBN 0-16-052535-7
a





30

January 1, 1994 tax provision, 25% of the medical insurance

ium expense was totally deductible. The remaining 75% is
first subjected to the 7.5% Personal Adjusted Gross Income
exclusion that individuals are not allowed to deduct. Since
income levels can be any amount, it is not possible to state in
dollar terms how much money is lost in the medical insurance
premium deduction at the individually taxed business entity
level. It can be said that the maximum amount that could be
deducted under the old laws is 67.5%. Thus, 80% of the
businesses only receive a partial deduction for their medical
insurance premium expenses.

The above information for 80% of the businesses only concerns
the medical insurance premiums. Yet, there are other medical
insurance expenses that only 20% of the businesses can deduct
100% of the cost 100% of the time; the other 80% of the
businesses cannot deduct this same type of expenses 100%of the
time for 100% of the amount spent. While we do not have
information concerning the dollars involved in this issue, we
can say that 80% of the business entities are not entitled to
the same level of deductions for medical insurance expenses that
large corporations are entitled to, We do know that, at a
minimum, 80% of the business entities lose at least 7.5% of
their medical insurance expenses forever. The reason the 7.5%
dollar amount is lost forever is that there are no carryforward
or carryback provisions for this type of deduction in the
individual tax code which is where these businesses are taxed.

Suggestions for law changes

In order to foster equity between all business entities, the tax
code needs to treat all business entities in the same manner.

As quoted in my third paragraph, the present code states that
ALL necessary and ordinary expenses should be deductible for
individuals and corporations. At the present time, only C
corporations are allowed to deduct all necessary and ordinary
expenses incurred in their trade or business. Since the maximum
percentage of entities which are allowed to do this is 21.6%,
78.4% of the business entities have been singled out to carry an
additional burden in the tax system. The business entities
which range in size from 0-4 employees created 2.6 million jobs
during the time period of 1989-1991. Large companies (500+
employees) created 122 thousand jobs during this same time.

All other business size classes lost jobs during this time. The
constant downsizing of large corporations continues to place a
heavy burden on the small business sector in terms of tax
revenue, job creation, and the associated business expenses.
Medical insurance premiums and expenses are some of the
associated business expenses that increase with job creation.
Without full deductibility of these medical costs, small
business may not be able to offer medical benefits to their
employees and/or their families/dependents. The additional
problem of uninsured people spills over into other areas of our


89

STATEMENT OF
LESLIE B. SAMUELS
ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
SUBCOMMITTEE ON HEALTH
COMMITTEE ON WAYS AND MEANS
U.S. HOUSE OF REPRESENTATIVES

Mr. Chairman and Members of the Subcommittee:

I am pleased to present the views of the Administration on
the 25 percent deduction for certain health insurance premiums
paid by the self-employed. Under Internal Revenue Code section
162(1), certain sole proprietors, partners and more than two-
percent shareholders of Subchapter S corporations are permitted
to deduct 25 percent of the amount paid during the year for
insurance that constitutes medical care for the taxpayer and the
taxpayer’s spouse and dependents. The deduction is not
available, however, for taxable years beginning after December
31, 1993. Consequently, unless the Congress acts, self-employed
individuals will not be able to claim any deductions for health
insurance premiums on their 1994 income tax returns.

As the members of this Subcommittee know, the Clinton
Administration proposed the extension of the 25 percent
deduction, followed by an increase in the deduction to 100
percent of health insurance premiums in the Administration's
health reform bill of last year. We continue to believe that
allowing a deduction for self-employed individuals more closely
conforms their tax treatment to the treatment of other employers
with employees. This would recognize that these taxpayers share
many attributes with both employers and employees. We also
believe that the deduction for the self-employed will help to
make health insurance more affordable for this segment of the
population and will therefore contribute to expanded insurance
coverage.

On behalf of the Treasury Department, I appreciate the
opportunity to state for the record that the 25 percent deduction


84

going to give General Motors 100 percent and you are going to give
me 25 percent and I have to ask for it every year.

There is just—it is just a hard place. I think for us, we see an
immediate step, if you go to 25 percent and lock it in and say for
sure you are going to have one-fourth, you still have the crumbs.
We won’t let you have the cake yet but the crumbs can still be

ours,
y Mr. CHRISTENSEN. I absolutely agree.

Mr. Faris, J think small business is tired of hearing it. On
November 8 they said it. They said it with the health care man-
date, employer mandate.

Again, we get in this whole issue that I know the chairman and
I have discussed a number of times, is that this is all a part of the
whole health care issue. We have people in the highest places of
our government go on record as saying these small Business entre-
preneurs who don’t furnish insurance for their employees are just
lower than dirt, and these same people don’t even have 25 percent
deductibility for themselves. They have 100 percent. The numbers
are going to be—back again, do we look at the 25 percent, everyone
that has been getting it will go back on the board again if 100 per-
cent of the number is realized.

Mr. CHRISTENSEN. Mr. Faris, have you conducted any studies
with the FIB to see what the number of people that would join the
ranks of the insured would be if we were to restore 100 percent de-
ductibility to the self-employed?

Mr. Faris. We have tried that survey. We found it is in three
tiers. We ask someone, do you think you would like to buy the
product? They say yes. Second, here is the price of that product,
then yes. The third is, could I have your check.

Well, that is kind of how it goes when you talk about insurance.
You say if you could have full, 100 percent deductibility, would you
then offer insurance? Well, sure, sure we would. Then you say, OK,
now here is how much the insurance costs for you and for everyone
else with 100 percent deductibility and here is what that means to
you. Then that number drops. Then, third, is they have to write a
check and then the number drops considerably. We assume that
would be true here, but we don’t know. We will see.

We would love to have everyone take advantage of this because
they would be purchasing health insurance, but we all know that
is just not going to happen. So therefore, I think we can look and
see if we move to 100 percent, I don’t think the numbers we are
using today will be real hard numbers, because I don’t think we
will have that many people purchase into the system.

Mr. CHRISTENSEN. Thank you, Mr. Chairman.

Chairman THOMAS. In pursuit of that point, to what extent Mr.
Faris, Mr. Dressler, or anyone can give us any indication of the fact
that setting aside the 25, 50, or 100 percent that if in fact people,
based upon the 25 percent, had offered health insurance, given its
more critical role now in terms of the sensitivity of people about
health insurance and its component in attempting to hire and keep
labor, that you may not be able to be a free agent in making the
decision of not having it or it would be a major impact on the com-
pany in terms of its employees or trying to replace employees.

Is there any feedback from your people along those lines?


12

tax issue I undertook as a Member of the subcommittee, and I
hoped that small businesses could receive the same favorable treat-
ment as corporations.

Mr. Chairman, my district includes several small businesses in
small towns and rural areas, and many of the constituents that I
represent fall into this category of self-employed. Increasing the de-
duction would allow businessowners to spend more of their re-
sources on health care. This legislation gives businesses an oppor-
tunity and an incentive to purchase health care insurance.

The deduction should be made permanent to give individuals cer-
tainty. An individual should not have to wait for action by the Con-
gress next year to know if they will be able to take and make a

eduction for health care insurance. Individuals should be able to
plan for their health care and the health care of their families.

I thank you for your time, and I also thank you for allowing me
this opportunity. I do have constituents waiting for me, and I am
sure that you and Mr. Stark will offer representative views of the
entire body that is known as Ways and Means.

(The prepared statement follows:]


54

STATEMENT OF SALLY |. NELSON, PRESIDENT, THE LONGVIEW GROUP,
AND PRESENT, THE ASSOCIATION OF HEALTH INSURANCE AGENTS,
A CONFERENCE OF THE NATIONAL ASSOCIATION OF LIFE UNDERWRITERS

Good afternoon, Mr. Chairman and Members of the Subcommittee. My name is Sally
Nelson. | am here today as a self-employed small business owner, and as a professional
insurance agent whose client base consists primarily of self-employed small business owners.
1am a member of the National Association of Life Underwriters-NALU, a trade association
of over 135,000 professional life and health insurance agents whose businesses are much
like mine. | am also President of the Association of Health Insurance Agents (AHIA), a
conference of NALU, which represents more than 10,000 insurance agents who specialize
in health insurance matters, On behalf of myself, my clients, AHIA and NALU, I thank you
for this opportunity to present our views on this important issue.

‘When | was called earlier this week and asked if | could fly down here today to testify on
the value of the deduction for the cost of health insurance for self-employed people, | was
struck by just how appropriate the request was. | am one of the people most affected by
this issue. I am a fulltime, self-employed health insurance agent in Portland, Maine. My
business, the Longview Group, employs 3 full-time people. not only sel! individual and
group health insurance to self-employed people with small firms of their own, but also | am
a self employed person with my own small business. | buy what | sell. My employees and
| myself are every bit as personally affected by the outcome of the effort to exiend the
deduction for health insurance for the self-employed as are my clients. I hope you'll agree
that this means that my perspective on the value of a deduction for the cost of health
insurance for self-employed people is uniquely personal, and hopefully uniquely valuable.

First and foremost, 1 must comment on the fairness issue. To condition the availability of
a deduction for the cost of health insurance on a person's form of business organization is
blatantly unfair, My self-employed clients and | need affordable health insurance for
ourselves, our families and our employees just as much as the owners and employees of
firms that have incorporated. There is no policy justification for differentiating between
incorporation, SubChapter 5, sole proprietorship, partnership or any other form of business
‘organization in determining whether or not to provide a tax incentive for the purchase of
health insurance. Equally, there is no policy justification for providing a 100% deduction
for owners of incorporated businesses, but only 2 25% deduction for the self-employed
business owner. However, we do understand that there is a compelling issue with respect
to the availability of Federal funds with which to pay for an expansion of the 25%
deduction. Therefore, while we support without qualification the need to enact a
permanent, equalized deduction of 100% for the cost of health insurance premiums for all
forms of employers, we acknowledge that fiscal reality may make this difficult to do. We
would be most pleased to work with you and your staff, however, in trying to find a way
to maximize the health insurance deduction for unincorporated businesses.

While ultimately we support a permanent, 100% deduction for all forms of businesses for
the cost of health insurance, that is not the 1ssue in question here today. Today we are here
to discuss the ability of the Congress to, at a minimum, extend the now-expired provision
of the tax code-Section 162(l)-that allows self-employed people to deduct up to 25% of the
cost of their health insurance. That provision expired on December 31, 1993. So,
currently, no amount of health insurance premium is deductible by people who are self-
employed. This of course makes an already unfair distinction between incorporated and
unincorporated businesses even more egregious.

As you well know from years of dealing with this issue, one major factor in an employer's
decision to purchase health insurance is its cost. Particularly for small businesses-and
almost all self-employed people operate smal! businesses-aifordability is a key issue, Of
course, the price of a small group health insurance policy is not a function of whether or
not the premium is deductible. But the deductibility of the premium has a direct effect on
the scope of the insurance purchased. Where an employer has determined thal a certain
amount of money can be spent on providing health insurance, then decisions regarding how
to get the most value for the money must be made.

For example, in my own firm the premium for health insurance for me and my employees
costs $5,900 a year. That insurance provides for a $500 deductible and an 80% copay up
to.a maximum of $1,000. { pay 100% of the cost of coverage for myself and my employees.

To that $5,900 a year | must now add the value of the lost 25% deduction for my portion
of the premium. The loss of the tax deduction effectively raises my cost by that amount.
can reduce my contribution to the cost of coverage for my employees. Or, | can shop for


96

Responses to Soliman
We applaud Congress’ response to the Soliman decision, as
numerous bills were introduced in the 103rd Congress. In

particular, we strongly supported the Home Office Deduction Act of
1994, introduced in the House by former Representative Hoagland (D-
NE) (H.R. 3407) and in the Senate by Senator Hatch (R-UT) (S.
1924).11/ The bill would have provided that a home office can
qualify as a principal place of business if "the office is the
location where the taxpayer’s essential administrative or
management activities are conducted on a regular and systematic
(and not incidental) basis by the taxpayer,” and the office is
necessary because the taxpayer has no other location for the
performance of such activities. The bill also contained a
provision allowing for the deduction of business expenses
attributable to home storage space for product samples. Currently,
tax code section 280A(c)(2) allows a deduction for storage space
for inventory only.

We were extremely pleased to see that Chairman Archer included
the provisions of the Home Office Deduction Act in sections 12003
and 12004 of the Job Creation and Wage Enhancement Act of 1995
(H.R. 9), introduced on January 4. We urge their inclusion in the
first tax bill which the Congress sends to the President this year.

Clarifying Home Office Expense Deduction Makes Sense for the 19908
and Beyond

The Soliman decision is not in step with commercial practice
and economic reality. Home-based businesses have been growing in
number and will likely continue to do so for the indefinite
future.12/ These businesses create opportunity and jobs.

Many individuals affected by corporate downsizing have
responded by creating small businesses operated out of the home.
With the advent of fax machines, personal computers, and other
telecommunications advances, these entrepreneurs have been able to
run businesses out of the home that traditionally required an
office setting. The success of many of these businesses has
depended on whether or not they could be started up as home-based
enterprises. The existence of a tax deduction for home office
expenses can make an important difference for these fledgling
companies.

Clarifying the hone office expense deduction also makes sense
from a family perspective. Home-based businesses have
attractive option for parents who choose to work at howe to spend
more time with their children or elderly parents. Taxpayers should
not be penalized for making such a choice.

Background on Self-Employed Health Insurance Tax Deduction

We also strongly support enactment of legislation allowing
self-employed individuals to deduct their health insurance costs.

11/_ H.R. 3407 had 83 cosponsors (37 Democrats/46 Republicans) ,
including 13 Members of the Ways and Means Committee. S. 1924
had 15 cosponsors (7 Democrats/8 Republicans), including 3
Members of the Finance Committee.

12/ One 1992 news article reported that approximately 30 million
Americans work out of the home. See G. Hall,

Businesses Sreate re Local Controversies, Gannett News Service (Nov.
10, 1992); also New Publishers Serve At-Home Workers, L.A.

Tikes, Feb. 14,1993, at Did. The number of publications serving
the growing number of at-home workers has risen dramatically. At
present, there are approximately 50 publications. See id.


15

(Dr. Kirchoff's study was subsequently received:|

—
——————
_——_—————
————
_—
——

LY:
MASE

Estimating the Number
of Persons Affected by
the Elimination of the
25 Percent Income

Tax Deduction for
Health Insurance
Premiums

Prepared by:

Bruce A. Kirchhoff, Ph.D.,
fe P ,
New Jersey Institute of Technology

for
“The National Association for the Self-Employed
1101 15th Street, NW

Suite 400

Washington. D.C. 20005

Phone: (202) 466-2100
Fax: (202) 466-2123

January 27, 193


36

small businesses have been encouraged by the level of support
shown in Congress last year for restoring the 25% deduction for
the self-employed for tax year 1994. They are still hopeful this
can be done retroactively. In addition, although some small
business owners may have had differences over health care reform,
there was no disagreement in the small business community over
the proposal contained in most of the health care bills to make
premiuns paid 100% deductible.

HISTORY OF THE TAX DEDUCTION FOR THE SELF EMPLOYED

It has long been the policy of the United States, as expressed by
Congress, that health benefits provided by employers should have
a special status in the tax laws. Section 106 of the Internal
Revenue Code makes employer contributions to accident and health
plans fully deductible. The Conference Committee which adopted
the original self-employed health care deduction had this to say
about the public policy of health care deductions in genera.

",,.the tax-favored treatment of employer-provided
employee benefits reduces the Federal income tax base
and reduces Federal budget receipts. However, the
Committee believes these costs are justified because
employer-provided employee benefits fulfill important
social policy objectives, such as increasing health
insurance coverage among taxpayers who otherwise would
not purchase or could not afford such coverage. For
example, employer provided health insurance ana life
insurance coverage is currently provided to more than

80 percent of workers in the United States". (Conference
Committee Report which accompanied the Tax Reform Act of
1986, P.L, 99-514; H. Rept. 99-841, p. 650)

In 1986, during consideration of H.R. 3838, the Tax Reform Act of
1986 (P.L. 99-514) the Senate amended the House originated
version of the bill by adding a section which provided a 50%
deduction of health insurance preniums paid by self-employed
individuals under certain circumstances. The Senate Finance
Committee offered the following paragraph to justify its
inclusion:

The committee believes the present-law rules relating
to the exclusion from income for benefits under employer
accident or health plans create unfair distinctions between
self-employed individuals (the owners of unincorporated
businesses) and the owners of corporations. The ability to
exclude health benefits to the extent provided by a
corporate employer creates tax incentives for incorporation
that the committee believes leads to inefficient tax-driven
decision making.

“More importantly, the conmittee is aware that access to
employer health plans is lowest with small employers
(particularly with small, self employed employers). The
need for adequate health coverage is so important that the
committee believes it is essential to encourage a narrowing
of the gap in health coverage. The committee concludes that
a partial exclusion for health plans maintained by self
employed individuals will accomplish this goal." Ss. Rept.
99-313, p. 666

‘The Senate also concluded that if small businesses were to have
the same benefits as large businesses, they should also abide by
the non-discrimination rules which apply to plans which are
purchased by incorporated businesses.

‘The Conference Committee in an effort to reconcile the House
bill, which contained no deduction, and the Senate bill, approved
a compromise which cut the proposed deduction to 25t and, in the



48

T know I do not need to remind this subcommittee that the 25-
percent deduction expired on December 31, 1993. It is urgent that
this be reinstated soon before farmers, ranchers, and people
throughout this country have to file their 1994 taxes. Of course we,
too, would join the voices of previous panel members advocating
that 100 percent deduction would be the next logical step.

Congressman Thomas, you have been a great friend to agri-
culture and all small business over the years. We have not forgot-
ten, for example, your leadership in incorporating a targeted export
assistance program in the 1985 farm bill, a successful trade pro-
gram which basic components are alive and well and taking on
even more importance today as a consequence of our recently
signed international trade agreements, which you also can take
some credit for. This important subcommittee which you now chair
will provide you many more opportunities to exert the type of lead-
ership that small business in this country needs. We thank you for
putting this tax treatment of health insurance high on your list.
We hope that your next project will be to provide estate tax relief
to the owners of so many small businesses, such as farmers and
ranchers, who are now finding it nearly impossible to transfer their
life’s work to the next generation.

We thank you again for inviting us to speak before this sub-
committee, and we look forward to seeing this broadly supported
proposal turned into law.

Thank you.

Chairman THoMas. Thank you, Mr. Vice.

Mr. Risalvato.

STATEMENT OF SAL RISALVATO, OWNER, RIVERDALE TEXACO
AND PRECISION ALIGNMENT CENTER, RIVERDALE, N.J., ON
BEHALF OF NATIONAL FEDERATION OF INDEPENDENT
BUSINESS

Mr. RIsaLvaTo. Good afternoon. Mr. Chairman and Members of
the subcommittee, I thank you very much for allowing me to come
here this afternoon to explain to you as a small businessowner how
this legislation will have an effect on both my business and the
small businesses of other small businessowners across the country.

Mr. Chairman, I have to specifically thank you for your introduc-
tion of H.R. 697. 1 think that it shows that you are in tune, and
I think it is going to be a great step to getting the ball rolling.

We are here to address the on-again/off-again deduction of our
health care premium, and I say on-again/off-again because it is de-
bated every year and it is baffling to me that in 1986, when Con-
gress first put this in place, why it was given a sunset of 1989. I

lon’t understand why something like this would have even been al-
lowed to continue. But it did and we have debated it every year,
and hopefully we are going to do something about it permanently
here today.

I would like to accomplish two objectives here this afternoon. I
would like to make you understand the plain, simple, and obvious
unfairness about the lack of deductibility or only a 25-percent de-
ductibility. It is blatantly unfair in comparison to everybody else.
The other thing that I would like to help make you understand is
that we can use this as sort of an incentive for small



53

Corson loses his 25 percent deduction for his share of that $8,650,
as will happen unless you act quickly, he tells me he will be forced
to revise his company’s coverage. It is likely his group plan will
cost 7 to 12 percent more in 1995 and he just cannot afford to ab-
sorb that increase and the cost of the lost deduction as well. He
will look at increasing deductibles or decreasing benefits for him-
self, his employees, and his family.

Whitten Architects of Portland is another of my clients. Mr.
Whitten employs three people. Over 50 percent of the 1994 annual
cost of his group plan is due to his personal family coverage. In
1993 with his 25 percent deduction, his out-of-pocket costs for his
family coverage was approximately $2,800 a year. In 1994, without
the, deduction, his out-of-pocket costs for his family coverage was

1384.

That is approximately a 60-percent increase in 1 year. He seri-
ously worried about how to handle this. Should he shrink benefit
levels, increase deductibles, ask for employee contribution? Right
now he is waiting for my recommendation.

Mr. Chairman, what do I tell my clients, that Congress wants to
provide the deduction? I am afraid that won’t be goo enough when
it comes time to make the decisions that will be followed by writing
a check.

I hope, Mr. Chairman, that you will at least extend section 162(1)
before April 15. Save us the extra cost of having to file amended
returns if in fact the deduction is extended. I understand that over
60 Senators have signed a letter pledging not to amend a one-issue
bill that would extend section 162(1). This would solve our 1994
problem and give us more time to work out a way to extend the
deduction.

I thank you very much. My association, my clients, and I offer
whatever help you need and I would be happy to answer any ques-
tions you have.

[The prepared statement follows:]


49

businessowners to get into the insurance market if they are not in
it or to continue in it if they are in it presently.

As you know, free enterprise must thrive and it thrives on incen-
tives and rewards, and this 25 percent deduction would be consid-
ered an incentive.

I got into the insurance market in my business back in 1983, I
believe it was, or 1981. At that time I was very young. I had never
had a job for anybody. I worked in my own business all my life and
T never really thought about health care insurance. At that time,
because I wanted to compete in the marketplace for better employ-
ees, one of the things I decided I would do is provide health care
benefits because I wanted to keep the good employees that I had.

I always had difficulty making comparison with my business and
other businesses in terms of what the pay scales were. There is no
real way of learning what another business pays its employees
without some sort of espionage or spying so you kind of put feelers
out, but you want to make sure you are paying your employees in
a competitive fashion.

One thing that was real easy to learn was that the other shops
were not providing these benefits, so I knew if I provided health
care benefits and paid for them, that this was a reason for my em-
ployees to stick with me. This, by the way, is participating in a
marketplace. The marketplace I call it, the playing field of free en-
terprise. I was competing because I was offering something, I am
competing for my employees.

Now, at the time that I provided these benefits, I was totally un-
aware of the fact that I could not deduct it. I just was using some
common sense and figured that I am writing a check at the end
of every month to pay for these benefits, and I did not learn until
the end of year from my accountant that we had to subtract mine
out because I couldn’t deduct that. I was very, very angry. My first
reaction was, well, then I am not going to provide these benefits.
Of course that was senseless and I did continue the benefits.

In 1986 I was very, very pleased when we got a 25-percent de-
duction. But I have to tell you, quite frankly, I felt like I was being
thrown a bone. The 25 percent was just something to keep us quiet
for a while. It did end in 1989, and right now we are faced with—
all small businesses across America—not being able to deduct their
own health care for 1994.

I think that we are going to lose the incentive that should be pro-
vided to get small businessowners to provide this for their employ-
ees, and in the time right now where we are talking about health
care reform and we are trying to get more people into the market-
place, it is very important that we do that.

I see my time is up, so I will cease and I will be able to answer
any questions that you may have.

[The prepared statement follows:]


78

——————
—————

_——
_—
_—————
—

MASE

f

Introduction

Prior to July 1, 1992, self-employed persons were allowed
to deduct 25 percent of their health insurance premiums

from their income before calculating their income tax.
Elimination of the deduction on July 1, 1992, has the effect

of increasing the after-tax price of health insurance for the
self-employed who subscribe. Since an increase in average
price of an “economic good” typically results in a decline

in demand, it is likely that some of the self-employed will
discontinue their health insurance thereby entering the ranks
of the “uninsured”. The question of importance is, “How many
persons will become uninsured because of the elimination of
the 25 percent income tax deduction?”

This report begins with an estimate of the self-employed health
insurance coverage prior to the change in the tax law on

July 1, 1992. Next, it reviews the price elasticity research and
estimates an elasticity for computing the change in coverage.
‘The next section determines the effective change in price caused
by the elimination of the 25 percent credit. Finally, the report
combines the coverage, price elasticity and price change to
calculate the change in number of insured citizens.


88

Mr. CaARDIN. We are close.

Mr. Faris. We are close.

Chairman THOMAS. We have to move quickly to a vote. But we
appreciate the evidence.

It is clear we really would like to have a better research ground-
ing so when we make a decision and we make it permanent, that
it is a good, responsive one. The ultimate solution could be along
your lines, Jack. You need to talk with the other people on the
panel about that and I would love to hear the discussion. For now,
though—and I appreciate all of your attendance, the subcommittee
is adjourned.

{Whereupon, at 2:18 p.m., the hearing was adjourned.]

(Submissions for the record follow:]


43

income self-employed persons, who faced higher marginal tax rates. That is, if your
tax rate is high, a deduction from taxable income has a much greater dollar value, so
that the subsidy had its greatest impact on high income self-employed.

Designing an Improved Tax Subsidy for the Self-Employed

The results from our research suggest three ways in which the tax subsidy for
the self-employed could be improved. First, the generosity of the tax subsidy could
be increased. Insurance coverage among the self-employed remains roughly 15%
below that of the employed. Since we find that the insurance coverage of the self-
employed is quite sensitive to having a tax subsidized price, increasing this subsidy
could reduce the coverage disparity between the two groups.

Even with equal tax treatment of the two groups, however, insurance coverage
rates among the self-employed would most likely remain below those of the employed.
The self-employed, by the nature of their career choice, have revealed themselves to
be less averse to risk in general, so that they are probably less likely to feel that they
need medical insurance, all else being equal. Nevertheless, increasing the tax subsidy
would almost certainly help to reduce the coverage gap of the self-employed

Second, the tax deduction could be replaced with a limited refundable tax
credit. For example, the self-employed could be offered a credit equal to 50% of the
cost of their insurance, up to the average cost of a typical insurance plan. A limited
tax credit has two advantages relative to an unlimited tax deduction. First, a credit
offers equal benefits to low and high income self-employed persons, while a tax
deduction offers larger benefits to higher income taxpayers. By making the tax credit
refundable, the subsidy would extend even to those low income self-employed whose
tax credit exceeds their tax liability. Second, a limited credit offers incentives for the
self-employed to seek out low cost insurance plans, while an unlimited deduction
equally subsidizes efficient low cost insurance and excessive "cadillac" policies. Many
analysts have expressed concern that rising medical care costs are due to excessively
generous insurance policies in the U.S., so that limiting the amount of the subsidy
would offer incentives to avoid these types of policies.

Third, the tax subsidy could be more effectively advertised. Whatever the form
of the tax subsidy, a critical problem with effectiveness appears to be low awareness
of its existence. Even among the high income self-employed, for whom there is a
large subsidy under current law, takeup of this subsidy is only 50%. This suggests
that individuals may not be aware of their entitlement, which may in turn limit the
effectiveness of this subsidy in increasing insurance coverage. So any expansion of
this subsidy should be accompanied by an advertising effort which is designed to
make the uninsured self-employed aware of this opportunity to buy subsidized
insurance.

A final design issue is the required floor for self-employment income. The


CONTENTS

Advisory of January 23, 1995, announcing the hearing ...

Association of Health Insurance Agents, Sally I. Nelson ..
California Farm Bureau Federation, Bob L. Vice...
Cardin, Benjamin L., a Representative in Congress from the State of
Maryland ...
Dressler, Don, Western Growers Association
Faris, Jack, National Federation of Independent Business
Glover, Jere W., U.S. Small Business Administration ..
Gruber, Jonathan, Massachusetts Institute of Technology ..
Longview Group, Sally I. Nelson
Meyers, Jan, a Representative in
National Association for the Self. Employed:
Bennie L. Thayer
Julia Whitt

National Association o inderwriters,
National Federation of Independent Business:
ck Faris
Sal Risalvato
Neal, Richard ‘a Representative in Congress from the
Massachusetts

Nelson, Sally I., Longview Group, Association of Health Insurance Agents,

and National Association of Life Underwriters . a
Pomeroy, Earl, a Representative in Congress from the State of North Dakota .
Risalvato, Sal, Riverdale Texaco and Precision Alignment Center
Sprague, ‘Lisa’M., U.S. Chamber of Commerce ...

ayer, Bennie L.., National Association for the Self-Employed
U.S: Chamber of Commerce, Lisa M. Sprague
US. Small Business Administration, Jere W. Glover
Vice, Bob L., California Farm Bureau Federation .
Western Growers Association, Don Dressler
Whitt, Julia, National Association for the Self-Employed

SUBMISSIONS FOR THE RECORD

U.S. Department of the Treasury, Hon. Leslie B. Samuels, Assistant
‘Secretary for Tax Policy, statement...

American Association of Home-Based Businesses and Entrepreneurial
Financial Services, Inc., Betty Kohls Stehman, statement and attachment ..
American Farm Bureau Federation, statement ...
American Institute of Certified Public Accountants, statement
Durbin, Hon. Richard J., a Representative in Congress fros
Illinois, letter
Home Office As: »
Homestead Construction Co. Inc., and National
Remodeling Industry, Jeanie Morrissette, statement
National Association for the Advancement of Ort
statement .

Associat

aly

89


66

STATEMENT OF DON DRESSLER
PRESIDENT - INSURANCE SERVICES
WESTERN GROWERS ASSOCIATION
HOUSE COMMITTEE ON WAYS & MEANS
SUBCOMMITTEE ON HEALTH
JANUARY 27, 1995

Mr. Chairman and distinguished members of the Committee, I
greatly appreciate this opportunity to present the views of the
Western Growers Association concerning the tax-deductibility of
health insurance for self-employed individuals. Western Growers
Association represents 2,400 members who grow, pack, and ship
fresh fruits, vegetables, and nuts in Arizona and California.
Our members Ship approximately half of America’s supply of fresh
fruits and vegetables.

Western Growers Association has been providing health insurance
to its members and their employees, including seasonal
agricultural workers, for over 50 years. WGA currently provides
affordable health benefits to over 50,000 individuals in
California and Arizona, including members of Western Growers
Association and their employees and dependents.

On December 31, 1993, the 25 percent tax deduction for health
insurance premiums for self-employed individuals expired.

Western Growers cannot overemphasize the importance of restoring
this tax deduction. Furthermore, we urge that the deduction for
self-employed individuals be gradually increased to 100 percent
of health insurance costs and made permanent. Full deductibility
of medical coverage costs is the amount corporations are allowed
to deduct for the cost of providing medical coverage for their
employees. It is simply unjust to expect independent farmers and
producers to shoulder the enormous burden of health insurance
costs, while corporations can deduct the entire amount of their
health insurance costs, and also while individuals who work for
corporations receive their medical coverage tax-free.

With much of last year’s Congressional debate focused on health
care costs and the importance of making health insurance as
affordable as possible, we cannot understand why anyone would
choose to deter independent farmers from obtaining adequate
health coverage. Essentially, this is what will happen if the 25
percent tax deduction is not reinstated and augmented to 100
percent.

It is important to note that farmers work in what insurance
companies consider to be a "high risk” or "hazardous" occupation.
In addition, as self-employed individuals, they are generally not
covered by workers’ compensation. Both of these factors result
in insurance companies charging farmers higher than average
premiums: too high for most farmers to afford, even if they are
allowed a tax deduction of 25 percent. In fact, health coverage
is only affordable for many of our members and their employees
because we have been able to bring down costs through the use of
self-insurance.


52

Chairman THoMaS. Thank you very much.
Ms. Nelson.

STATEMENT OF SALLY I. NELSON, PRESIDENT, LONGVIEW
GROUP, PORTLAND, MAINE, AND PRESIDENT, ASSOCIATION
OF HEALTH INSURANCE AGENTS, A CONFERENCE OF THE
NATIONAL ASSOCIATION OF LIFE UNDERWRITERS

Ms. NELSON. Thank you. Good afternoon, Mr. Chairman and
Members of the subcommittee. My name is Sally Nelson and I am
a professional health insurance agent. My clients are almost all
self-employed small businessowners and their employees. I myself
ama small businessowner with three employees. I am president of
my professional association’s conference on health insurance, and
for myself, my employees, my clients, and my fellow association
members, I thank you for this opportunity to share with you our
views.

We each know personally just how important it is to us that you
extend the deduction for health insurance premiums paid by the
self-employed. The deduction is vital to achieving maximum qualit)
health insurance protection for, literally, millions of small
businessowners and their employees.

First, let me state the obvious. It is unfair to treat incorporated
businesses and their owners and employees more generously than
unincorporated firms. An incorporated business can provide its em-
ployees and owners health insurance that is 100 percent tax free.
On the other hand, the owner of a small business can deduct no
part of the cost of his or her own employer-provided health insur-
ance premium. Until 1993 we could deduct only 25 percent of our
insurance costs.

We know of no policy reason for this difference in treatment
which is based solely on the form of our business organization. It
is not fair and we urge you to change it. We recognize real revenue
considerations may prevent a speedy resolution to this issue. We
support your effort to address this problem in a fiscally responsible
manner, and we would be most pleased to work with you and your
staff to find a way to achieve fairness.

Let me spend just a moment describing my own situation, and
the situation of two of my clients. These real world scenarios dem-
onstrate just how important it is to at least extend retroactively
the 25-percent deduction that expired at the end of 1993.

The yearly premium for health insurance for the four of us em-

loyed by my unincorporated business, The Longview Group, was
85900 in 1994. Our insurance requires a $500 deductible and an
80-percent copayment up to a maximum of $1,000 out-of-pocket
costs. Until last year, I could deduct 25 percent of the cost of my
share of the premium. I planned on being able to deduct it this
year. I planned on it because, although section 162(1) had been
scheduled to expire, it had been extended over and over again.
Once it had been extended retroactively. In total, it has been ex-
tended four times in the last 8 years. Never had it been allowed
to expire in a way that resulted in a lost deduction.

One of my clients, Corson Auto Supply in Rockland, Maine, is in
much the same position. In 1993 their health insurance premium
was $6,500. In 1994 it went up $2,150 to $8,650 a year. If Mr.


101

words, "orthotic" and “custom fabricated,”--which clearly demonstrate the propriety of
‘eimbursing these devices under the L-code system--they continue to be treated as “one size fits
alt" durable medical equipment

The DMERCs have recently stated that this action was taken because these custom
orthotic seating systems are merely permanent accessories to wheelchairs and are not transferable
While custom orthotic seating systems are often fabricated to mount onto a wheelchair, the
DMERCs rationale fails to consider the frequent use of these devices, particularly among
children, as transferable between wheelchairs, as car seats, and in a variety of other situations,
including allowing one to sit independently supported at a table to eat a meal

HCFA and the DMERCs have been fully informed of this problem throughout the past
several months, but have fated to remedy the situation to date. Asa result, some of the very
specialized orthotists who fit and fabricate these orthoses have begun to deny these services to
Medicare beneficiaries, We point to this situation as an example of the problem of not,
recognizing the separate treatment of DME from orthotics and prosthetics. We request this
Subcommittee, HCFA, and the DMERCS to consider reincorporating these newly-created K-
codes into the L-code system where custom orthotic seating systems truly belong and determining
fees for these orthoses based on individual consideration of each claim.

‘THE OFFICE OF INSPECTOR GENERAL'S TESTIMONY.

The Office of Inspector General (OIG) testified today on the issues of fraud and abuse in
the area of durable medical equipment generally, and specifically as to the investigation of
“orthotic body jackets." The OIG testified that "payments for (orthotic body jackets] went from
$217,000 in 1990 to $18 million in 1992, We estimated that 95% of those payments were for
devices more properly categorized as {prefabricated wheelchair) seat cushions, rather than body
jackets " Seat cushions are items of durable medical equipment that cost Medicare $200 to $300
per unit. An “orthotic body jacket" is a thoracic-lumbar-sacral orthosis (TLSO) designed for the
treatment of spine or trunk musculoskeletal disorders such as fractures, spinal cord injuries, post
surgical stabilization, scoliosis, congenital deformities, etc. The custom design and fitting of a
TLSO requires sufficient medical knowledge of these complex disorders for one to possess the
clinical and technical skills necessary to provide this complex and comprehensive orthotic service

This type of orthotic body jacket is identified as L-0430 in the Medicare O&P
reimbursement system and has a reimbursement value of approximately $1,000 to $1,200.
According to the OIG report, unscrupulous providers began submitting claims for simple seat
cushions using the L-0430 reimbursement code in 1990, By the time HCFA identified this fraud
and abuse, nearly $18 million in fraudulent claims had been reimbursed under this L-code in 1992
alone,

‘What the Inspector General did not mention was that the 5% of "orthotic body jackets"
that were deemed by the OIG report to be “legitimate” claims were, in almost every instance,
provided by certified orthotists “whose primary occupation is supplying orthotic and prosthetic
devices to patients. The non-legitimate body jackets in our sample were supplied by Durable
Medical Equipment (DME) suppliers that primarily supply DME equipment and supplies, not
osthotics." OIG Report, p 4

THE IMPORTANCE OF CONDITIONS OF COVERAGE

Recognition of provider credentials in the delivery of quality orthotic and prosthetic care is
a critical point that we strongly request this Subcommittee consider when attempting to
legislatively ferret out health care fraud and abuse in the Medicare program NAAOP believes
that an effective way to curb the type of fraud and abuse that occurred with orthotic body jackets
‘would be to establish conditions of coverage for reimbursement under the orthotic and prosthetic
L-codes. By limiting reimbursement of orthotic and prosthetic services to qualified orthotists and
prosthetists who are certified to provide these services, HCFA could dramatically reduce the
likelihood of this type of fraud and abuse in the future, as well as, the additional costs of
adjudicating these fraudulent claims


26

large and small, will go a long way in reducing the number of uninsured in this

country. I think that is a goal everyone can agree on.

lL understand there is growing Congressional support for the permanent extension
and gradual expansion of this deduction. On behalf of the 6,000 NARI members
companies, I soundly applaud those efforts. Extension and expansion of the

deduction makes sense for the following reasons:

1. It isa matter of equity and common sense, There is no practical argument
for the current distinction between the treatment of C corporations, which
enjoy one-hundred (100) percent deductibility, and S corporations and the
self-employed, who no longer enjoy even a twenty-five (25) percent

deduction.

2. Reinstating the twenty-five (25) percent deduction and increasing it to one-
hundred (100) percent will reduce the number of uninsured and ease the

government burden of caring for these individuals.


22

to participate on a subsidized basis in a health plan of an employer of the self-
employed individual or individual’s spouse. According to information presented to
our Small Business Committee, approximately 400,000 people have health care
insurance because of this deduction.

Unfortunately, as | mentioned, Congress has allowed this deduction to
expire several times, and on previous occasions, has only reauthorized it on a
temporary basis. As a result, some small business people have dropped their
insurance coverage because they simply cannot rely on the 25% deduction which
they need in order to afford coverage.

Most small business people must develop a financial plan prospectively, and
| believe we should make the 25% deduction permanent so that in their planning,
they can count on this tax deduction. As you know, C corporations have the
advantage of a 100% permanent tax deduction for health care premiums, and |
hope we can move toward providing this same benefit to self-employed
individuals in the not-too-distant future.

Since the IRS has already mailed out tax forms for 1994, we must act

immediately to restore this deduction so that small business owners can deduct
25% of their health insurance costs for themselves and their families. They
believed that this deduction would be available to them and planned accordingly.
Congress should keep its word, and immediately reinstate this deduction
retroactively.

| also believe we should make the deduction permanent so that these small
entrepreneurs can avoid the year-to-year anxiety over whether they will be able to
afford health insurance for themselves and their families. And, hopefully in the
future, we can give our smaliest business people the same benefit we extend to
our largest corporations: a permanent, 100% deduction of health insurance

premiums. Tt

action would go a long way in extending health care coverage to
the uninsured, a goat we all support.

' realize there is a cost involved in extending this benefit to our smallest
businesses, and 1 don’t advocate this lightly. However, the ever-increasing costs
of medicaid and medicare demand that we take every action possible to expand
the avaitability of private health care coverage. By extending and increasing this

tax deduction, more people will have access to health care coverage, and we will

probably save federal dollars in the long run.

Thank you again, Mr. Chairman, for the opportunity to come before you
today to discuss this is important issue. I'll be happy to answer any questions
you or other members of the Committee may have.


34

the self-employed and partnerships—need to have the deductibility
for their health insurance restored.

There is a process going on throughout the country where White
House conferences on small business are being held in each of the
States. To date, we have been to 38 different conferences. I was in
the conference at Birmingham, Ala., yesterday. The one issue
which has come out of each of these conferences, the only issue
that has unanimous support in every one of the States is the re-
storing of the deductibility of health insurance to 25 percent and
going to full 100 percent deductibility for health insurance. So the
small businesses in this grassroots process throughout the country
are speaking very loudly and very clearly on this one specific issue.

Now, I think that we also have a situation where the entire
small business community is behind this. There is unanimity and
we are speaking basically with the same voice.

There have been some discussions about the impact. One of the
impacts is very subtle and that is that we have a pattern of retro-
actively approving this deduction for small business.

We did it in 1993. Basically, we had a lot of people say at the
end of last year that this was going to be renewed. Clearly we have
a situation where, while it is not ideal, at least let’s not create a
pattern of promises and then not do it again. So that is one of the
subtle reasons.

The other reason—Professor Bruce Kirchoff did a study for the
National Association for the Self-Employed. He is the former chief
economist for the Small Business Administration. He did a study
in which he indicated that 400,000 individuals took health insur-
ance because of the deduction. Without that, they would not have
taken health insurance. There is another factor that we need to
consider. Ordinarily, one would think the 25-percent deductibility
might not be that important, but let me put it in context for the
subcommittee.

The average sole proprietorship makes less than $15,000 per
year in total income. So we are talking about an amount of money
that is very important to those small businesspeople. While the av-
erage income is $15,000, there are many, many more that make far
less than that. So the deductibility, not only the 25 percent but
hopefully the full deductibility, is of critical importance to those
small businesses, especially those who have very small incomes.

Let me just conclude by saying that I think it is important that
this subcommittee is considering this issue. I would urge you
prompt consideration of the 25-percent deductibility for last year,
and I would urge you to raise that as much as you possibly can
looking toward 100 percent or something close thereto in the fu-
ture,

Thank you very much.

[The prepared statement follows:]


58

members, so it is immediate. The frustration level is high and we
hope that you can find a mechanism for getting it addressed by
then.

Chairman THOMAS. For the record, and what I hear when I try
to discuss it with people who aren’t as familiar with the choices
that would be available, the immediate response is, “Why don’t you
just go ahead and incorporate?” If you see this disadvantage be-
tween a particular structure versus a C Corporation, why don’t you
just go ahead and change your structure?

Mr. RIsALvATO. If you change your structure, then you are going
to actually be paying a double tax on all of the income of the cor-
poration because right now as an S Corporation, we are paying tax.
It gets passed through as personal income which you look at. It
makes it even more unfair because the income that is being added
to our W-2 is not cash. It is already spent and we are being
charged for income being taxed on income that we haven’t received.
So it makes it that much more difficult.

If we change to a C Corporation, then the corporation pays taxes,
what is left over gets distributed to us as stockholders, so we would
lose either way.

Mr. Vick. The reality is there are other differences between sole
proprietorships and corporations; some are positive, some are nega-
tive. The filing date alone in agriculture, you file March 1 and you
don’t have to file the estimated return. That can’t be done if you
incorporate. There are more tradeoffs between the two than just
this issue.

Chairman THOMAS. The real answer, if you are provided a choice
in the Code, should not be determined in terms of something that
we are trying to have people have a real incentive going for. I just
wanted to get that on the record.

Mr. RISALVATO. Mr. Chairman, it really is just very, very impel-
ling. This is an issue that should have been done a long time ago
and I can tell you, both for myself and for the small
businessowners, we need this to be passed. We need it to be retro-
active to 1994 and we really need to start phasing in the one—up
to 100 percent deductibility.

Chairman THOMAS, Obviously, you know that I am committed in
dealing with the retroactivity. I wonder if you will allow us some
leeway on a prospective. Maybe you have heard the earlier discus-
sion whereon the 100 percent theoretically versus what is actually
being offered versus an upper limit which might be a fixed dollar
amount, or even the potential for a cap so that we can deal with
costs versus providing the option to you, and that, quite frankly,
we might be able to lead changes in the corporate areas as well as
in terms of fringe benefits.

So 1 am looking for just a little bit of leeway there. But clearly
from the bottom end up, it is a question of equity, and we will do
everything we can to make sure that you get that 25 percent for
1994 and you get it in time not only for the April 15 date, but at
a time when you can actually use it before you have to file an
amended return.

Mr. RISALVATO. I just wanted to let you know there are a lot of
small businessowners that, when I have told them that their 25


16

\\

July 13, 1993

Much hay been written about the millions of Americans without health insurance, but
litle is noted about one of the biggest reasons: unfair Federal tax policy,

Since Janusry 1, 1993, self-employed Americans have not been able to deduct any
portion of their health insurance premiums from their federal income taxes. Loss of
this deduction represents a minuscule savings (0 the federal budget, but financially
affects thousands of hard-working Amerie:

‘That's why the National Association for the Self-Employed — representing more than
300,000 such Americans — commissioned noted economist to determine how the
lows of this deduction impacts self-employed Americans who pay for their own health
insurance.

‘The study's conclusion: 400,000 Americans will no longer be able co afford their
health insurance because federal tax policy makes it more expensive.

‘Thousands of Americans are suffering because Congress has failed to fulfill a promise
it repeatedly made to self-employed Americans — fair ancl equal tax treatiment

Self-employed Americans create jobs. Many large businesses started in a garage oF
a basement. These same self-employed preserve jobs — laid-off workers of big
Companies often re-enter the work force ay an entrepreneur

Yet, these are the very people whom our elected officials say no longer deserve a tax
break when buying health insurance. While iis true that Congress and the President
have indicated they plan to restore a partial deduction for the selt-employed, this tax
break would only be effective until December 31, 1993

Next year, the financial pain hegins anew. We challenge any group to tell us why
self-empleyed Americans should not receive permanent, equal tax treatment when
paying for health insurance premiums

As you read this report, I'm sure you'll reach the same conclusion we did: the time
to talk about tax faimess is over, the time act it is NOW.

Sincerely yours,

thie

BgAnie L. Thayer
fhairman, National Association for the Self-Employed

\\



28

Again, I thank you Madam Chairman, for inviting me to appear before you and
your committee today to bear witness to the need for this positive legislation. I am

willing to answer any questions I can.

Respectfully Submitted,

Jeanie Morrissette

Homestead Construction Co., Inc.
3909 Annandale Road
Annandale, VA 22203
703/642-2366

NARI is a not-for-profit trade association with nearly 6,000 member companies
nationwide, representing over 40,000 remodeling industry professionals. NARI
members are primarily residential home improvement contractors, and include

national manufacturers and distributors of home improvement products and

services.

Residential remodeling constitutes a $100 billion industry that has grown over
130 percent in the last ten years. With over 50 years of experience, NARI is
committed to enhancing the professionalism of the remodeling industry and
serving as an ally to homeowners. NARI is dedicated to the growth and
betterment of the remodeling industry and related small businesses. For more
information about NARI, contact Patti Burgio, director of government affairs,
NARI, 4301 North Fairfax Drive, Suite 310, Arlington, VA 22203, 703/276-7600.


94

STATEMENT OF
HOME OFFICE ASSOCIATION OF AMERICA
HOUSE COMMITINE GH MATS. AND KEANS
RELATING TO THE SAVINGS AND INVESTMENT HEARINGS
February 2, 1995

Chairman Archer, Representative Gibbons, and Members of the
Committee on Ways and Means, my name is Richard Ekstract. TI am
Chairman of the Home Office Association of America ("HOAA"), an
organization dedicated to serving the needs of individuals whose
offices are in their homes. I appreciate the opportunity to submit
testimony on two issues of vital importance to HOAA: the home
office expense deduction and the self-employed health insurance
deduction.

Background on Home Office Expense Deduction Issue

until enactment of the 1976 Tax Reform Act, taxpayers were
able to take liberal advantage of home office deductions for most
types of work conducted at their personal residences, either as an
ordinary and necessary business expense under tax code section 162
or as an expense for the production of income under section 212.
In response to perceived abuses of the deduction, Congress enacted
section 280A, which sets forth rules and limits on the
deductibility of expenses attributable to the business use of homes
for individuals and $ Corporations.

These rules and limitations no longer reflect the realities of
how individuals work in today’s world. Section 280A states that no
home office deductions are allowed unless the deduction meets
specific, and in our view overly complex, statutory requirements.
Tt is virtually impossible for a large number of home office
workers to qualify under these rules, and those that qualify cannot
be sure that they do.

The rules state that the portion of the home that is used for
business must be used exclusively on a regular basis,1/ and in
only one of the three following ways: (1) as the principal place of
business for any trade or business;2/ as a place normally used by
clients, patients, or customers;3/ or in connection with the
taxpayer's trade or business if the taxpayer is using a separate
structure unattached to the personal residence.4/ Of these
additional requirements, we have found that defining a taxpayer's

1/ See § 280A(c) (1).
2/  § 280A(c) (1) (A).
3/  § 280A(c) (1) (B)-

4/ § 280A(c)(2)(c). Two additional exceptions are provided in
the statute which do not require exclusive use of a portion of a
residence. A taxpayer in the business of selling products at
retail or wholesale may take deductions allocable to space within
the residence which is used on a regular basis as a storage unit
for inventory of the business. This exception is only available
if the residence is the sole fixed location of the business. See
§ 280A(C)(2). A taxpayer regularly using the residence to
provide day care for children, adults over age 65, or mentally or
physically disabled persons may qualify for deductions allocable
to the day care business. See § 280A(c)(4). Deductions under §
280A are limited to the excess of (1) gross income from the use
of the dwelling unit over (2) the deductions allocable to the
unit which are allowable without regard to business use. See §
280A(c) (5).


9

Chairman THomas. I thank the gentleman. I also thank my col-
leagues for their continued interest in this area. I would say to
each of you that your prepared remarks would be made a part of
the record and you can proceed as you see fit, and that I would pre-
fer we hear testimony from each of our Members before we go to
questions.

I would start with our friend and colleague on the subcommittee,
Ben Cardin,

STATEMENT OF HON. BENJAMIN L. CARDIN, A REPRESENTA-
TIVE IN CONGRESS FROM THE STATE OF MARYLAND

Mr. Carvin. Thank you, Mr. Chairman. Let me thank you very
much for these hearings. I am pleased to hear about H.R. 697 and
I hope that our subcommittee will move that quickly.

Let me say from the outset that I do think we need to move for-
ward on health care reform whenever we can. Reinstating the de-
ductibility for the self-employed is an important step forward and
we should move it quickly. I agree with the chairman.

I was pleased to hear President Clinton in the State of the Union
Address speak about the need for this Congress to deal with health
care reform. I hope that we will move forward on this issue of
health care for the self-employed, the COBRA issue that Mr. Stark
referred to, and other issues that may come before our subcommit-
tee.

The number of uninsured, as President Clinton pointed out in his
speech, has increased over the past year. Those people who are
self-employed are one-and-a-half times more likely to be uninsured
than a person who is employed for a corporation.

We must take action to reverse that. I have introduced H.R. 691.
Like the chairman’s bill, it would extend for 1994 the self-employed
deduction at 25 percent but would then, beginning in 1995, insti-
tute an 80-percent deduction. Let me just talk about that for one
moment, if I might.

I think the Tax Code should be a positive reinforcement of the
people to be insured. For the people who work for companies, for
corporations, it has been a powerful tool for those companies to pro-
vide health benefits for their employees. For the self-employed, at
25 percent, it is an incentive but it does not offer parity for those
people who work for corporations. Eighty percent, I believe, under
the current circumstances would provide parity.

The average company that provides health benefits pays 80 per-
cent of the premium cost with the individual employee paying 20
percent. To provide parity for the self-employed, I believe 80 per-
cent would provide that goal. It is interesting, of course, that the
Ways and Means Committee last year did approve legislation to
use the 80-percent mark.

1 look forward to working with the chairman to not only reinstate
the deduction for 1994, but to permanently establish a policy that
will encourage more people who are self-employed to have insur-
ance,

[The prepared statement follows:]


—————____
————————
_————
———-
————
———

A”:
MASE

fj

77

Estimating the Number
of Persons Affected by
the Elimination of the
25 Percent Income

Tax Deduction for
Health Insurance
Premiums

Executive Summary

Beginning July 1, 1992, the 25 percent deduction
allowance for health insurance premiums from the
income of self-employed persons came to an end.
This raises the question: “How many persons will
become uninsured because of the elimination of
this 25 percent income tax deduction?”

The answer, based on estimates drawn from analysis

of statistics from the 1991 Current Population Survey,
and published economic research, is 295,000 self-
employed persons will stop purchasing health insurance.
Because some of these have dependents, a total of 412,000
persons, including 117,000 children under 18, will join the
ranks of the uninsured.


83

Chairman THomas. Thank you very much.

The gentleman from Nebraska.

Mr. CHRISTENSEN. Thank you, panel. I really appreciate your tes-
timony. Ms. Whitt, you just stated that your figures reflect 12 mil-
lion self-employed individuals.

Ms. Wuitt. That is based upon the people who on their tax re-
turns actually made money and paid a self-employment tax, so it
is a little lower than some of the figures that were discussed earlier
by the SBA because their figures also included those people that
had a loss.

Mr. CHRISTENSEN. I missed the SBA. What was the number they
stated? Do you know, Mr. Chairman?

Chairman THomas. No.

Mr. CHRISTENSEN. The reason I asked is the Treasury states that
almost 3.2 million self-employed individuals would claim a 25-
percent deduction on their 1994 tax returns if it were made avail-
able to them.

I wanted to know if that is a figure that is low compared to the
12 million. Do you have any——

Ms. Wuitt. Actually, I just asked our tax consultant prior to
coming up here because I was wondering myself if a person claimed
a loss on their tax return, if they would be able to still take the
deduction. We can turn around and ask him.

b Mr. CHRISTENSEN. Mr. Faris, do you have any idea on the num-
er?

Mr. Faris. The 12 million is a very close number. Again, it goes
back to those who filed tax returns. When it comes to tax deduct-
ibility, the ones who file tax returns are the ones we are most in-
terested in right now, so we think that is a good number.

Mr. CHRISTENSEN. I agree with you, Mr. Faris. Earlier you stated
that it is a slap in the face to every small businessman or woman
out there that we are only looking at the 25 percent. We want to
do what is right, I know.

I have a lot of small businessowners in my district. We shouldn’t
treat small business differently than large corporations. Nearly
every large corporation was once a self-employed business that
grew. That is not always the case, but this country was founded on
entrepreneurial spirit and to punish success is just not right.

know we are talking about the revenue shortfall and trying to
be careful with the budget, but if there is ever a time that we
should restore some common sense to the Tax Code, it would be at
this time where we could make a large step instead of just a small
step toward that balance.

Do you have the numbers that reflect the number of people that.
would be reinstated with the 25 percent? Do you know how many
this past year, Mr. Faris?

Mr. Faris. Well, right now, we are talking in terms of specific
numbers, I will have to get those to you to have a part of the
record. I think the specific number in having those back on the roll,
it goes back again to what you said, what we are telling the small
business community in the numbers. It is very easy inside the belt-
way to focus on where we have shortfall and where we make it up,
but all the people on Main Street hear is that the result is you are


5

One of the things I hope to get out of this hearing is the reaction
from the real world not about theoretical equity, that is the poten-
tial for 100 percent deductibility, but to what extent is the real
world operating at a percentage which is below that and would it
be meaningful for us to explore a realistic relationship rather than
the theoretical capability for deduction.

These are some of the questions I am looking forward to getting
answers to and also, for the record, a feeling from the real world
about our failure to make a permanent change and how difficult it
is for people not to know what tomorrow brings in this area.

With that, I would yield to my friend from California.

(The prepared statement follows:]


81

Estimating the Number of New Uninsured

The increase in price will cause some self-employed to terminate
health insurance.

Multiplying this 16.1 percent price increase by the price elasticity of demand (-0.19) yields an
estimate of the change in demand, at -3.1 percent. The number of privately insured self-employed
workers prior to the tax change (9.5 million) times the -3.1 percent change in demand equals
-295,000 self-employed. This multiplied by the number of persons per self-employed (1.4) equals
-412,000 persons in total who will fall outside the health insurance system because of this change
in the tax law®, This 412,000 persons includes 17,0000 children under 18 who will no longer have
health insurance coverage.

Thus, 412,000 persons, 295,000 self-employed and 117,000 dependent
children, will enter the ranks of the uninsured because of the elimina-
tion of the 25 percent tax deduction allowed prior to July 1, 1992.

‘SELF-EMPLOYED
‘SELF-EMPLOYED PERSONS 00
‘AND THEIR DEPENDENT
WHO TERMINATED
THEIR HEALTH INSURANCE
‘AFTER JULY, 1982

‘THE NEWLY UNINSURED = 412,000 PERSONS.

‘The 1991 Current Population Survey reports the results of @ survey carried out in March of 1991. The
questions about health insurance asked respondents to describe their health insurance status during the year 1990,
‘Thus, the analysis reported here is relevant to health insurance experience in 1990.

2 ‘The statistics reported here are taken from: Employee Benefit Research Institute, An EBRI Special Report:
Sources of Health Insurance and Characteristics of the Uninsured. Analysis of the March, 1991 Current Population
Survey, (Arlington, VA: EBRI) February. 1992

3 This is taken from the EBRI report, Table 1%, page 40.

* EBRI Report, Table 34, page G3.

> 11s important to note thatthe negative sign denotes the direction of the relationship (increased price causes
decreased demand) so that -0.67 describes a greater demand effect per unit price change than -0.06. Thus. an elasticity of
0.67 ts referred to as “greater than” -0.06.

© Holmer, Martin, “Tax Policy and the Demand for Health Insurance.” Journal of Health Economics. Vol. 3,
(1984), pp, 208-221

7 BBRI report. Table 1, page 27.
* This calculation is taken trom an analysis found in; Federal Tax Policy and the Uninsured; How U.S, Tax Laws.

Deny 10 Million Americans Access to Heulth Insurance, published by Health Care Solutions for America, Washington,
D.C, Janvary, 1992,


92

AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS
TAX DIVISION

The American Institute of Certified Public Accountants (AICPA) is the national, professional
organization of CPAs comprised of more than 320,000 members who advise clients on federal, state
and international tax matters as well as prepare income and other tax returns for millions of
Americans, Our members provide services to individuals, not-for-profit organizations, small and
medium-size businesses, as well as America's major businesses, including multi-national
corporations. Many serve businesses as employees. It is from this base of experience that we offer
our comments on the tax treatment of health insurance costs of self-employed individuals.

The decision in 1994 to postpone consideration of health care reform legislation has resulted, among
other things, in the loss of a deduction by self-employed individuals for any health insurance premiums
they have paid in that year. As part of the 1993 Omnibus Budget Reconciliation Act, when a number
of other “expired provisions" were retroactively re-enacted (targeted jobs tax credit, low-income
housing credit, employer-provided education and training expenses, etc.) and allowed to remain in
the law past the end of 1993, the deduction for 25 percent of self-employed insurance premiums was
terminated at the end of the calendar 1993. The committee reports noted that this provision should
be considered in conjunction with forthcoming health care reform (as indeed it was, in virtually all
the health care bills proposed during 1994).

Since, however, there were no health care changes in 1994, there was also_no extension of the
deduction for self-employed health insurance. This is a highly unfortunate result, and puts a
significant penalty on the health costs of those who operate as proprietors, partners, or $ corporation
shareholder/employees, vis-a-vis those who are employees of C corporations.

Pending whatever changes are made to health care legislation in the future, we think it critical that
Congress re-establish the right of self-employed persons to receive even that limited deductibility for
health insurance costs that they enjoyed before 1994, We do recognize that this provision, on a
stand-alone basis, is a revenue loser for the government. Nonetheless, there remains a major issue
of faimess for a significant part of the business community, and we would urge your attention to this
matter

As an organization that values simpler approaches to tax legislation, we would greatly prefer to see
action taken immediately, before the bulk of 1994 returns have been filed, rather than the added
complexity of amended 1994 returns and refund claims that even a minor delay will cause. Still, we
believe the self-employed business person has now — even with the best of congressional intentions
~ been further disadvantaged with respect to the cost of health care, and is entitled to a restoration
of the deduction for the current year.

We appreciate your consideration of our views.


60

ing of our membership. They have spoken loudly and clearly for
years about this particular issue.

My compadres at the table today will get into more of the detail,
1 am sure, as it relates to the self-employed. What I would like to
focus on, and just for few minutes, is the word fairness because
that is in reality what this is all about.

In Nashville, Tenn., and maybe it is true in California, but we
would call this a no-brainer. Just to think about the fact that Gen-
eral Motors is able to have 100 percent deductibility for purchasing
insurance and the person who is buying the Chevy pickup on Main
Street who is self-employed does not get the 100 percent but only
gets 25 percent. But yet we are a nation of entrepreneurs and we
say it is the backbone of our economy and we say that is what is
really important about America. Small businessowners are ready to
say, “Let's put some walk in our talk.” We talk good entrepreneur-
ship. Now let’s let the votes show it.

What we do not understand is why it is not 100 percent. You say,
well, it is an economic situation. If it is an economic situation, then
if we take the 45 point—right at $45.6 billion that are now being
deducted by all of those covered under deductibility and we add ap-
proximately $2 billion, it would cause the entrepreneurs to be the
100-percent deductibility. We just average that out and say, let’s
all be fair and pay the same. It would be until 95.2 percent.

We are ready to play by the games General Motors plays, but we
do not think we should finish the road of inequity and unfairness
for the new job generators in America that are on every Main
Street in every congressional district that were saying on Novem-
ber 8, and they are saying today, walk the walk.

I want to applaud this subcommittee and you, Mr. Chairman, for
having these hearings, putting forth this legislation. It is time to
get on with the program for the entrepreneurs so we can continue
to keep that American dream alive of entrepreneurship.

Thanks again for allowing me to come and speak today.

[The prepared statement follows:]


56

| would like to share with you two examples of the affect of this deduction on my clients,
in addition to the information I’ve already given you about the affect of the deduction on
my own business. Two of my small business clients, firms that are not incorporated, have
authorized me to tell you their particulars.

First, let me tell you about Corson Auto Supply Company, an auto parts company in
Rockland, Maine. In 1993 the cost of Corson’s health insurance was $6,500 a year. Last
year, it was $8,650 a year. Thus, Corson’s health insurance cost went up $2,150 in 1994
over 1993, and that doesn’t include the lost deduction of 25% of the value of the portion
of the premium that the business owner, Mr. Corson, paid for his own insurance. | am just
now reviewing his coverage as it’s up for 1995 renewal. He's probably looking at a 7-12%
increase in premium for the same level of coverage. He just told me that if in fact he foses
the tax deduction, he will be forced to either increase his deductible or decrease the
benefits he provides,

Another of my clients is Whitten Architects of Portland, Maine. Whitten employs three
people. Their 1993 health insurance premium was $6,700. In 1994, the premium was
$8,500. In 1993, Mr. Whitten, the self-employed owner of the firm, paid $3,688 for his
‘own and his family’s coverage under the group plan. In 1994, his family coverage share
of the total premium rose 10 $4,384, With the 25% deduction, his 1993 out-of-pocket
premium cost was $2,766 rather than $3,688. Without the deduction for his 1994 $4,384
premium, his yearly increase in cost was 58%! Mr. Whitten is seriously considering
whether he can afford to insure his employees when his own costs are subject to such an
astronomical annual increase. The availability of the tax deduction is key to his decision,
and he is waiting for my recommendation about what he should do in 1995.

‘What am | to tell my clients? That Congress wants to allow a deduction? Unfortunately,
wanting to allow the deduction is simply not a good basis on which to make a business
decision about what kind of health insurance to purchase.

Mr. Chairman and members of the Subcommittee, we are of course very much aware of the
ambitious and important Contract with America agenda items facing your committee. We
know that this deduction is not among the issues to be addressed as part of the Contract
with America. However, we also know that a retroactive extension of the deduction for
1994 health insurance purchases really must be done by the time tax returns are due on
April 15, 1995. We also know that enactment of a single issue tax bill such as this is
usually difficult to accomplish, especially on short notice. This is particularly true, we
know, because of the risk of amendment under the very different rules in the Senate
However, we believe that the commitment of well over half of all U.S. Senators to oppose
any amendments to a clean, single issue bill that would simply extend Section 162(I) so that
it covers 1994 could resolve that worry. That commitment is in writing, in a bipartisan letter
signed as of January 25 by 58 Senators. | sincerely hope you will be able to at least extend
Section 162()) prior to April 15 even if it takes somewhat longer to accomplish the larger
goal of expanding the deduction.

In summary, Mr. Chairman and Subcommittee Members, thank you again for this
‘opportunity to provide input. And thank you for your effort to extend the deduction
quickly, and to expand it ultimately. May { repeat that we are sensitive to the tension
between a conviction that a permanent, 100% deduction available to all businesses is the
right policy coming in the context of very scarce Federal dollars. We do understand that
enacting the right policy must be conditioned on finding sufficient revenue from an
acceptable source. Again, we would be very pleased to work with you and your staff as we
strive together to resolve this very important issue.

Thank you. 'd be glad to answer any questions you might have.


18

Chairman Tuomas. I thank the gentleman for his testimony. Ob-
viously the argument that the cost of the insurance is relatively
high and therefore 100 percent is worth more hopefully will be
dealt with in this Congress like it should have been in the last
Congress with some form of health reform, even if it is just a
slimmed-down package of insurance reforms, some kind of a vol-
untary pooling concept for individuals or small businesses or mal-
practice reform and the rest.

What I really am interested in getting out in this hearing is the
theoretical 100 percent match, my friend from Maryland’s 80 per-
cent parity concept. Then I would hopefully conclude today with
some questions to some people that will begin to provide us with
the answer of what is the behavioral tip percentage because they
may or may not be the same.

riven the timeframe that we are going to be in in terms of the
amount of money that we can provide for this kind of a benefit
which I think is essential, should be enough to make sure that we
maximize the number of people who avail themselves of this oppor-
tunity which will provide much-needed insurance. But I am not
anxious to provide a percentage beyond that which, in essence, is
a windfall to people which would have produced a behavior at a
lower percentage, and I do not want to perpetuate the feeling that
the self-employed are somehow second-class citizens under the Tax
Code because they chose to organize themselves for economic or
business reasons along a certain line versus another line of organi-
zation.

So I am open to any suggestion. Your argument on the need to
go to 100 percent immediately is because of, in essence, the relative
cost difference for these people in terms of their real life situation?

Mr. PoMERoy. No. Actually, I was arguing that as a further
point. There are two principal points of equity behind the approach
represented by H.R. 52. First, parity means identical treatment.
Business corporations, 100 percent deductibility. Parity for the in-
dividual or self-employed is 100 percent deductibility. Parity is a
simple concept, identical treatment of tax treatment. Second—that
is the tax fairness component. The affordability of coverage is the
second, I think, compelling rationale behind H.R. 52 or the other
related proposals as well.

First of all, let me discuss the graduated approach and then the
less than 100-percent concept. As to the graduated approach, I
don’t think we should proceed that way. I believe this will be the
Congress that passes middle-class tax relief. I think the compelling
rationale behind this particular tax relief ought to have it at the
front of the line as we address middle-class tax relief.

To give you some rough comparison figures, we still have got our
request in front of Joint Tax for evaluation purposes, but I believe
it is about $11 billion a year cost at 100 percent deductibility. That
compares to $17 billion on the Social Security tax repeal, OBRA 93,
which is contained in the contract, $56 billion to the capital gains
feature in the contract, or $107 billion annual contained in the con-
tract for the child tax credit.

Now, if you compare with Clinton’s tax credit proposals, tax relief
proposals, $11 billion compares very favorably to the $21 billion for

is education deductibility and $36 billion to the President’s child


47

employment or nonself-employment is something which is fairly
fungible.

If you make it very generous, then you have got to realize what
is going to tip is a lot of people are going to start calling themselves
self-employed and that is something where we do have evidence on
the tip point. We don’t have evidence as to specific numbers, but
it is something to keep in mind in terms of cost estimates.

Chairman THomas. OK. I appreciate your testimony very much
and, without objection, I will make the written testimony part of
the permanent record, and I believe I want to include your study.

Mr. Gruser. That would be great.

Chairman THomaS. Thank you very much.

(The study is being retained in the committee files.]

Chairman THOMAS. Call the second panel.

The next panel is Bob Vice, listed as an avocado and nursery
plant grower in Sacramento. I also know him as the President of
the California Farm Bureau, so that he can speak not only in terms
of the large group but as a businessman himself. Sal Risalvato,
who is a small businessman himself in New Jersey; and Sally Nel-
son who is an insurance agent from Portland, Maine.

I guess we will begin with you, Bob. We will make any written
testimony that you have a part of the record, and we would request.
that you proceed how you see fit in the 5 minutes that have been
allotted to you.

Mr. Vice.

STATEMENT OF BOB L. VICE, PRESIDENT, CALIFORNIA FARM
BUREAU FEDERATION, SACRAMENTO, CALIF.

Mr. Vice. Thank you, Congressman. Mr. Chairman, good after-
noon, My name is Bob Vice and I am a citrus and an avocado grow-
er in San Diego County. I also serve as President of the California
Farm Bureau which represents about 42,000-member farm families
who produce over 250 different commodities throughout our State.
Most of our members are self-employed and they have a great in-
terest in tax fairness issues. We appreciate this opportunity to
make comments on the tax treatment of health insurance pre-
miums.

The Farm Bureau strongly supports allowing self-employed tax-
payers and all others who pay the full cost of their health and den-
tal and disability insurance to deduct them as an expense. We seek
no special treatment. We simply feel that from the standpoint of
fairness, that the self-employed deserves the same considerations
as corporations. The motivation is not simply about leveling the
playing field for various categories of business in this country. This
is important, but even more so is providing all citizens the same
tax incentives to pay for health insurance and health care costs.

A tax deduction for the costs of insurance premiums would go a
long way toward helping the self-employed provide for their own in-
surance needs, and this is especially true with farmers and ranch-
ers because we have a relatively high insurance premium cost due
to the hazardous nature of our industry.

Many farmers reduce their coverage or drop it entirely because
they cannot afford it. Tax deductibility would soften the blow. Of
course, medical savings accounts would also help.


51

My accountant at the time almost spoiled the fun of participating in this new benefits game.
‘When it came time to do the end of year tax retums, he pointed out to me that the portion of the
health care premium I had paid for myself could not be deducted as an expense, and therefore
would be added to my income. 1 was so angry I felt like canceling the whole benefit. In fact
I was a lunatic, being unable to understand why I was being treated so unfairly. It just didn’t
make any sense. Of course I came to my senses and recognized the whole reason I started the
benefits in the first place was for the employees. I would simply have to live with it. But T
didn’t like it,

1 always ask my self, “What decision would I have made if I knew beforchand I would be unable
to deduct my share of the premiums?", I still do not know the answer to that question. Perhaps
it may have delayed my decision to provide health benefits for my employees.

In 1986 Congress threw me a bone. They now allowed me to deduct 25 percent of my premium.
I still can’t figure the rationale. If it was unfair to tax me on 100 percent of my premium. why
has it now become fair to tax me on 75 percent? It still does not make any sense! Why am I
different from the person that works for me? Why am I different from the President of General
Motors? I pay the same income taxes as they do, pethaps more or less based on our incomes.
Neither my employees, nor the President of General Motors have the amount of their health care
premiums added into their incomes at the end of the year. Why do I? Let me ask that question
again. Why do I?

The 25 percent deduction wasn't any great thing, but it was better than nothing. Like any
begging dog, I took the bone and chewed on it. Unlike the majority of the senseless things that
‘Congress sees fit to impose on small business, they had a built in bone throwing stopper for this
dog. Congress built right into the tax reform act of 1986 a sunset for the 25 percent deductibility
‘of my health care premium, The deduction ended in 1989.

Every year since then, Congress has debated extending the 25 percent deduction. Every year
‘Congress makes the same mistake. They don’t do the fair and sensible thing, They don’t do the
‘one thing that will add incentive to small employers to seek heath care benefits for them and
their employees. Congress doesn't make the deduction permanent, and they don’t make it a 100
percent deduction.

Instead after each annual debate and holding the dogs at bay, they always choose to spare another
bone. Congress has extended the 25 percent deduction every year since 1989 with the exception
of 1994,

It is now time to pay taxes for 1994. A few years ago, I hired another accountant. Every year
he calls and asks me to retrieve the invoices from my health care carrier from the file in order
to calculate how much of the premium was paid for myself and my brother. Each year I
dutifully retrieve them. I guess that makes me a Retriever. I report the numbers knowing that
only 25 percent of those numbers will actually be deducted as expenses. My bone. The
remainder is added to my income. I would like some meat on my bone thank you.

Unfortunately, I am here begging for my bone again. Congress has not extended the 25 percent
deduction for 1994. If Congress does not act quickly, small businesses throughout America will
rot get any deduction this year. Ata time when most small businesses are finding it difficult
to continue providing health care benefits for themselves and their employees, it is bad for the
market-place to not provide them with as much incentive as possible.

Task you, in the spirit of fairness and in the spirit of concern for health care reform, please to
pass legislation that will permanently restore the deduction on health care premiums for the
‘owners of small businesses. I also ask that you make the deduction retroactive to include 1994,
Most importantly, I ask that you phase in 100 percent deductibility, with an immediate increase
to 50 percent. Members of the Committee, I think this will be a great first step, and a great
signal that health care reform will be brought to a successful conctusion in this Congress

1 apologize if there seems to be a facetious tone to my testimony. I mean no distespect. I make
the analogy of the dog and the bone only as a means of highlighting the silliness of this debate.
This debate should be over and done with. Iam frustrated, and my fellow small business owners
are frustrated by the obvious and blatant unfairness of this tax policy. Ido detect a new aura in
Washington. I was here last week to testify on regulatory reform, and I felt a renewed electricity
in the halls of Congress. It felt good. 1 think the time is right to act on the legislation [ have
requested here today. I wish you well in your efforts to achieve a more fair tax policy for all
‘Americans.



80

The employer-provided coverage of the self-employed (49.1 percent)
is essentially equal to that of families with annual incomes of $14,000
to 19,999.

Thus, one can assume that this income level represents the average income of the self-employed.
This income level is approximately $10,000 below the median for all American families. Thus,
Homer's weighted average price elasticity understates the elasticity for the self-employed and
needs to be adjusted.

‘We can adjust Homer's weighted price elasticity by changing the weights, or distribution of,
families, among income classes based upon the assumed lower average income for the self-
employed. Essentially, this increases the percentage of self-employed families at lower income
levels and reduces the percentage at higher income levels. Adjusting the income distribution of the
self-employed so as to reduce the average income $10,000 results in an increase in the weighted
average price elasticity from -0.16 10 -0.19.

Change in Effective Price of Health Insurance

Tax policy affects the effective cost of health insurance premiums
because some premiums are paid with tax deductible dollars and
some are paid with after-tax dollars.

The law allows three different forms of health insurance premium payments. First, corporations
that purchase health insurance for their employees are allowed to deduct the total cost from their
income before paying taxes. This tax deduction effectively decreases the after-tax price of health
insurance for those so insured. Second, self-employed persons could (prior to July 1, 1992) deduct
only 25 percent of their health insurance premiums from their income before paying taxes. Thus,
tax policy causes the after-tax prices of self-employed health insurance premiums to be greater
than those paid by corporate employers. Third, individuals cannot deduct any health insurance
premiums from their income taa so they have the greatest after-tax premium prices.

Thus, for any one health insurance premium amount, there are three different “after-tax”, or
effective, premium price groups: (1) 100 percent tax-free payments by the employer;

(2) 25 percent tax deductible purchases by self-employed; and (3) zero percent tax deductible
purchases by individuals. Assuming a premium of $4,000. and taking into account state and
federal taxes, including income, social security, and Medicare taxes as paid by the average middle
class family, these payments have been estimated as $3,716, $7.075, and $8,214 respectively’.

From this, we can calculate the increase in effective premium prices beginning July 1, 1992.
With the removal of the 25 percent tax deduction, the self-employed became members of the zero
tax deductible group.

Thus, the self-employed’s health insurance price rose from $7,075 to
$8,214. This is a increase of $1,139, or 16.1 percent.

Sig TER AN COST BOMLARG st)
AFTER TAX COST $214 |
$7075 |

sane |

ASSUMES A $4000 ANAUAL PREMIUM

‘SELF-EMPLOYED SASED OW
TAXLAW PRIOR TO GUL 1982

gers es

. CORP. EMPLOYEE SELF-EMPLOYED SELFINSURED
{ee er HOMER METRTE NSUSGDS Tax SraTus



13

Congressman

RICHARD E. NEAL

1 Cannan Mifige Huilding

January 27, 1995

‘Testimony of Congressman Richard E. Neal of Massachusetts
Health Subcommittee of Ways and Means
Health Insurance Tax Deduction for the Self-employed

Mr. Chairman, first of all, 1 would like to thank you for allowing me to testify before.
the Health Subcommittee on the issue of the health insurance tax deduction for the self-
employed. 1 believe this an extremely important issue on which Congress should be able to
agree and take swift action.

On the opening day of the 104th Congress, I introduced legislation to restore and increase.
the deduction for the health insurance costs of self-employed individuals. Self employed
businesses owners and small businesses should be able to share the same tax treatment of health
benefits as large corporations.

Prior to December 1993, self-employed business owners were allowed to deduct as a
business expense up to 25% of their medical insurance payments for an individual, an
individual's spouse and dependents, provided that the individual or the individual's spouse was
‘not able to participate in an employer subsidized health insurance plan. As many of you know,
this provision was extended as part of the Omnibus Reconciliation Act of 1993. The deduction
expired on December 31, 1993. The deduction was only extended to the end of 1993 because
we believed this issue was going to be adequately addressed in health care reform.

Unfortunately, before the 103d Congress adjourned, agreement on health care could not
be reached. However, consensus was reached on one issue--the ability of the self-employed to
deduct the cost of health care insurance. Major health care reform proposals included a
provision to allow self-employed workers this 100% deduction. We should be able to reach
agreement on this issue and take quick action,

recently introduced legislation which restores the 25 % deduction and gradually increases
the deduction to 100%. The bill phases in the deduction over a period of four years. For
calendar years 1994 and 1995, health insurance would be 25% deductible, in 1996 and 1997 it
would become 50% deductible. In 1998 and thereafter, health insurance would become 100%
deductible,

‘As many of you know, when I first came to Congress I served on the House Committee
on Banking. One of the issues I worked on was small business lending. Small businesses are
‘not able to receive financing as easily as large corporations. I worked {0 include a provision in
banking reform legislation to require the promulgation of a regulation addressing the disclosure
of loans made to small businesses.

Since I joined the Ways and Means Committee, I have tried to make permanent the
deduction of health care costs for the self-employed. It was the first tax iscue I undertook as
a Member of the Committee. Small businesses should receive the same favorable treatment as
corporations.

Corporations are permitted to deduct 100% of the cost of providing health insurance.
‘The self-employed should receive the same treatment. One of the basic principles of tax policy
is fairness. One dimension of tax faimess has been described as the “equal treatment of equals."
‘This can be interpreted as the imposition of similar tax burdens on taxpayers in similar
circumstances. Why should health care costs of one type of business be treated differently than
the health care costs of another type of business? It does not seem fair.



55

alternative insurance that is less expensive-probably because of fewer benefits, higher
copays or bigger deductibles. So, the loss of the deduction affects the quality of coverage
can provide, along with its price.

There is another, complicating factor that makes this issue even more frustrating and
expensive both for small self-employed business people themselves and for those of us who
‘earn our living by serving these people. And that’s unpredictability. It takes time and it
costs money to locate and analyze the coverage available 10 small businesses. The
frustration of having to spend that time and to incur that expense as a result of needing to
make adjustments (0 existing coverage caused by the expiration of a tax deduction is
compounded by not knowing whether the deduction is lost for good, for a year, or not at
all, Not only that, both | and my clients are right now in the process of preparing and filing
‘our 1994 tax returns. {f there is too much delay in resolving this issue, we face the
possibility of additional expense in order to pay for the filing of amended returns.

As you know, Section 162(1) has always contained a provision dictating that the deduction
would expire at a specified point in time. That "sunset provision" has been extended time
and time again over the past decade, once retroactively. We are here now talking about
extending retroactively a deduction that expired December 31, 1993. That means we are
talking about whether the cost of insurance coverage for 1994-last year-a cost already
incurred-may change by @ significant amount.

Some of my clients, basing their decision on historical Congressional action and public,
bipartisan Congressional statements, kept existing levels of coverage in place. We believed
that it was almost certain that Congress would again extend the deduction’s availability even
if Congress tumed out to be unable to expand it and/or make it permanent. (Of course, as
you'll recall, the focus of last year’s debate on this issue was an finding a way to make it
a permanent, 100% deduction. The need to extend the deduction at a 25% level was
minimalized because of the effort to expand it.) We are now faced with the possibility of
having to absorb a higher health insurance cost because we guessed wrong. And at the
same time we are facing the need to guess again about how to handle our health insurance
purchasing decisions for 1995 and 1996.

‘Mr. Chairman and Members of the Subcommittee, it is wrong to impose on America’s small
businesses a requirement that they have to guess at whether a tax rule will operate in a way
that can cause one of their major costs to fluctuate so widely. The lack of certainty or even
predictability over whether this basic, important, widely-supported deduction will continue
can cause real damage.

For me and most of my clients, the cost of 1994 health insurance will be, unless you act,
substantially higher than any of us had budgeted for. We will lose extra dollars that we
already spent on enhanced coverage. We will have to decide for both ourselves and our
‘employees whether next year we'll provide an insurance plan that costs tess. We'll have
to cope with determining how to absorb the higher-than-anticipated cost of 1994's coverage.
We'll be forced to choose between fewer benefits, higher copays, bigger deductibles, less
‘of an employer contribution or some combination of these painful alternatives. And those
choices may be even rougher because similar quality coverage may not be available at the
fesser amount of premium dollars we'll have to spend. And as | make my own personal
decision on these issues, I'l! also have to decide how to advise my clients who are in
exactly the same position.

The bottom line is that Congress’ inability to stabilize the existence of the deduction for self-
employed health insurance, or to establish with some certainty the size of it, could cause
America’s self employed small business people to choose health insurance coverage that is
considerably less valuable than they would otherwise purchase. This adds to the costs of
the employees of these businesses. It could ultimately add to the cost of the government's
share of the total health care bill as well. There will be those instances where businesses
choose to forego providing insurance due to the higher cost; there will be other instances
where employees will skip insurance for themselves or for their families where employer
shares of the premium shrink; and there will be instances where coverage levels fall short
in meeting people's health care needs and government will have to step in and help out.


ADVISORY

FROM THE COMMITTEE ON WAYS AND MEANS
SUBCOMMITTEE ON HEALTH

FOR IMMEDIATE RELEASE CONTACT: (202) 225-3943
January 23, 195
No. HL-2

THOMAS ANNOUNCES HEARING ON TAX TREATMENT OF
TH INSURANCE COSTS OF Ee

'

+ Congressman Bill Thomas (R-CA), Chairman of the Subcommittee on Health
of the Committee on Ways and Means, today announced that the Subcommittee will
conduct a hearing on allowing self-employed individuals to deduct a portion of their
health insurance premiums. The hearing will be held on Friday, January 27, 1995,
in 1310 Longworth House Office Building, beginning at 12:00 noon.

‘This hearing will feature invited witnesses only. In view of the limited time
available to hear witnesses, the Subcommittee will not be able to accommodate
requests to be heard other than from those who are invited. Those persons and
organizations not scheduled for an oral appearance are encouraged to submit written
statements for the record of the hearing.

BACKGROUND:

Under present law, the tax treatment of health insurance depends on whether
the taxpayer is an employee and whether the taxpayer is covered under a health plan
paid by the employee’s employer. An employer's contribution to a plan providing
accident or health coverage for the employee and the employee's spouse and
dependents is excludable from an employee's income for income and payroll tax
purposes. In addition, businesses can generally deduct, as an employee compensation
expense, the full cost of any health insurance coverage provided for their employee.
In the case of self-employed individuals (i.e. sole proprietors or partners in a
partnership), no equivalent exclusion exists. However, prior law provided a deduction
for 25 percent of the amount paid for health insurance for a self-employed individual
and the individual's spouse and dependents. The 25-percent deduction, which expired
at the end of 1993, was not extended because it was anticipated that it would be
addressed in the health care reform legislation of 1994.

The 25-percent deduction was first enacted on a temporary basis by the Tax
Reform Act of 1986 (for taxable years beginning before January 1, 1990). Certain
technical corrections to the provision were made by the Technical and Miscellaneous
Revenue Act of 1988. The Omnibus Budget Reconciliation Act of 1990 extended the
deduction through the end of 1991, The Tax Extension Act of 1991 then extended the
deduction through June 30, 1992. The Omnibus Budget Reconciliation Act of 1993
extended the deduction through the end of 1993.

DISCUSSION:

Under present law, the Federal tax laws encourage the provision of health care

insurance coverage by providing favorable tax treatment for an employer's contribution
toa health plan for an employee and his family. Self-employed individuals have been
entitled to a deduction of a portion of their health insurance costs.


72

As indicated by the NASE study, prompt reinstatement of the 25-
ercent deduction for the 1994 tax year will help mitigate the like-
ihood of a significant increase in the number of uninsured persons.

We also believe that if Congress wants to increase the number of
self-employed persons with health insurance, a 100-percent tax de-
duction is the most effective way to do this.

It wasn’t until 1986 that Congress attempted to rectify to any de-
gree the disparity in the tax treatment of health care premiums be-
tween unincorporated businesses and corporations by allowing the
self-employed to deduct 25 percent of their health care costs. How-
ever, even with the 25-percent deduction, a self-employed individ-
ual incurs a higher effective cost when purchasing a health insur-
ance policy because the self-employed must purchase their health
insurance with primarily after-tax dollars while employees of large
corporations have their policies paid with pretax dollars.

To purchase the same $4,000 policy, an employee of a large cor-
poration might receive it tax free, a self-employed individual who
makes $35,000 in adjusted gross income, receives a 25-percent
health insurance deduction, and must earn $7,075 in pretax dol-
lars. Now with no deduction, that same self-employed person pur-
chasing that same policy will end up paying $8,214 in pretax dol-
lars, a 16-percent increase.

It is obvious this is another example of a group who needs hel
the most gets the least. More than 12 million Americans are self-
employed, and the figures that we used are the people who actually
filed returns and claimed a self-employment tax deduction. Nearly
17 percent of these people earned adjusted gross incomes of less
than $50,000.

Our figures show, based upon the IRS statistics, that only 22.7
percent of the self-employed actually claimed a health insurance
deduction in 1992. Nearly 40 percent of those claiming the deduc-
tion had adjusted gross incomes of less than $25,000, and 67 per-
cent had less than $50,000.

The issue of 100 percent deductibility is obviously a middle-class
issue. Therefore, we urge Congress to consider it along with other
initiatives focused on this needy group. Tax season is upon us and
I believe that many of the self-employed are going to be surprised
to find out they have no deduction for 1994. Therefore, on behalf
of our more than 320,000 members, I urge the Ways and Means
Committee to, No. 1, take immediate action to reinstate the deduc-
tion; and No. 2, raise the deduction level to 100 percent.

I thank you very much for allowing me to express our viewpoint,
and good luck.

(The prepared statement and attachment follow:]


27

Health care insurance is a significant cost to small business, one that is often
priced out of the range of affordability. A complete deduction and cost
controls will bring it back into the realm of possibility for many that have

had to drop coverage.

Enhancing this deduction will help many people. According to a study by
the Employment Benefits Research institute, nearly a quarter of small
business owners have no health insurance and half of all the uninsured are
cither self-employed or work for small firms. A complete tax deduction for
health insurance is a strong incentive for small businesses to provide such

an important employee benefit.

appreciate the concer of this Committee and truly hope that immediate action is
taken to restore the deduction retroactively for 1994 and that serious thought be

given to expansion of the deduction to one-hundred (100) percent,


10

insurance costs. Sound tax policy dictates full deductibility of premium or self-insurance
costs as ordinary and necessary business expenses. There is no valid tax policy reason
for treating the smallest businesses any differently. The Chamber urges this
Subcommittee to work to enact full deductibility in 1995, Recognizing that the major
obstacle to such action is its cost in tax revenues, the Chamber is willing to consider a
phased-in approach to 100 percent deductibility. What the Chamber cannot accept is
that the smallest businesses, frequently new and often struggling, should be denied a
measure of security granted to larger businesses.

‘The Chamber wishes to commend you and the Subcommittee for holding a
hearing on an issue that has been a thorn in the side of the nation’s smallest businesses
for many years: their inability to deduct the full cost of their health insurance, and the
inequity inherent in being denied an advantage granted to their incorporated fellows.
The Chamber looks forward to working with the Subcommittee to remove that thorn and
to enroll the self-employed as full partners in our common effort to make health
insurance more available and affordable in the private sector.


63

‘After-tax savings from a 25 percent deduction: $264.67
After-tax savings from a 100 percent deduction: $1058.68

Most self-employed business owners survive on tight margins -- they keep the business
afloat on cash flow, not profit. The typical NFIB member makes less than $40,000 a year.
Affordability is the most important factor to small business owners when deciding whether to buy
health insurance. To people in this position, the savings shown in the example above can make
a real difference when making a decision on whether to buy an important, but very expensive
product.

(3) Incentive for the self-employed to purchase health insurance for their
NFIB strongly believes that full deductibility forthe self-employed would also reduce the number
cf uninsured among the employees of the self-employed. Under current law, a self-employed
business owners find themselves in the peculiar position of being permitted to deduct the health
insurance costs of their employees, but not their own premiums. If they have no incentive to
purchase health insurance for themselves, they are far less likely to consider buying it for their
employees. Full deductibility would change that,

(4) Tax Fairness: Ending politics as usual. The 25 percent deduction has been
temporarily extended from year to year since it was first enacted in 1986. Because of its
substantial bipartisan popularity, it has repeatedly been held hostage in previous Congresses to
‘other, typically very unpopular causes like the tax increases in 1990 and 1993, as well as the
Clinton health care plan last year. Again, restoring the 25 percent deduction and moving toward
100 percent would shatter a status quo in which the self-employed are used as a political football

‘Self-Employed Health Insurance Deduction, A History

1986-1989: The self-employed were first given 25 percent deductibility as part of the Tax
Reform Act of 1986.

1989: ‘The Omnibus Budget Reconciliation Act of 1989 extended the deduction for nine

‘months (for taxable years beginning before October 1, 1990.)

25 percent deductibility was extended through 1991.

25 percent deductibility was extended through June 30, 1992.

‘On June 30. 1992, 25 percent deductibility expired.

25 percent deductibility was included in Omnibus Budget Reconciliation Act of

1993 and applied retroactively from July 1, 1992, to December 31, 1993. (The

deduction was limited if the individual or his or her spouse was eligible to

participate in an employer-paid health plan.)

1994: Self-employed deductibility no longer exists.

(5) Health care reform: The first step. The health care debate of the 103rd Congress
ended in acrimony and gridlock. The deductibility issue gives the new Congress an opportunity
to swiftly set a new tone for the health care debate: taking incremental steps on which most
people agree to improve the system. The deduction for the self-employed is a great place to
start: a reform with wide bipartisan support that would reduce the number of uninsured and
deliver some much needed relief and faimess to others struggling to stay insured.

lusion
Again, NFIB urges you to do the following:

(2) Restore the 25 percent deduction retroactively for 1994 and increase it to 50 percent
as a signal to every self-employed business owner that the status quo on this issue will no longer
be tolerated.

(2) Move toward a permanent 100 percent deduction for the self-employed as soon as
fiscally possible.

NFIB hopes that the Subcommittee on Health will take these steps on behalf of the self
employed. Mr. Chairman, we would like to express our appreciation for your leadership on this
important issue. Self-employed business owners are calling out for faimess and stand ready to
help you and your colleagues achieve it in 1995,

‘Thank you.


20

percent prospective. The gentleman from Maryland, Ben Cardin,
offered 25 percent but moved to a parity that he believed to be 80
percent which was contained in a package.

So we would very much like to hear from you. Your written testi-
mony will be made a part of the record and anything that you
would like to say at this time.

The chairwoman of the Small Business Committee.

STATEMENT OF HON. JAN MEYERS, A REPRESENTATIVE IN
CONGRESS FROM THE STATE OF KANSAS

Mrs. MEYERS. Thank you very much, Mr. Thomas.

I appreciate being here today and hearing the options that you
just mentioned. I like any and all of them. The reason my bill was
introduced as it was—to make the 25-percent deduction retroactive
and permanent—is because I wanted something that could move
very quickly. If we don’t move very quickly on the retroactivity, a
lot of people are going to have to file an amended return. It is a
hassle and an expense for small business to do that. So we would
like to move as fast as we can.

We have had experience with the cost of the 25-percent deduc-
tion. Later I will introduce a bill taking it to 100 percent or per-
haps cosponsor one of the others, because I certainly support that
concept. But knowing that paying for it is going to be difficult, I
started with retroactivity and making the 25-percent deduction
permanent.

I might say that we heard, when we had hearings in the Small
Business Committee, from Ms. Damon who is herself a small busi-
nesswoman, speaking for the National Association of Home-Based
Businesses; Jeanie Morrissette who is also a small businesswoman
from the National Association of the Remodeling Industry; from the
National Association of the Self-Employed; from the NFIB, Na-
tional Federation of Independent Business; and from the U.S.
Chamber of Commerce. All of those that spoke to us were small
businesspeople themselves with the exception of the individual
from the Chamber of Commerce.

We appreciate the consideration by this subcommittee, and I
won’t go into all of the concerns and problems. I think you all un-
derstand the issue very well. I would like to mention that if we are
going to address the problem of health care incrementally, that this
is an extremely important component.

It has been estimated that 400,000 people in this country have
health insurance because of this 25 percent deduction, and that is
a great many people. I appreciate your consideration and I thank
you for allowing me to speak.

[The prepared statements and attachment follow:]


37

interest of simplicity for small businesses, excluded the non-
discrimination requirements.

The deduction for the self-employed was to sunset in 5 years but
was subsequently extended to 1992 under the Tax Extension Act of
1991, and finally through 1993 under the Onnibus Budget
Reconciliation Act of 1993. ‘Though there was widespread support
for extending the provision last year, Congress adjourned without
acting on the matter and the deduction will be unavailable for
1994 tax returns.

IMPACT ON SMALL BUSINESS

If the deduction is not restored, the House Small Business
Committee has estimated that this could cause an increase in the
number of uninsured self-employed of more than 400,000
individuals.

As it is, currently 26% of the unincorporated self-employed lack
health insurance, compared with 8.8% of the incorporated. It is
clear from the data that incorporated businesses are more likely
to provide health insurance coverage for the owners as well as
employees.

In evaluating the impact of the tax deduction on the self-
employed, it is important to keep in mind that the average age of
a business in the U. S. is seven years. During the first two
years, these businesses just survive and show little profit. of
the 21 million entities filing business tax returns (15 million
of which are unincorporated businesses), only 4-5 million have
actually taken advantage of the deduction in the past. The
average annual net income of the self-employed is between $15,000
and $25,000. From a public policy perspective, anything that can
raise the bottom line, i.e. net profit, is significant for the
survival of these firms.

‘The pre-tax deductibility of insurance premiums as a business
expense involves real money to small business. Why should they
pay more taxes merely because of their legal structure? If health
insurance costs are a necessary cost of doing business for
corporations, why are they not a necessary business expense for
the unincorporated self-employed? A further inequity is the fact
that their tax payments indirectly underwrite the deduction of
corporations.

HEALTH CARE AVAILABILITY-PUBLIC POLICY

We now know how right the Conference Committee that considered
the Tax Reform act of 1986 was in their analysis of the need for
a deduction. ‘The world has changed a great deal since 1986 and
high cost of health care coverage has moved to center stage.
Small businesses have become the dominant creator of new jobs in
this country. Now, more than ever before, it is clear that it is
in the public interest to encourage as full a participation as
possible in health insurance plans. Yet, if the present law
remains unchanged, it is estimated that 9 million small business
owners (approximately 10% of the working population) will be
unable to deduct their health care premiums. Our research shows
that there are 2.6 million uninsured self-employed Americans,
making that group one of the largest groups of uninsured
citizens. Within this group are 2.3 million unincorporated
entities and 300 thousand incorporated self-employed. The House
Small Business Committee Chairman, Jan Meyers, has estimated that
the number of uninsured self-employed could increase by more than
400,000 due to the loss of the deduction. Clearly, if public
policy is to encourage the participation of as many income
producing citizens as possible in private health insurance plans,
small business owners is the easiest and largest group to choose.



57

Chairman THomas. Thank you very much.

Mr. Christensen.

Mr. CHRISTENSEN. Thank you, Mr. Chairman. I would just make
a brief statement.

Mr. Vice, I am a member of the Farm Bureau. Mr. Risalvato, I
am a member of the NFIB. Ms. Nelson, I am a member of National
Life Underwriters as well as the Association of Health Under-
writers. It is hard to present any question on which I disagree with
you.

The one matter I want you to know that we are working on is
to make sure that we are able to pay for everything, and we want
to make sure that the deduction is reinstituted as soon as possible.

I know that, Mr. Vice, it would mean a great deal to your asso-
ciation and the number of small businessowners out there to get
this done by March 1, and I know we are going to try everything
we can to make sure that that would happen. But, as you know,
it takes time.

I appreciate that the chairman has pushed this issue to the fore-
front and he has done a great job, and I really don’t have any ques-
tions for you. You have done a wonderful job. I want to thank you
for your time.

Ms. NELSON. Thank you.

Chairman Tuomas. Thank you very much. I do have a question.
Mr. Vice, probably given the number of people that you talk to in
your position, to what extent do you have any information to cor-
roborate what Mrs. Nelson is saying? Obviously, on this on-again/
off-again, I am most interested in not so much the level of frustra-
tion Mr. Risalvato clearly indicates would be present when it is on-
again/off-again, but full change of insurance coverage or plan being
offered because of, although it is certainly not adequate, the 25-
percent difference.

Do you know of any situations of people who are talking about
the fact that, given the margins they are dealing with, if they don’t
get the 25-percent deduction, they are simply going to not offer or
change substantially the insurance?

Mr. Vice. I think probably agriculture among small businesses
is unique in one aspect and that is with the market in agriculture,
and we are going through the floods right now. There will be many
farming operations that won’t even exist in terms of gross income
much less any net income this year. You always have that spike
and it is a year-to-year proposition.

I think most of us who like to provide health insurance for our
employees believe that that deduction helps at least level that part
of it out. The frustration level is not only in terms of this just being
a year-to-year proposition and never knowing when it is going to
be there. That is bad enough. But then to have the 25 percent ver-
sus what they really believe should be treatment like everyone else
at 100 percent, it really raises a two-step frustration level with our
members.

We constantly hear about it. One of the things that is very high
on our agenda is to have this reinstituted for 1994 policy.

Your comments, Congressman Christensen, about March 1, re-
minds me that a lot of people in agriculture file at that time, file
their estimates, so it is not April 15, it is March 1 for a lot of our


23

Statement of
Jeante Morissette, Homestead Construction Co., Inc,
before the
House Small Business Committee

regarding the
Reinstatement of the Self-Employed Health Care Deduction

January 20, 1995

Madam Chairman, honorable members of the Committee, I am honored to provide
testimony on the proposed reinstatement of the self-employed health care
deduction. My name is Jeanie Morrisette and I am the owner of Homestead
Construction, Company, Inc. Homestead Construction is a small remodeling firm
located in Annandale, Virginia, specializing in residential remodeling. Iam also
a past president of the Metro Washington chapter of the National Association of

the Remodeling Industry (NARI).

Homestead Construction is a Subchapter S Corporation that currently provides
health care insurance to its shareholders— that being myself and my husband.
While Homestead can deduct one-hundred (100) percent of the health insurance
premiums, under current tax law, as shareholders, we must report the value of the
premium, which is over $5,000 a year, in our W-2s. This then subjects that value
to federal and state income tax on our individual returns. In our case, the taxes are

more than one-third (') of the value of the premiums. The tax could easily be


90

issue needs to be dealt with expeditiously. If Congress does not
act before 1994 tax returns are filed, substantial new
administrative burdens could result for taxpayers and the
Internal Revenue Service.

The Treasury Department estimates that almost 3.2 million
self-employed individuals would claim the 25 percent deduction on
their 1994 tax returns if it were made available to them. Those
tax returns are due on April 15, 1995, although these taxpayers
could request an automatic extension through August 15, 1995. If
the Congress fails to act to extend the 25 percent deduction
prior to the due date for income tax returns, millions of
taxpayers will be forced to decide whether to incur the costs of
filing amended income tax returns. Any such amended returns will
also impose additional administrative burdens and costs on both
the Internal Revenue Service and State and local governments.

As members of this Subcommittee may know, the Department of
the Treasury has already taken steps to make it easier for
taxpayers to claim the deduction if timely Congressional action
occurs on this matter. The 1994 Form 1040 includes a line for
claiming the self-employed health deduction, with a caution that
taxpayers cannot claim the deduction unless the law is changed.
But only swift Congressional action can minimize taxpayer
uncertainty, compliance costs and administrative burdens.

As the President emphasized in his State of the Union
message earlier this week, we should work together to assist
self-employed individuals and others in buying more affordable
health insurance. The extension and expansion of the self-
employed health insurance deduction should be an integral part of
that effort. We look forward to working with the members of this
Subcommittee and others in the Congress to find a way to restore
this deduction without increasing the Federal budget deficit.


44

current tax subsidy can only be taken up to the amount of self-employment income.
Such a rule is important if the goal of the policy is to restrict the tax benefit to the
truly self-employed. Otherwise, individuals with only marginal amounts of self-
employment income will claim this credit. This could lead to the establishments of
artificial self-employment jobs for persons who do not otherwise have access to group
insurance, in order to claim this credit.

Combining these four considerations, a sensible policy for the tax subsidy to the
self-employed could take the form of a nationally advertised, refundable 50% credit
for insurance costs up to the national average cost of a group insurance plan, that can
be taken up to the amount of your self-employment income. That is, if the national
average cost of a family insurance policy is $4000, the self-employed persons could
have a credit of one-half of the cost of their insurance, up to $2000 or their self-
employment income, whichever is lower. Such a policy would increase insurance
coverage among the self-employed, and would do so in an equitable way across high
and low income self-employed persons.

Costs and Benefits of Restricting to the Self-Employed

In conclusion, let me focus on a broader question that must be considered in
the design of this tax subsidy: why the self-employed? There are two additional
Groups of persons in the U.S. that do not have access to the employer-provided
insurance subsidy: the unemployed, and those in firms that do not offer insurance.
Why should we favor the self-employed relative to these other groups?

This question is important for the final consideration mentioned above, the floor
of self-employment income required to claim the tax credit. If this floor were zero,
then this credit would essentially be available to any person who decided to call
themselves self-employed, so that it would extend to members of both of these other
groups, As the floor is raised, the credit is restricted more and more to the “truly”
self-employed,

So, in setting the floor, the goal of tax policy must be clearly delineated. If the
goal is to use this effective instrument to redress coverage differences between the
self-employed and employed, then the floor should be set reasonably high. But, if the
goal is to more broadly address inequities between individuals who have access to
employer-provided health insurance and those who do not, a lower floor, and perhaps
no floor at all, would be more sensible.


85

Mr. Faris. That is happening right now and it has been happen-

ing for some time.

ne of our frustrations about the whole health care issue is that
all the issues that impact the small business disproportionately—
this is on the top of the list as we have discussed for the last 6
years. It goes into administrative costs. It runs over 30 percent
compared to General Motors of 8 to 9 percent. It goes to cancella-
tion when you have one claim. It goes to not being able to reissue
or even to cancel because you have had minor problems, haven’t
even had a major claim. Or they just decide to drop you. So there
is a credibility problem with small businessowners as it relates to
health insurance and how it is provided in the first place. What
this is is a rifle shot, a single focus that we have the power to do,
can do, should do. It is immediate. It is a no-brainer.

Now, getting to 100 percent and the fairness and inequity and
how much that would trigger the incentive to purchase, no matter
what poll you see or research you see on that, no one knows. We
will not know until we put it into effect. What I am saying is that
if we put it into effect and we see how it impacts the budget, if we
all need to drop to 97 percent coverage or 96 percent coverage, if
it is fair for the goose, it is fair for the gander and we feel our
goose is being cooked.

Chairman THomas. We have talked a lot about dynamic scoring
in the budget area, and obviously if we made some reasonable re-
forms in the broader health care area, combined with changes in
the percentage, you would see behavior modified in many ways.
You indicated, Mr. Faris, you didn’t really want the crumbs. At this
stage you would take the crumbs.

Mr. Faris. That is right.

Chairman THomas. Because you don’t have them, and you are
complaining because the other people have cake.

My concern is that I would kind of like to move into the bread
category for everyone. Before I took on the awesome responsibilities
of chairing this subcommittee, I would have been inclined to ask,
Ms. Sprague, about your idea in terms of balancing between cor-
porations who now have it and those who don’t.

I do think, though, that we as a subcommittee have talked about
in the last Congress, and obviously will continue to talk about,
refocusing on the history of how corporations wound up with an
open-ended, 100-percent deductibility and that perhaps that needs
to be focused on in terms of a reasonableness. I wouldn’t want to
have this hearing focusing on the self-employed and on reinstating
a percentage lead us into that discussion. But I just want everyone
to know that I think that has to be part of the ongoing discussion.

I would say that Ms. Whitt or Mr. Faris or anyone else, if you
have any studies that shed light on this, we would love to have
them as part of the record because I found that there tends to be
a dearth of any kind of solid statistics, which I know are difficult
to obtain but would give us some guideline on the phasing in.

This is almost a self-answering question, but obviously if we can
do the 25 percent on a retroactive basis and you are asking for 100
percent, can you give me any indication that might help us, what
might be, from your point of view, a reasonable progression or a
willingness to accept our exploration of a parity along the lines


62

All of this accounts for a wend found in NFIB Education Foundation studies that began
‘in 1986, In that year, small business owners -- both self-employed and incorporated -- for the
first time identified the cost of health insurance as their number one problem in a study entitled
‘Small Business Problems and Priorities. That trend has continued ever since, with the cost of
health insurance proving to be twice as critical a problem as the number two problem (federal
taxes on business income) in a follow up study published in 1992, With health insurance
premiums still growing faster than the rate of inflation today. this problem has not abated.

No Deductibility

On top of all this, self-employed Americans cannot deduct any of their health insurance
premiums. 3ve a permanent, 100 percent deduction; self-e
owners have none. The self-employed had a 25 percent deduction until December 31, 1993.
when it expired. The 103rd Congress adjoumed without renewing the deduction for 1994,
(despite your great efforts and those of your bipartisan cosponsors). This means that self-
employed business owners will experience a tax increase on their 1994 returns -- unless Congress
acts before April 15.

Using Joint Tax Committee cost estimates and Foster-Higgins survey data on premiums,
NFIB estimates that approximately 1.4 million self-employed business owners will have their
taxes go up if the 25 percent deduction is not retroactively renewed for 1994. Mr. Chaisman, we
ase encouraged by your commitment to prevent this tax increase.

Even before the 25 percent deduction expired, self-employed business owners were buying
health insurance on a tax policy playing field that was vastly uneven. The difference between
14 25 percent deduction for the self-employed and a 100 percent deduction for C corporations is
terribly unfair and arbitrary. But it is not only a philosophical matter of faimess; it is a matter
of dollars and cents. Under current law, it would cost a sole proprietor buying the exact same
health insurance policy from the exact same insurance company as the owner of a C corporation
substantially more in after tax dollars because of the deductibility gap.

'NFIB strongly urges this subcommittee to end the health insurance tax deductibility
status quo and address the tax fairness issue head on. Specifically, NFIB urges you to
retroactively restore the 25 percent deduction to the self-employed and to send a clear signal
that business as usual is a thing of the past by increasing the deduction to at least 50
percent and making a commitment to reaching parity as soon as fiscally possible.

Ending the status quo -- setting a course toward 100 percent deductibility -- accomplishes
the following:

(1) Parity. Full deductibility for the self-employed would end the idea that an executive
for a Fortune 500 company can get a full deduction for a gold plated health insurance policy but
a self-employed business owner receives no deduction at all -- solely because of the way the
business is legally organized.

‘Some may argue that limited deductibility for the self-employed should be preserved at
some level in an effort to make Americans more sensitive to the actual cost of their health care,
thereby making the market place more competitive, NFIB believes that concems about the
impact of the tax code on health care cost sensitivity are legitimate. However, any approach to
this issue which says that limited deductibility is good policy for the self-employed but not
simultaneously for C corporations is unfair and unacceptable.

(2) Incentive for the self-employed to purchase health insurance for themselves and
their families. Self-employed Americans are one of the largest groups of uninsured citizens.
‘There are nearly three million self-employed Americans without health insurance. The 25 percent
deduction is a small but meaningful incentive for unincorporated business owners to purchase
health insurance for themselves and theit families. If this group of business owners were given
the 100 percent deduction, many more would purchase insurance, substantially reducing the
number of uninsured Americans in this counay. Consider the following example:

A self-employed caterer purchases a health insurance plan for $3.781 per year. (The
actual amount would actually be less or more depending on whether the caterer was purchasing
an individual or a family policy: $3.781 was the average per person premium in a Foster-Higgins
survey of 1993 premiums. A self-employed person would usually pay more than this average
because of many of the disadvantages of buying health insurance individually.] The caterer is
in the 28 percent tax bracket.


86

from the gentleman from Maryland of an 80-percent rate or a sug-
gested phase-in, as was indicated earlier by Mr. Neal—25, 50, 100
percent?

How critical do you want to make it to us in terms of willingness
to work to not make it 100 percent immediately on a prospective
basis, notwithstanding the unfairness? Any help for us in terms of
what would be meaningful in making a behavioral change in keep-
ing people with their health insurance or getting people into the
market that are not now in the market at 25 percent?

Mr. DRESSLER. Mr. Chairman, I think working with young farm-
ers and farm families, and from my own perspective, rather than
talk about a percentage of deductibility, think about the real dollar
cost. Because a young family-has significant health care needs and
they are less expensive to insure. But if they are in the childbear-
ing years, we know how important prenatal care, newborn care is.
I would urge you to think about some kind of 100 percent deduct-
ibility, up to a certain dollar amount, that would get them into the
game of having access to health care.

Also, among our membership as people get older, we tend to take
more catastrophic care, higher deductibles. In California, in our Ba-
kersfield area, for example, it is not uncommon to have a $1,000
deductible plan. The person can handle the minor expenses. What
he is afraid of is the major costs that unfortunately increase as we
get older. He is trying to buy less expensive care because of the
cost. So you might want to think about instead of just a percentage
phase-in, 100 percent up to a certain amount of expenditure.

1 know that was the subject of discussion last year when we were
looking at comprehensive reform and deductibility of so-called
“open-ender” or “golden” health care plans. It really comes to play
in my membership because I know we are struggling to hold the
costs down in every phase of life, but the needs are different at dif-
ferent stages of their life.

Chairman THomas. Does the gentleman from Maryland have a
question?

Mr. CarbIN. Thank you, Mr. Chairman.

Just very quickly, Mr. Dressler. I appreciate that because I do
think, I agree with the chairman; I am glad we are having these
hearings to try to figure out what the appropriate amount should
be. I put 80 percent in. Let me explain the reason why I think 80
percent is the appropriate level. You may not have been here at the
opening of the hearing.

For a corporation, there are other considerations in the health
care plan. The corporation is concerned about the cost of the plan
and would be looking at cost-saving measures, including the em-
ployees’ participation in the cost of the plan. For a self-employed
person, that may not hold true, because a self-employed person can
calculate how much money they will spend on health care and then
if 100 percent of the premium is deductible, try to develop a plan
that comes as close as possible to their out-of-pocket costs in order
to maximize the tax advantage. So I think there is an argument
against the 100 percent of any premium in an effort to try to pro-
vide parity between corporations and self-employed companies.
That should be one consideration.


31

society. Thus, it is essential that the medical insurance
premium and expenses deduction be equalized for all business
entities, regardless of how they are taxed.

Resource Material

1. The Internal Revenue Code as amended through August 15, 1993
2. The White House Conference on Small Business Issue Handbook.
3. Small Business Administration resource material.

4. Hands-on experience with home-based and small business.


7

Mr. Stark. I thank the Chair, and I want to help see this tax
question resolved and I think we have an opportunity. I think
there is bipartisan interest, and I think we have an opportunit;
improve the health care situation for many Americans and reduce
their fear with no cost to the Federal Government and, as a matter
of fact, I think no cost basically to the private sector. Jt is one of
those win-win situations.

I would like to note early on that we are going to spend at least
$2 billion over the 5-year window if we go to 25 percent. My hope
is we will not attempt to pay for that out of the Medicare trust
fund. That is just my hope.

I would like to suggest that if a small businessperson is to re-
ceive more than the 25 percent, it should be a requirement that
that small businessperson makes available to his or her employees
the same insurance, whether or not they have to pay for it. I don’t
care whether they have to pay for it, but they should make it avail-
able. Second, employees who for one reason or another must pay
for their own health insurance, who are not self-employed, should
also be able to avail themselves of the 25 percent. Those should be
modest improvements and not difficult for both sides.

The most important part is to expand the program that has
served since its bipartisan inception in this subcommittee, 45 mil-
lion Americans who otherwise would have lost their health insur-
ance, and that is the COBRA, Consolidated Omnibus Budget Rec-
onciliation Act, extension of benefits upon termination. It costs the
Federal Government nothing.

I see no reason at this point—we may wish to change it later
when other great reforms are made—for us not to extend the
COBRA time indefinitely for a person who is laid off or otherwise
loses their job. For them to be able to continue at 102 percent of
the cost of their benefits under a group plan seems to me to be the
first small step that this subcommittee could take to taking the
fear of losing your job and with it your health insurance coverage
off the minds of Americans. It is something I hope this subcommit-
tee will consider seriously.

We give an advantage to the insurance companies by allowing
deductibility of insurance premiums. The modest inconvenience
that we may cause for the extension of COBRA benefits, I think,
is far outweighed by the great relief that we can offer to workin;
Americans who fear that they may indeed lose their benefits, an
I hope that my colleagues will consider what I believe are compas-
sionate amendments to this legislation.

Mr. Chairman, I thank you for calling these hearings. I look for-
ward to hearing the witnesses. I hope they are quick so they can
get back up here and help us pass this legislation.

[The prepared statement follows:]


46

tually involved in business, but the income restrictions can be a
hardship for those businesses especially where they are starting
off. One of the things that we have found is there are an awful lot
of barriers to just starting your business.

In most States you are charged more for unemployment com-
pensation in the first year. They give you the highest rates then.
You are hit immediately with self-employment taxes. You are hit
with the burden of learning how to do all these things and, quite
frankly, our indications are the first 2 or 3 years of people starting
businesses, they almost always lose money. I would be careful to
try to outline any restrictions on income in such a way that those
businesses who were just getting started would still be permitted
a tax break, provided they could meet some other ordinary course
of business test that we see in the Code for other reasons.

Mr. Gruber. I think that is actually a very important point and
that comes back to why I think a tax credit makes a lot more sense
than a tax deduction. If you consider a business that is starting out
maybe making $15,000, $20,000 a year, they are in the 15-percent
tax bracket. Compare them to the established business and now it
could go up to the 39-percent tax bracket.

Why do you necessarily want to give a tax break that is almost
three times as large to that established business as opposed to
maybe the person who needs it more which is the start-up busi-
ness. A tax credit gives it equally to both and that is an argument
for doing that.

Chairman THoMas. Obviously, we need to explore that at greater
length. In that regard, once again, Mr. Glover, in terms of any re-
search, we have heard testimony from Members in terms of a mix
and match of ways in which to deal with the percentages.

I am most interested in wondering if there have been any stud-
ies, Professor, about the behavioral tip point. Clearly, it is a ques-
tion of whether or not you have made any money or not, but I
would love to see some indication that at 50 or 75 percent, you get
a percentage of people who respond to it above which we simply are
giving away a portion of a tax deduction because you don’t get any
marginal behavioral benefit from it.

Do you have anything like that at all?

Mr. Gover. I think we have some related information depend-
ing on the wide variety of earnings that you have. Clearly, as for
the smaller firms, you are not going to be having the same tip
point for a firm that is making $7,000 a year and who is looking
at a 50-percent deductibility versus someone who is making—for
example, a lawyer—who is making $300,000 a year. The tip point
may be entirely different for those two individuals.

he credit idea is something I just heard about today, but I will
tell you it certainly has some Teal merit, especially for the smallest
of the firms that are just getting started. Very interesting proposal.

Mr. GRUBER. I think, unfortunately, we don’t have a lot of evi-
dence on the tip point. I think I agree that the tip point argument
is once again an argument for why you would want a credit, be-
cause a lawyer earning $300,000 a year, even 50 percent deduct-
ibility, is largely not going to affect their behavior. But I do think
one thing we do have evidence on that comes back to this question
of how you set the floor is that the choice of form in terms of self-


OPENING STATEMENT OF CHAIRMAN THOMAS
HEARING ON THE TAX DEDUCTIBILITY OF HEALTH
INSURANCE PREMIUMS FOR THE SELF-EMPLOYED

January 27, 1995

Welcome to today’s hearing of the Ways and Means Health subcommittee. This
afternoon our hearing will focus on the issues surrounding the tax deduction of
insurance premiums for the self employed. As many of you know, the twenty-five
percent health insurance premium tax deduction for the self-employed expired in
December of 1993. It was anticipated that a permanent resolution of the self-
employed health insurance tax deduction would be addressed in the health care reform
legislation in 1994,

With the failure to enact health care reform we find ourselves once again moving a
expedite retroactive tax provision -- a stop gap measure -- in order that hundreds of
thousands of self-employed individuals can prepared their 1994 tax returns with some
level of certainty and avoid having to submit amended retums later.

My Republican colleagues on this committee joined me yesterday in introducing a bill
(H.R. 697) to do just that. I want to emphasize that Chairman Archer and I are
committed to making every effort possible to get this legislation over to the Senate as
quickly as possible. We are also encouraged by the Senate’s interest in this legislation.
We urge our colleagues in the House and Senate, however, to keep the legislation
focused on the problem at hand and to avoid attaching any extraneous, unrelated or
non-germane provisions which will hamper or prevent its timely passage.

Because Chairman Archer and | do not intend to end our interest in this area with the
passage of a simple " band-aid" extension. -- we will continue to push for the right
tax policy on health insurance deductibility for the self-employed. The intention of
today’s hearing is to examine the issues a permanent deduction, for the insurance costs
of the self-employed and the level at which such a deduction should be set. Our
purpose today is to listen -- to listen to the people who are most affected by this
deduction and to gain a better understanding of the hardships of living with this
erratic, uncertain and inequitable tax policy.

We are here to seek the help of experts who have studied the effects of the temporary
deduction on the purchase of health insurance for the self-employed , their families and
their employees.

We are also here to seek guidance on what policy makes the most sense. Is the
twenty-five percent deduction adequate? or should it be increased? What level of
deduction would be "real world" comparable to that of employees in c corporations?
Is there some deduction level that is less than one-hundred percent which will
encourage the purchase of health care insurance -- some level that will help optimize
the number of people who are covered by insurance and limit rewarding the
purchases that would have occurred anyway? What these are the questions we are
seeking to answer with this hearing. These are the questions that I believe need to be
answered as we proceed toward future congressional action.


40

up to 50 percent of the cost of a typical employee’s health insurance
plan. A limited tax credit has two advantages relative to tax de-
ductibility. First of all, a credit offers equal benefits to both low
and high income self-employed individuals, rather than deductibil-
ity which favors high income self-employed individuals. By making
the tax credit refundable, the subsidy could extend even to those
low-income self-employed individuals whose tax credit would ex-
ceed their tax liability, such as individuals who may be starting up
new businesses.

Second, a limited credit offers incentives for the self-employed to
seek out low-cost insurance plans, while an unlimited deduction
equally subsidizes efficient low-cost insurance and excessive—what
are known as “Cadillac” policies. Many analysts have expressed
concerns that rising medical care costs in the United States are
due to excessively generous insurance policies so that limiting the
amount of the subsidy would offer incentives to avoid these types
of policies.

Third, the tax subsidy should be more effectively advertised.
Whatever the form of this tax subsidy, be it deduction or credit,
whatever the amount, a critical problem with effectiveness appears
to be a lack of awareness on the part of the self-employed. My co-
author and I estimated that fewer than one-half of the individuals
who are eligible for this subsidy took it up only on their tax forms.

This suggests that individuals may be unaware of their entitle-
ment which may in turn limit the effectiveness of this subsidy and
is especially important if you are thinking about extending it fur-
ther. So any expansion of the subsidy must be accompanied by an
advertising effort which is designed to make the uninsured self-
employed aware of their entitlement under the tax law.

Thus, in summary, I would recommend a nationally advertised
refundable 50 percent credit for insurance costs up to the national
average costs of a group insurance plan. That is, for example, if the
national average cost of a family insurance policy in the United
States is $4,000 today, the self-employed person would have a cred-
it of one-half of the cost of the insurance up to $2,000. Such a pol-
icy would increase insurance coverage for the self-employed and
would do it equitably between low and high income self-employed
persons.

Let me conclude by raising one final important issue which has
not really, I think, come up today which is how do we set the re-
quired floor for self-employment income?

The current tax subsidy can only be taken up to the amount of
your self-employment income. The policy I described can be de-
signed in the same way. Individuals could deduct up to $2,000, say,
but only if their self-employment income is at least $2,000. But by
raising or lowering this required floor of self-employment earnings,
Congress can target this subsidy to very specific populations. This
is because there are large segments of the population which are not
self-employed but which also don’t have access to employer pro-
vided health insurance, like the unemployed or those employees
who work in firms that don’t offer insurance.

If this floor were very low, for example, there were no floor at
all, then I anticipate many individuals relabeling themselves as
self-employed just to get this subsidy. As the floor rises, the credit


19
credit tax credit deductibility. I think the rationale is more compel-

ling.

We give people necessary tax relief. We lay the foundation for
private sector health insurance reform. We ought to put this at the
front of the line. I think if we graduated in, Mr. Chairman, eco-
nomic reality, it will force us to freeze the graduation before we get
to the end of the line. We will have 100 percent and 50 percent or
80 percent at the end of the day, but we will stop at the 25 percent
before we get there.

As to 80 percent, I believe that people buying their own coverage
are generally buying more skeletal coverages than businesses are
making available. So if you try to do a parity deal based on busi-
ness providing 80 percent coverage, I think the individual purchas-
ing the coverage is buying higher deductibles and copayments than
is generally afforded in employer plans. That is why 100 percent
deductibility is appropriate.

Mr. CarDIN. Let me speak to that point—and Earl, I think we
need to work this out and we can debate this in committee—if in
fact you get tax favored treatment, it seems to me that the self-
employed would want to make sure that they include in their poli-
cies the expected out-of-pocket costs, because they could then use
it as a tax deferred payment rather than having to pay after-tax
dollars on it. That is another reason why I am trying to develop
parity between the self-employed and an employed person who
works for a company, but you do raise a good point.

Mr. Pomeroy. You raise a good point as well. I would say the
focus of my legislation is the people that aren't covered now be-
cause they just can’t afford it. I mean, if we bring them into the
net, and that is my target market.

Chairman THOMAS. I am always nervous about talking parity
with someone from North Dakota. If you go back and look at farm
legislation, somehow parity wound up way above 100 percent. The
other problem I have is that when you talk about giving it to the
self-employed, you have got the problem of the employer and em-
ployee being one in the same.

Although the employer may have 100 percent deductibility if
they only provide that 80 percent to the employee, the employee
only gets the 80-percent benefit. I prefer, in terms of looking at
parity or equity, the employee side of the self-employed and still
looking for that behavioral tip point which I assume somebody has
some knowledge on, and if we don’t, then I am interested in why
we haven't. We have got about 6 minutes. We will recess.

Mr. Pomeroy. I said it is $11 billion a year. It is over 5 years.

Chairman THOMAS. It is about $2 billion a year. We will talk on
the way to the vote. We will be back.

[Recess.]}

Chairman THoMas. Resuming the Member’s panel. We want to
thank the chairwoman of the Small Business Committee for coming
before the panel. I know she has held hearings on the deduction
for the self-employed as well.

I would tell the gentlewoman that we have had among the four
Members as presentation of what amounts to, I think, a universe
of options from your simple 25 percent to a 25, 50, 100 percent. The
gentleman from North Dakota offered 25 percent retroactive 100


14

‘Smalt businesses and the self-employed are the engine of economic growth for our
economy. ‘The ranks of the self-employed include the likes of farmers, crafismen, shop keepers,
day laborers, ranchers as well as accountants, lawyers, and doctors who practice either in
partnerships or as sole practitioners. As you can see, this provision affects a wide variety of
individuals.

My district includes several small towns and rural areas. Many of my constituents fall
into the category of the self-employed. Increasing the deduction would allow business owners
to spend more of their resources on health care. This legislation gives businesses an incentive
to purchase health care insurance. The deduction should be made permanent to give individuals
ceniainly. Individuals should not have to wait for action by Congress to know if they will be
able (0 make a deduction for health insurance. Individuals should be able to more easily plan
for their health care needs.

T look forward to working with the Health Subcommittee and the full committee on a
quick resolution of this issue.


The availability of the 25-percent deduction disadvantages self-employed
individuals compared to individuals who organize their businesses in corporate form
under subchapter C of the Code. In such a case, the individual could be the sole
shareholder and the employee of the company. Any employer contributions for
health care insurance would be fully excludable by the employees. Thus, an inequity
exists between self-employed individuals and other employers and employees.

From a policy perspective, itis difficult to justify different federal tax
subsidies for health insurance expenses based upon the status of an individual's
‘employment or the form in which an entity does business, One of the key questions
remaining is: What tax treatment of health insurance costs is likely to increase self-
employed individuals’ willingness to purchase insurance for themselves, their families
and their employees?

‘TAILS FOR SUBMISSION OF WRITTEN Ct

Any person or organization wishing to submit a written statement for the
printed record of the hearing should submit at least six (6) copies of their statement by
the close of business, Friday, February 10, 1995, to Phillip D. Moseley, Chief of Staff,
Committee on Ways and Means, U.S. House of Representatives, 1102 Longworth
Building, Washington, D.C. 20515. If those filing written statements wish to have
their statements distributed to the press and interested public at the hearing, they may
deliver 200 additional copies for this purpose to the Subcommittee on Health, room
1136 Longworth House Office Building, at least one hour before the hearing begins.

FORMATTING REQUIREMENTS:

bea {or priang tothe by wfc, any wren or ert toe be
‘rate reord or any writen comments in roxpoaea toa requet for eraa eammests mast conform te the gullies Ustad
below, Any statement or exhibit aot in compliance wit Chote guidelines wil al be peated. bot wil be maltaiaed inthe
(Comnten fet for evi axd nap by We Commie.

4. Al statements and any accompanying elt tor pining ost be cyped in alle apace on gala paper and may not
nese a toa of 10 pages.

2, Copln of whole document ube at axhbic atrial wil wot be accopad fer pelndog. Intend, exhiiematerts)
shouldbe raereoced and quoted or peraphrased. Aleit matral uo‘ meeog tee epecfiadons wil be malnialned inthe
‘Commie Mes for view and wae by the Comauio,

‘\ Matments must contan tho name and capacity i wilh th witeas wl appear o, for writen comments, he anne and
‘apacty ofthe poron ubating the statement. ag wall a any ellen operons any organization for whom te witent
‘gpaurs ot for wom the statement is eubtiod

‘4. Asoppiementl shot wust accompany each ratament lstng the name, fll areca laphone number where ihe
‘wtmas x the Gexigaiedrepresctaive may be reached und « topical coliae er tammary ofthe comments and recommendations
‘ee ful statement This ropplamentl aes wl not be incnded inthe printed record.

The ahora aad re aang nd tt and bia oe
supplementary metrialenbmited vole for eattbction to ha Mecbery, the page andthe publ dorfag tha cour of a poll
tearing may be eubmited tn oer form



69

STATEMENT

on
HEALTH INSURANCE DEDUCTION
before the
SUBCOMMITTEE ON HEALTH
of the
HOUSE COMMITTEE ON WAYS AND MEANS
for the
U.S. CHAMBER OF COMMERCE
by
Lisa M. Sprague
January 27, 1995

Chairman Thomas and members of the Subcommittee, I am Lisa Sprague,
Manager of Employee Benefits Policy for the U.S. Chamber of Commerce. The
Chamber is the world’s largest business federation, representing 215,000 businesses (96
percent with fewer than 100 employees and 71 percent with fewer than ten), 3,000 state
and local chambers of commerce, 1,200 trade and professional associations, and 72
American Chambers of Commerce abroad. We appreciate the opportunity to appear
before this Subcommittee to comment on the issue of health insurance deductibility for
the self-employed.

Few issues are as clear-cut and convincing. In fact, restoration of the 25 percent
health insurance deduction is a top legislative priority for the Chamber. Further, we
regard full deductibility as an indispensable element of a successful reform agenda, and
one that should top the list of incremental improvements to be considered by this
Subcommittee.

The business community, in its role as benefit-plan sponsor, has been the driving
force in pushing reforms to our health care delivery systems and slowing the rate of
increase in health care expenses. Today, we know that employers provides health
insurance for the majority of those Americans who are insured. As the engine of the
USS. economy, small businesses -- including the self-employed -- have played a key role
in the innovations and economies that have been realized. Yet the self-employed
continue to be isolated and denied in terms of health insurance deductibility. That is
why your hearing today is so important: to focus attention on and open the way to quick
action in rectifying an injustice.

The Chamber's membership is greatly diverse, and at times this can result in its
having to choose among varying priorities within a given legislative issue, particularly one
as complex as health care. But we have yet to hear from a single membership
constituency, or indeed a single member, a suggestion that equity in the deductibility of
health insurance should not be a top priority for the Chamber as a whole.

Since 1986, self-employed persons have been permitted to deduct 25 percent of
amounts paid for health insurance for the individual, his or her spouse, and dependents
of employees. This provision was never written permanently into the tax code, but was
repeatedly extended -- until December 31, 1993, when it was allowed to lapse. Congress
failed to renew it in 1994, Ironically, then, the one measurable result of the health
reform debate that dominated the year was that the most vulnerable of those who
provide health insurance were left in worse straits than before fervent discussion of
expanding coverage began. The Chamber calls on Congress to restore the 25 percent
deduction for 1994, and to act quickly enough that self-employed filers may reflect it in
their 1994 tax filings.

To be sure, restoration of the 25 percent deduction is no more than a quarter of a
loaf, What is really needed is legislation to permit 100 percent deduction of health


24

over fifty (50) percent of the premium, based on an individual's state of residence

and tax bracket.

For tax years prior to January 1, 1994, we were entitled to deduct twenty-five (25)
percent of the value of the premium as an adjustment to income, on Page One (1)
of Form 1040. The twenty-five (25) percent deduction has now been eliminated,
since Congress has not passed any legislation to extend the deduction that expired
on December 31, 1993. The elimination of this partial deduction, along with the
taxation of our health insurance premiums, results in fewer spendable dollars.
These dollars could be used to reinvest in my business, to fund retirement plan,
or © save for our child's education, With the continued rise of health care costs
and the associated tax burden, we, as small business owners, will have to seriously

consider whether continued coverage is possible.

Besides the question of affordability, I believe it is patently unfair for S
Corporation shareholders and other self-employed individuals to pay tax on these
benefits, while C Corporations and their employees enjoy 100 percent

deductibility with no strings attached. Please do not misunderstand me, I am not


10

‘TESTIMONY OF REP. BENJAMIN L. CARDIN
ON THE TAX DEDUCTIBILITY OF HEALTH INSURANCE PREMIUMS
PAID BY THE SELF-EMPLOYED

before the
SUBCOMMITTEE ON HEALTH
COMMITTEE ON WAYS AND MEANS

January 27, 1995

Chairman Thomas, fellow members of the Subcommittee: As this
is the only hearing scheduled to take up this important matter
let me express my appreciation for the opportunity to testify
regarding my proposal to amend the Internal Revenue Code of 1986
as it applies to the self-employed.

Yesterday I introduced a bill to first restore, and then to
increase, the income tax deduction for health insurance premiums
paid by those who are self-employed, at a rate of 25% for 1994,
and 80% for 1995 and thereafter

Fully one-quarter of self-employed Americans - 3.1 million
farmers and craftsmen, professionals and small business
proprietors ~ have no health insurance. Compared to all other
workers, the self-employed are one and a half times more likely
to lack essential health care coverage.

As we search for methods to increase access to necessary
medical services and reduce the crushing burdens of uncompensated
care, which threaten the fiscal stability of both affected
individuals and the entire health care system, there can be no
doubt that U.S. tax code should encourage the self-employed to
Purchase health care insurance. Instead, current regulations
discriminate against the self-employed and discourage the
individual initiative that has always been a bedrock of the
American economy.

As part of the expense of employee compensation, businesses
can deduct the full cost of any health insurance provided to
employees. Similar treatment of health care premium costs has
never been fully available to the self-employed. And, unless we
act quickly, the loss of the limited deduction in effect during
recent tax years will soon be keenly felt by the self-employed
In order to provide consistent tax treatment of medical insurance
expenses, my bill restores for 1994 the 25% deduction that has
enjoyed nearly a decade of strong bipartisan support.

The availability of this deduction should not only be
renewed, it should be adjusted equitably. Because businesses, on
average, contribute - and fully deduct as an expense - 80 % of
the total cost of employee health insurance premiums, my bill
increases the percentage of premium costs which can be deducted
by self-employed persons to 80%, effective with tax year 1995.
This is similar to the provision thoughtfully considered and
passed by the Ways and Means Committee of the 103rd Congress

With approximately 41 million medically uninsured persons in
the United States currently, measures which encourage working
people to provide for their health care coverage within the
private sector are essential. The particular form of an
individual's employment situation should not determine the tax
treatment of health care costs incurred as part of the cost of
doing business. Rather, as nearly as possible, parity of
deductibility should be obtained within the tax code

, in the interests of both fairness and sound health care
policy, I urge my colleagues to join me in support of H.R. 691.


29

The 25% Medical Insurance Deduction for the Self-Emploved

by: Betty Kohls Stehman, CIA
President and CEO, Entrepreneurial Financial Services, Inc.
National Director and Chief Financial Officer, American
Association of Home-Based Businesses
Recently applied for CPA license in the state of Maryland

The 25% self-employed medical insurance deduction expired on
December 31, 1993. The effect of this missing deduction is to
have the self-employed pay more in taxes when they already carry
a heavy burden in the United States Taxation System. Just how
big a problem is this?

According to the IRS statistics for 1992, 21.3 million business
tax returns were filed. The breakdown of these returns is as
follows:

sole Proprietorships 15.10 million 70.9%
Partnerships 1.60 million 7.58
Small Corporations 4.48 million 21.08
Large Corporations 02 million +68

Of the 21.3 million businesses, 5.7 million or 26.8%, are large
enough to have employees. From these statistics one can
conclude that approximately 15.6 million businesses are one-
person shops or family run businesses.

In the 1RS Code, Section 162 is titled ITEMIZED DEDUCTIONS FOR

CORPORATIONS. The tax code in Sec. 162 begins
with “There ehall be allowed as a deduction all the ordinary and
necessary expenses paid or incurred during the taxable year in
carrying on any trade or business. . . ." All forms of business
entities are included in this section because business entities
pay taxes either at the corporate level or at the
shareholder/partner/individual levei. C Corporations are
allowed to deduct 100% of the medical insurance premiums and
expenses that they incur for their employees which also includes
the owners of the corporation or its five top officers. Based
on the statistics above, only 21.6% of all business entities get
the 100% deduction. Sub-Chapter $ corporations are included in
this 21.6% figure and their medical insurance premiums and
expenses are passed through to the individual shareholders.
Thus, they do not receive the 100% deductibility of their
medical insurance costs. Although I was unable to find out how
many Sub-S tax returns are in the corporate numbers above, I
believe we can safely conclude that less than 1 in 5 businesses
can deduct 100% of their medical insurance premiums and
expenses.

What level of deductibility do 80% of the businesses receive for
their medical insurance premiums and expenses? Under the pre-


98

self-employed workers. The Soliman decision is ill-suited to the
modern economy. Clarification of the home office expense deduction
rules makes sense from both a business and family perspective.
Further, extending the health insurance tax deduction for self-
employed workers will at least begin the process of equalizing the
treatment of self-employed workers and those who work for
Subchapter C corporations.


91

STATEMENT OF THE AMERICAN FARM BUREAU FEDERATION
‘TO THE HOUSE WAYS AND MEANS COMMITTEE
SUBCOMMITTEE ON HEALTH
ON THE TAX DEDUCTION FOR HEALTH INSURANCE PREMIUMS
PAID BY THE SELF-EMPLOYED

January 27, 1995

Farm Bureau is the nation’s largest general farm organization with a membership of
4.4 million families in 50 states and Puerto Rico. Farm Bureau members produce virtually
every commodity grown commercially in this country. Our policy is developed by producer
members at the county, state and national levels of our organization. Farm Bureau
appreciates the opportunity to comment on the tax deduction for health insurance premiums
paid by the self-employed,

The 25 percent tax deduction for health insurance premiums of self-employed sole
proprietors expired on December 31, 1993. Farm Bureau must stress the urgency of
reinstating the 25 percent deduction for health insurance premiums paid by the self-employed
before farmers file their 1994 tax returns, In addition, Farm Bureau supports a permanent
100 percent deduction for health insurance premiums paid by self-employed individuals.

High health insurance costs are particularly troublesome in farming and ranching
because it is a hazardous occupation. High risk translates into high insurance premiums, and
many farmers are reducing their coverage or dropping it entirely because they cannot afford
it. A tax deduction for the cost of insurance premiums will go a long way toward helping
farmers and ranchers provide for their own insurance needs.

Providing self-employed persons the ability to deduct 100 percent cost of their health
insurance premiums is also a matter of faimess. Corporations, including farms that are
incorporated, are able to deduct the entire costs of their employees” health insurance. It is
only fair that all farmers, regardless of how their businesses are organized, be able to deduct
their entire health insurance costs.

During last year’s health care reform debate, the provision to make health insurance
premiums deductible was part of virtually every proposal. Now it is time to translate that
support that into action. Farm Bureau urges quick action to reinstate the 25 percent deduction
for 1994 and put into place a permanent 100 percent deduction for health insurance premiums
paid by the self-employed.

Tax policies that are fair and equitable promote both the economic well-being for
farmers and our nation’s food supply. ‘Thank you for the opportunity to present the
views of the American Farm Bureau Federation about this matter of importance to all self-
employed people.


11

Chairman THomas. I thank the gentleman for the content and
brevity of his statement.

Our colleague from Massachusetts, a Member of the full commit-
tee, Mr. Neal.

STATEMENT OF HON. RICHARD E. NEAL, A REPRESENTATIVE
IN CONGRESS FROM THE STATE OF MASSACHUSETTS

Mr. Neat. Thank you very much, Mr. Chairman. I agree with
your opening remarks as well as was pleased to hear of your in-
tent.

First, let me thank you for allowing me to testify here at the
Health Subcommittee on the issue of Fealth insurance tax deduc-
tion for the self-employed. This is an important issue on which the
Congress should be able to agree and take swift action.

On the opening day of the 104th Congress, I introduced legisla-
tion to restore and increase the deduction for the health insurance
costs of self-employed individuals. This is identical to the legisla-
tion that Mr. Grandy and I offered last year as well. Self-employed
businessowners and small businesses should be able to share in the
same tax treatment of health benefits as large corporations.

Prior to 1993 self-employed businessowners were allowed to de-
duct as a business expense up to 25 percent of their medical insur-
ance payments for an individual, an individual’s spouse and de-
pendents provided that that individual or the individual’s spouse
was not able to participate in an employer-subsidized health insur-
ance program. This provision was extended as part of the Reconcili-
ation Act of 1993. The deduction that expired on December 31,
1993, I believe, should be restored. I was pleased to hear the chair-
man’s comments a few moments ago.

Unfortunately, before the 103d Congress adjourned, agreement
on health care could not be reached. However, consensus was
reached on one issue, the ability of the self-employed to deduct the
cost of the health care insurance. A major health care reform pro-
posal included a provision to allow self-employed workers this 100
percent deduction. I hope we can reach agreement on this issue
and take quick action.

I recently introduced legislation which restores the 25-percent
deduction and gradually increases the deduction to 100 percent. I
think the testimony by you and Mr. Stark this morning indicates
that there is room for consideration of these numbers and, at the
same time, there also is room for I think some compromise.

The bill phases in the deduction over a period of 4 years. For cal-
endar years 1994 and 1995, health insurance would be 25 percent
deductible. In 1996 and 1997, it would become 50 percent deduct-
ible. In 1998, and thereafter, it would be 100 percent deductible.

When I first came to the Congress, I served on the Committee
on Banking, and one of the issues I worked on diligently was busi-
ness lending. Small businesses, for a long period of time in New
England, were not able to receive financing as easily as large cor-
porations. I worked to have included in the banking reform legisla-
tion a provision that required the promulgation of a regulation ad-
dressing the disclosure of loans made to small businesses.

Since I joined this subcommittee, I tried to make permanent the
deduction of health care costs for the self-employed. It was the first


97

Prior to January 1, 1994, a self-employed individual generally
could deduct 25 percent of the amount paid for health insurance for
the taxable year on behalf of the individual and his or her spouse
and dependents.13/ Congress’ purpose in establishing this
deduction in 1986 still exists today. At that time, lawmakers
expressed concern about the disparity in tax treatment of health
benefits between self-employed individuals and owners/employees of
incorporated businesses.14/ The 25 percent deduction that self-
employed individuals received for their health insurance premiums
was designed to provide at least some portion of the favorable
treatment for health insurance afforded employees covered under an
employer-provided plan.15/

Restoring Self-Employed Deduction Would Represent strong _step
Toward Providing Equitable Treatment to Home Office Businesses

Mr. Chairman, a sense of excitement exists when entrepreneurs
start up their home office businesses. Many express relief to be
free from headaches like commuting, endless meetings, and office
politics. They feel that they will be as free to go as far as
their abilities will take them. Then, reality sets in. They
realize that they often have to pay more for everything. For
starters, they realize that they have to buy their own health
insurance coverage at outrageous costs, and that the Federal
Government, by providing disparate treatment with respect to health
care expenses, caters to big business, not to them.

HOAA believes it is unfair and unjustified to premise the
availability of a tax benefit on whether a taxpayer works for a
Fortune 500, Subchapter C corporation or for himself or herself in
an unincorporated business. Such treatment is simply one example
of the ways home office businesses operated by self-employed
individuals are treated as second-class businesses. Retroactively
restoring the 25 percent deduction for self employed persons would
represent a strong first step toward providing more equitable
treatment to home office businesses. We urge you to do so prior to
the April 15 filing deadline for individual tax returns. We also
hope that lawmakers will ultimately enact legislation providing a
100 percent deduction for the health care costs of self-employed
individuals, as has been proposed by numerous lawmakers and the
Clinton Administration.

Conclusion

To conclude, I appreciate the opportunity to submit testimony
on the importance to HOAA of preserving the home office expense
deduction and reinstating the health insurance tax deduction for

13/ This provision expired on December 31, 1993. See § 162(1).
Sole proprietors, working partners in a partnership, and §
corporation employees who own more than two percent of the
corporation’s stock could take advantage of the deduction. See
Senate Committee on the Budget, 1 A ium of
ials vi . S. Prt. 101, 103rd
Cong., 2d Sess. 425 (1994) ["Tax Expenditures"}.

24/ Tax Expenditures, supra note 13, at 428. An employer’s
contribution to a plan providing accident or health coverage to
an employee and the employee’s spouse and dependents is
excludable from an employee’s income. Further, businesses can
generally deduct as an employee compensation expense the full
cost of health insurance coverage provided to employees. See
Joint Committee on Taxation, of visions il

ident’s Budget or Fisci 93, JCS-3-92 46
(Feb. 6, 1992).

18/ Tax Expenditures, supra note 13, at 428.


102

Currently, as a practical matter, any provider who obtains a Medicare billing number can
submit a claim for orthotic and prosthetic reimbursement. Until 1992, HCFA's Medicare policy
carriers manual on orthotic and prosthetic coverage restricted reimbursement to ABC-certified
orthotists and prosthetists. HCFA changed its policy to allow O&P reimbursement to any
provider credentialed by a membership organization of the National Organization for Competency
Assurance (NOCA), NOCA is not a credentialing organization, but rather a membership
‘organization open to all organizations interested in credentialing issues.

Realizing this error in recognizing the NOCA and instead of limiting reimbursement to
practitioners qualified to provide comprehensive orthotic and prosthetic care, HCFA further
expanded the range of providers eligible to provide O&P services reimbursable under the
Medicare L-codes in September 1994. HCFA, therefore, currently has no substantive restrictions
or apparent monitoring procedures as to who is qualified to submit orthotic and prosthetic claims
under the Medicare program

HCFA, has potentially exacerbated the likelihood for the type of fraud and abuse that
occurred with orthotic body jackets by recognizing and allowing “anyone credentialed by any
certification organization in orthotics and prosthetics" to acquire an O&P provider specialty code
and use the L-code designations in submitting orthotic and prosthetic reimbursement claims. This
HCFA Medicare carriers manual policy change only increases the likelihood for fraud and abuse
and provides virtually no control over the use of the O&P L-codes. Further, HCFA‘s relaxation
of its conditions for orthotic and prosthetic coverage may lead to further proliferation of "new"
orthotic and prosthetic credentialing organizations wishing to meet the relaxed requirements for
orthotic and prosthetic reimbursements.

‘The creation of orthotic and prosthetic conditions of coverage under the Medicare
program, therefore, would serve to promote quality control of orthotic and prosthetic health care
services provided to Medicare beneficiaries and would lead to easy identification of fraudulent and
abusive activities by unqualified providers HCFA should consider reincorporating the ABC
practitioner certification and facility accreditation standards into its conditions for O&P coverage.
‘These certification and accreditation standards include physical facility requirements and the
prerequisite that an ABC-certified practitioner be employed full-time in an O&P facility

CONCLUSION

NAAOP welcomes the opportunity to work with this Subcommittee, the Health Care
Financing Administration, and the Durable Medical Equipment Regional Carriers to eliminate
fraud and abuse in the Medicare program, to appropriately regulate orthotics and prosthetics
separately from durable medical equipment, and to ensure the provision of the highest quality
orthotic and prosthetic care to Medicare beneficiaries Thank you

oO


65

So kind of in sum, this is a really critical issue. It is very impor-
tant to us in agriculture. I think it is important to all the business
community. You can make a major difference in the affordability
of health care by this decision. We would hope that you do it on
a permanent basis so we can rely upon it in the future.

I want to thank you very much for your interest in this subject.
I want to thank you for your support of our industry, and we very
much appreciate the chance to be here.

{The prepared statement follows:]


71

Chairman THomas. Thank you very much.
Ms. Whitt.

STATEMENT OF BENNIE L. THAYER, PRESIDENT, NATIONAL
ASSOCIATION FOR THE SELF-EMPLOYED, AS PRESENTED BY
JULIA WHITT, DIRECTOR, GOVERNMENT RELATIONS,
NATIONAL ASSOCIATION FOR THE SELF-EMPLOYED

Ms. WHITT. Good afternoon. My name is Julia Whitt and I am
the director of Government Relations for the NASE, National Asso-
ciation for the Self-Employed. I am pleased to have the opportunity
to present our membership views on this issue in place of our presi-
dent Bennie Thayer.

The NASE represents more than 320,000 small businesspersons
nationwide. Over 85 percent of our members are businessowners
with five or fewer employees and more than half are the smallest
of small business, independent sole proprietors.

The issue of 100 percent deductibility of health insurance pre-
miums is a paramount concern of our membership. The NASE
views this hearing today as part of the Ways and Means Commit-
tee’s commitment to resolve a significant problem for the small
business community.

It is NASE’s strong recommendation to the Ways and Means
Committee and other Members of Congress to take immediate ac-
tion to reinstate the 25-percent health insurance deduction for the
self-employed. Reinstatement would be a positive step for several
reasons.

First, early subcommittee action in 1995 will go a long way to-
ward easing the administrative and compliance burdens for both
the Internal Revenue Service and for the small businessowners in
terms of processing 1994 tax returns.

Second, prompt reinstatement should help remove the pending
tax increase self-employed persons will face in the absence of the
deduction.

Third, quick passage of the 25-percent deduction would smooth
the way for the health insurance deduction issue to be included in
the Ways and Means Committee’s deliberations on a tax component.
in the Contract With America.

Fourth, action also needs to be taken immediately to reinstate
the deduction to help the self-employed maintain their current
health insurance policies.

The NASE commissioned a study by Dr. Bruce Kirchoff which
has been referred to earlier in testimony regarding the number of
persons affected by elimination of this deduction. I would be willing
to supply a copy of this study to remain part of the record. But ac-
cording to that study, a total of 412,000 persons would join the
ranks of the uninsured based on the loss of the deduction; 117,000
of these people would be children.

As indicated by the Employee Benefits Research Institute, in
January 1994 there were already 2.8 million self-employed persons
without insurance. One of the major goals of achieving meaningful,
cost-effective health care reform was to reduce the number of
Americans without health insurance. Obviously, loss of the deduc-
tion is health care in reverse for the self-employed.


16

monthly basis, between affordability of premium and
nonaffordability of premium.

Also, I have seen age ratings take its effect just before Medicare
eligibility gets socked, paying in excess of $5,000 a year, $500 a
month on coverage. For them, a married couple aged 60 struggling
on the farm, the savings would be $750 a year. This is a group that
is beginning to most acutely understand their need for coverage
and all too often inability to afford it.

You and I have often seen eye to eye, Mr. Chairman, on our pref-
erence for private sector approach to health care financing. I think
deductibility of premium can really be a cornerstone for meaningful
health care reform achieved entirely through the private sector. If
we pass H.R. 52 making coverage more affordable, followed by in-
surance reforms to deal with some of the underwriting questions,
we will have gone a long way to dealing with some of the coverage
gaps under our present system.

That concludes my initial comments. I would be quite happy to
engage in any questions on what amount might be the appropriate
deductibility level.

[The prepared statement follows:]


99

NATIONAL ASSOCIATION FOR THE ADVANCEMENT
OF ORTHOTICS AND PROSTHETICS

INTRODUCTION

The National Association for the Advancement of Orthotics and Prosthetics (NAAOP) is a
national, non-profit organization comprised of orthotic and prosthetic health care practitioners
(orthotists and prosthetists) who clinically and technically design, fit, and fabricate orthopedic
braces and artificial limbs (orthotics and prosthetics) for this nation’s two million amputees and
other people with physical disabilities requiring orthotic and prosthetic care. Quality orthotic and
prosthetic care can be extremely cost-effective by enabling people with disabilities to achieve high
levels of independence and function in the workplace, in the home, and in all aspects of
community life. Appropriate orthotic and prosthetic care also helps prevent secondary disabilities
and decreases long term health and welfare costs to society.

Orthotic and prosthetic services are reimbursed under Part B of the Medicare program
through a fee schedule known as the "L-codes." Although the four recently-created Durable
Medical Equipment Regional Carriers (DMERCs) currently administer reimbursements for
orthotics and prosthetics under the Medicare program, there is a major distinction between
durable medical equipment (DME) and orthotic and prosthetic (O&P) services that justifies
separate consideration and treatment when regulating these sectors of the health care field

ENSURING QUALITY ORTHOTIC AND PROSTHETIC

Practitioner Edu

A critical distinction between the provision of durable medical equipment and the
provision of orthotic and prosthetic services entails the level of education and training necessary
to provide comprehensive O&P services, Comprehensive orthotic and prosthetic care requires
highly specialized and trained practitioners in order to design, fit and fabricate a customized
artificial imb or orthopedic brace for the particular needs of each patient. These highly
specialized services combine the disciplines of medicine and engineering like almost no other area
of health care. The successful custom replication and restoration of functional human body parts,
which are in a multitude of shapes, sizes and complex contours, is fundamentally different from
most types of durable medical equipment which tend to be more generic, pre-fabricated, and less
clinically intensive to provide.

In addition, significant variation exists in the delivery of quality orthotic and prosthetic
services, primarily due to the range of physical disabilities orthotic and prosthetic care can benefit
and the explosion of technology over the past decade. To keep abreast of clinical and
technological developments, individual practitioners participate in continuing education, research,
and the frequent exchange of information among professionals. The orthotic and prosthetic
profession has a defined body of clinical and technical knowledge and a core of over 3,000
specially credentialed practitioners with formalized education provided by well-established
baccalaureate and post-baccalaureate education programs offered at eight major American
universities

entific tion

Currently, the American Board for Certification in Orthotics and Prosthetics (ABC) offers
the highest level of credentialing standards for orthotists and prosthetists and is the most widely
recognized credentialing organization for orthotic and prosthetic services. ABC was founded in
1948 and conducts a comprehensive credentialing process for both orthotic and prosthetic
practitioners as well as facilities in which they provide their clinical and technical services

ABC-certified orthotists and prosthetists are the only orthotic and prosthetic practitioners
recognized by the American Medical Association (AMA) as true orthotic and prosthetic allied
health professionals. The education requirements for ABC certification are the only educational
pathways recognized by the Commission on Accreditation of Allied Health Education Programs
(CAAHEP) and the U.S. Department of Education.


21

‘TESTIMONY OF THE HONORABLE JAN MEYERS {R-KS-3)
before the

COMMITTEE ON WAYS AND MEANS
U.S. HOUSE OF REPRESENTATIVES

on
HEALTH INSURANCE DEOUCTION FOR THE SELF-EMPLOYED
January 27, 1995

Mr. Chairman, Thank you for the opportunity to appear before you this
morning to discuss the importance of the 25% health care deduction for self-
employed Individuals and small business people, and { congratulate you for
holding this very timely hearing. | believe we should act immediately to make this
deduction retroactive to December 31, 1993, and to make it permanent.

Last week our Small Business Committee held a hearing on this very
subject, and | would like to submit the statements of our witnesses to you for the
record. Most of them are self-employed people, and | am certain their testimony
about the importance of this deduction will be helpful to this Committee.

| think it is important to know the history of this deduction: It was first
enacted in the Tax Reform Act of 1986 (P.L. 99-514) for a period of three years.
The deduction was the extended for nine months in the Omnibus Budget
Reconciliation Act of 1989. In 1990 it was extended for one year, through
1991. In 1991 it was again extended through June 30, 1992, Then it expired,
but Congress included a provision in the Omnibus Budget Reconciliation Act of
1993 which applied retroactively, and extended the credit to December 31, 1993.
Then it expired again.

Congress failed to act on an extension last year, and because we have
been consistent since 1986, | am sure many small business people provided
health insurance and felt as if the rug had been pulled from under them when we
failed--without any warning--to renew the deduction. We should act now to make
the deduction retroactive and permanent.

1 sponsored a bill last year, and reintroduced it early this month (H.R. 442)

to retroactively restore the deduction, and to make it permanent. The

currently has more than 70 cosponsors. Several other Members who are
concerned about this matter have intraduced similar proposals--are several are
here to testify.

The 25% tax deduction was available to self-employed individuals,
including sole proprietors, working partners, and employees of S Corporations
who own more than 2% of the corporation's stock. A self-employed business
person who offers coverage to an employee could also take the deduction for the
Premiums. No deduction was permitted if the self-employed individual is eligible


50

STATEMENT OF
SAL RISALVATO

OWNER
RIVERDALE TEXACO
RIVERDALE, NEW JERSEY

Before: Subcommittee on Health
‘Committee on Way and Means
USS. House of Representatives

Dae: January 27, 1995

Subject: Self-Employed Health Insurance Deductibility

Good aftemoon. Thank you Mr. Chairman for giving me the opportunity to explain to you what
it is like to own a small business, and to endure the unfaimess in our tax code, I am here to
speak about the on again off again deduction for health care premiums paid by the owners of
small business.

Iam one of the owners of a small business. I, along with my brother Vinny, own Riverdale
Texaco, a gasoline service station in Morris County, New Jersey. 1 have been in the service
station business since 1978.

As [am sure you know, the 25 percent deduction on health care premiums for the owner of a
small business expired on December 31, 1993. I am here to urge this committee to extend the
25 percent deduction retroactive to January 1, 1994. I hope to accomplish several objectives
today. First, [ hope to make you understand the plain, simple, and obvious unfaimess with the
tax treatment of health care premiums as they relate to the owners of small businesses. Second,
I would like you to understand how that treatment is working against any solutions in the reform
of health care.

| first started to provide health care benefits for myself and my employees in 1981. Previously.
I myself was not insured. Thad always owned my own business from the day I graduated from
high school. As a healthy, inexperienced youth, I was not yet wise enough to realize the dangers
of being uninsured for serious illness. “Had I gotten seriously ill while T was in my early
twenties. 1 would have had no means of paying for my illness. thereby becoming one of those
that burden the health care system. I'am sure you are all aware of the term “cost shifting”. Had
become seriously il! back then, I would have been guilty of “cost shifting”.

{ cannot say that it was a sudden rise in the level of my wisdom, or the realization that I was a
health care deadbeat, that propelled my business into providing. health care benefits for myself
‘and my employees. The very force that made me provide health care benefits back in 1981 is
the exact same force that is the best solution to your health care crisis today. That force is
identified as “the market-place". The market-place is the playing field for free enterprise. It
produces quality, efficiency, and excellence. It is sparked by incentive and reward. If it is
doused by taxes, punishing regulation, and unfairness then it produces inefficiency and
mediocrity.

Thad some pretty good employees back in 1981. [hoped I was paying them well enough to
keep them. I just wasn’t sure. I tried to compare their salaries with those of other shops, but
never felt comfortable with the accuracy of the comparisons. One thing ! knew for sure was that
many shops, with the exception of auto dealerships, did not provide health care benefits for their
technicians.

I didn’t take @ genius to figure out that I could compete for employees better if I provided
something only big business was providing. By competing for and keeping better skilled and
‘motivated employees, | was able to sell a better product. When I sold a better product. 1
attracted more customers. When I attracted more customers, [ earned more money. When I
‘eamed more money. I spent more money, I saved more money. I invested more money, and yes,
1 paid more taxes. That simply put is a free enterprise market-place and how it operates. It is
‘not more complicated than that. I hope it is simple enough for Congress to understand.


95

“principal place of business" is the most difficult, and the
various tests which have been formulated by the courts cannot
achieve equitable results.

Supreme Court Restrictions Are Not Reasonable

In Soliman v. Conmissioner,5/ the Supreme Court exacerbated
the statute’s already confusing scheme. In that case, the Court
attempted to address the appropriate factors a taxpayer must use in
determining whether a home office is his or her “principal place of
business." The taxpayer in Soliman was an anesthesiologist who was
employed by three hospitals, but who maintained a home office as a
principal place of business used exclusively two to three hours a
day for contacting patients and surgeons, and for performing
related activities.

Even though the hospitals provided no office space to the
taxpayer in Soliman, the Supreme Court reversed the lower court
decisions which had allowed the deduction.6/ The Court’s effort
significantly narrowed the scope of the home office deduction by
setting up a comparative test for determining whether an
individual's home office is that person’s principal place of
business.2/

The comparative test does not work. The Court’s two primary
factors -- (1) the relative importance of the activities performed
at each business location, and (2) the amount of time the taxpayer
spends at each place of business -- are too vague.8/

The IRS’ subsequent explanation of how it will apply the
“relative importance" and "time" tests highlights the complex
problems that the normal, unsophisticated home office worker must
now confront.9/ Under this ruling, the Service said it will
first apply the “relative importance" test, and if this test yields
no definitive answer, it will look to the "time" test.10/ There
is no way for a home office worker to achieve any level of comfort
with these rules without expending considerable funds in lawyer or
accountant fees.

B/ 113 S. Ct. 701 (1993).
6/ 113 S. Ct. at 708.

2/ Id. at 706. The Court rejected both the "focal point" test
formerly favored by the Tax Court and the facts and circumstances
test subsequently adopted by the Tax Court, which had won
approval of the U.S. Court of Appeals for the Fourth Circuit.

8/ Id. In denying the home office deduction, the Supreme Court
determined that the taxpayer’s treatment of patients at the three
hospitals was the "essence of a professional service" and the
“most significant event in the professional transaction." The
home office activities were regarded as less important to the
taxpayers business than his work at the hospitals. Id. at 708.

9/ Rev. Rul. 94-24, 1994-15 I.R.B. 5. The IRS had previously
announced that it will not challenge home office deductions taken
for 1991 and earlier tax years if the taxpayer reasonably fell
within the scope of previous guidance issued by the IRS. See
Notice 93-12, 1993-8 I.R.B. 1. The Service has also withdrawn a
portion of proposed regulations under § 280A (issued in 1983) to
reflect the Soliman decision. See IA-23-93, 59 Fed. Reg. 26466
(May 20, 1994).

10/ Rev. Rul. 94-24, 1994-15 I.R.B. 5.


33

Chairman THomas. I thank the gentlewoman for her testimony.
I just want to inform you, as I said earlier to the other Members,
that I have introduced a bill with the cosponsorship of all the Re-
publican Members of the Ways and Means Committee to simply
move retroactively on the 25-percent fix for 1994 because of the
very same concerns the gentlewoman has about a time line. I un-
derstand also that two gentlemen from Maryland, Roscoe Bartlett
and Kweisi Mfume—so apparently we have a 696 and 697.

So we are thinking along the same lines in trying to do an ad-
justment in time so as not to have to file amended returns, but look
prospectively at some options that may begin with the 25 percent
on a permanent basis but then possibly offer some other alter-
natives.

I wonder if the gentleman from North Dakota had any final
statement?

Mrs. MEyeERs. If the gentleman would excuse me for a second, I
would like to say that in the Small Business Committee, the hear-
ing indicated one thing that is different from large business and
small business and that is the matter of cash flow. Our small busi-
nesses need the permanence of the 25 percent because of planning.

Again, I thank you very much.

Chairman THomas. Absolutely. Thank you.

Mr. Pomeroy. I have nothing further to add, Mr. Chairman,
other than commending you for your attention as well as the Chair
of Small Business who Held a hearing last week. This is a vital
topic and I hope we can move it quickly.

Chairman THomas. I thank you both very much. I appreciate all
the Members taking their time out to testify.

If we could have the panel of Jere Glover and Jonathan Gruber,
please, SBA, U.S. Small Business Administration, and Associate
Professor of Economics at MIT.

Mr. Glover, would you begin, please.

STATEMENT OF JERE W. GLOVER, CHIEF COUNSEL FOR
ADVOCACY, U.S. SMALL BUSINESS ADMINISTRATION

Mr. GLovER. Thank you very much, Mr. Chairman and Members
of the subcommittee, for holding this hearing and giving me the op-
portunity to testify.

Let me tell you just a little bit about the unique role of the Office
of Advocacy at the U.S. Small Business Administration. First thing,
this is one of the few jobs in Government which requires that the
President appoint someone from the private sector to give a little
different perspective. Second, we are able to present views before
Congress that are unique and perhaps somewhat different from
views of other agencies.

Our job is to represent the views and interests of small business.
Specifically concerning the subcommittee’s hearing today, we have
the duty to determine the impact of tax structures on small busi-
ness and make legislative and other proposals for altering the tax
structure to enable small business to realize their potential for con-
tributing to improving the Nation’s economy.

Given this role, my testimony is pretty much what you would ex-
pect it to be. Small business needs, deserves to have—especially


17

TESTIMONY OF REPRESENTATIVE EARL POMEROY
HOUSE COMMITTEE ON WAYS AND MEANS
SUBCOMMITTEE ON HEALTH
JANUARY 27, 1995

Mr. Chairman, I want to commend you for holding this
hearing. The subject matter is very important and very urgent
and your efforts to call attention to the issue are much
appreciated.

On the opening day of this Congress, I introduced H.R. 52, a
bill to retroactively reinstate the 25% deduction for health
insurance premiums for the self-employed for 1994, and to expand
the deduction to 100% in future years. My bill now has 58
cosponsors, almost evenly split between Democrats and

Republicans. This is not a partisan issue, it is a fairness
issue.

Aa the Congress approaches a reworking of the tax code in
order to provide well-deserved relief for the middle-class, I
believe the very first item of tax business must be to address
this unfinished business from last year.

Self-employed taxpayers in my state North Dakota are
rightfully shocked and angry that Congress allowed the 25%
deduction to expire. When they ask me what they should do, all I
can say is either go ahead and file, hope that Congress acts, and
if it does, file an amended return. Or, simply wait as long as
they can before filing.

I have never been able to understand why the self-employed
are treated any differently than other workers. Not only do the
self-employed pay taxes on the income used to buy their health
insurance, they also generally pay higher rates because they do
not purchase their insurance through a group plan. This is
blatantly unfair!

Granted, increasing the deduction to 100% will not be cheap,
but it can be done for a fraction of what is being talked about
in terms of other tax cuts. And it will provide real help to
families that need help the most.

The health care reform debate that fizzled out last year was
aimed at making health care more affordable and extending
coverage to more Americans. Well, here is one easy step that we
should all be able to agree on which will help achieve both
goals.

I have 32,000 farmers and thousands of other self-employed
workers, such as real estate agents, in North Dakota who need our
help. Let me give you a couple examples.

A typical young farm family in my state pays about $2700 per
year for a standard Blue Cross/Blue Shield health policy.
Bringing their deduction into line with the tax treatment of
health insurance for other workers will save that family over
$400 per year, assuming they’re in the 15% tax bracket.

For a married couple age 60, who would pay about $5000 per
year for coverage, the savings would be almost $750. That is
true middle-class tax relief.

Thank you again Mr. Chairman for holding this hearing. I
hope you will exert all the influence your Subcommittee can
generate to help us get this matter addressed just as quickly as
possible.



61

TESTIMONY OF
JACK FARIS
PRESIDENT AND CEO
NATIONAL FEDERATION OF INDEPENDENT BUSINESS (NFIB)

Before: Subcommittee on Health
‘Committee on Ways and Means
U.S. House of Representatives

Date: January 27, 1995

Subject: _ Self-Employed Health Insurance Deductibility

‘Thank you, Mr-Chairman. My name is Jack Faris, and 1 am President and CEO of the
National Federation of Independent Business (NFIB). NFIB is the nation’s largest small business
advocacy organization, representing over 600,000 small business owners from all fifty states.
‘The typical NFIB member has five employees and has $250,000 a year in gross annual sales.
NFIB sets its public policy positions through regular polling of the membership.

I want to take this opportunity to thank you for inviting NFIB to participate in this
hearing today, and also to commend you for bringing attention and urgency to the issue of health
insurance deductibility for self-employed Americans -- sole proprietorships, partnerships, and
subchapter S corporations. I am very hopeful that this hearing will begin a process by which a
major unfairness in our tax code will be eliminated.

‘Attaining full tax deductibility for the self-employed has been a top priority for NFIB for
many years. Eighty-two percent of NFIB members support full deductibility of health insurance
premiums, according to a 1993 survey. Health insurance deductibility has also been designated
4 top priority in several state conferences leading up to the 1995 White House Conference on
‘Small Business.

Approximately half of our more than 600,000 members own unincorporated businesses.
In fact, a majority of all businesses in this country are self-employed. Self-employed businesses
are the cradle of job creation and the American dream: the newer and smaller the business, the
more likely itis to be unincorporated. These self-employed business owners are the very people
whose firms need to start, survive, and grow in order to create the jobs of the future. These are
‘often people with very little cash, a good idea and talent -- struggling to make it work. And once
they do make it work, they are a major part of the group that creates nearly all new jobs in our
‘economy. Government data shows that small business has created two of every three net new
jobs since the 1970s, and a substantial majority of those jobs were created in the smallest firms -
+ those with fewer than five employees. Firms of this size, which constitute 60 percent of all
‘employers in this country, tend to be unincorporated.

‘These unincorporated business owners -- some with employees, some working on their
‘own ~ experience the worst of all possible worlds in the health insurance marketplace: an
insufficient product for a high price and denial of the same incentives and tax treatment enjoyed
by big business.

‘The High Cost of Health Insurance

Self-employed business owners often pay approximately 30 percent more than larger
companies for similar benefits because of higher administrative costs. In addition, they often pay
another 30 percent in premiums because of costly state mandates for specific types of insurance
‘coverage, which prevent self-employed business owners from shopping for only the basic care
that they and their employees might need. Larger firms that self insure, by contrast, are not
subject to these costly mandates. The self-employed usually lack access to cost-saving managed
care arrangements because of a reluctance by insurers to create and market them in small towns
‘and rural areas. Additionally, a small, unincorporated firm is far
the painful brunt - both economic and emotional - of the pre-existi
when an employee gets sick, the 20 percent to 300 percent premium hike or sudden cancellation
of insurance. Insurance companies are much more likely to require exclusions, raise premiums
‘or cancel policies to shield themselves from risk when insuring a small firm or a one person firm
rather than a large business.



4

Chairman THOMAS. Welcome to the Health Subcommittee hear-
ing on tax deductibility of health insurance premiums for the self-
employed. This afternoon, we do want to focus on all the issues sur-
rounding the question of tax deductibility of health insurance
premiums for the self-employed.

As many of you know, I assume all of us know, the 25-percent
health insurance premium deduction expired on December 31,
1993. It was anticipated that a permanent resolution, and I think
we can almost say it has been permanently anticipated, that a per-
manent resolution of the self-employed health insurance tax deduc-
tion would be addressed in the health care reform legislation of
1994.

With the failure to enact any form of health care reform, we find
ourselves once again dealing with the retroactive window either in
a stopgap procedure or a look-back, look-forward discussion.

do want to announce that yesterday I introduced a bill cospon-
sored by all of the Majority Members of the Ways and Means Com-
mittee, H.R. 697, to deal with the 1994 year and the legislation is
a very simple document. It says, strike December 31, 1993, and
change it to December 31, 1994, in the hopes that we can move just
that provision through Congress in time for people to make realis-
tic decisions for the 1994 tax year.

That means, as far as I am concerned, considerably before April
15 which is a deadline certainly but not one that I would define
as reasonable for most people to fully appreciate, understand, and
use this provision.

Chairman Archer and I are committed to making every effort
possible to get this legislation through the House and the Senate
as quickly as possible.

We have also, obviously, a prospective question to deal with. Just.
because Chairman Archer and I are more than willing to make
sure that the Band-Aid extension is handled, we still want to push
for the right tax policy in terms of the self-employed on health in-
surance deductibility. Today’s hearing is intended to continue to
get information.

The first panel will be our colleagues in terms of their views on
this question, and then I believe we have an excellent series of pan-
els which will give us a broad understanding from folks who have
been looking at it from afar and from people who have been living
it on a daily basis.

Part of the concern that I have is that we have tended to be al-
most formula-like in our responses to the question of the self-
employed. It was 25 percent, so we renewed the 25 percent. Then
there is a discussion of a march on fixed percentages up to 100 per-
cent.


93

RICHARD J. OURBIN

Congress of the Wnited States nvesanugen te

House of Representatives “ant
Washington, BE 20515-1520

January 27, 1995,

‘The Honorable Sill Thomas
Chairman

Ways and Neans Subcommittee on Health
U.S. House of Representatives
Washington, D.C. 20515

Dear Mr. Chairman:

I am writing in support of the legislation introduced by Representative
Pomeroy to retroactively reinstate the cax deduction for 25% of health
insurance premiums for the self-employed for 1994 and permanently increase the
deduction to 100% of premiums for 1995 and beyond.

This legislation provides equicy for self-employed taxpayers, who are
currently at a disadvantage relative to incorporated business entities when
chey provide health insurance to themselves and their employees. The
corporations they often compete with can Cake an income tax deduction for the
full cost of the health insurance premiuns they incur. The self-employed are
not eligible for such a deduction today and could only deduct 251 of their
Prenium costs before the provision expired at the end of 1993

Farmers, ranchers, and spall business owners who conduct their businesses
as sole proprietors deserve the same treatment on this important matter as the
corporations they often compete with.

Because of the high cost of health insurance -- especially insurance
purchased by individuals -- the tax deduction is of critical importance to
people who hope to provide themselves and their families with basic protection
against catastrophic health care bills. A 10x deduction for health insurance
preaiums can reduce the net cost of health insurance for a farm family by as
much as $500 to $1,000. This savings can make the difference between whether
health insurance is affordable or unaffordable.

1 am pleased to learn that you are holding a hearing on this subject. 1
would appreciate it if you would include this letter in the record for chat
hearing.

I urge your committee to act on Representative Pomeroy’s legislation so
chat farmers and other self-employed people can receive equal treatment in the
deduction of health insurance premiums.

‘Thank you for your consideration of my views
Sincerely,

‘bee

Richard J. Durbin
Member of Congress
Rupee


38

cost

‘The main objection to the adoption of a deduction for self
employed health insurance costs will be the costs to the
treasury. The original cost estimate for the 25% deduction was
projected to be $481 million by 1991. Costs estimates of the
100% deduction are very speculative since the figures are
dependent on the cost of a plan an individual chooses, how much a
business earns and which businesses decide to purchase coverage.
The costs attributed to the 100% deduction provision during the
consideration of last year’s major health-care proposals ranged
from $500 million to $2.5 billion. The Congressional Research
Service, specifically Health Care Policy analyst, Beth Fuchs, who
has been keeping track of the estimates, says that she feels $2
billion is a reasonable figure.

Costs could be kept down by phasing in the deductions over a
number of years or by continuing the requirements which existed
under the 25% deduction, which are:
1. premiums can be deducted only to the extent of income;
2. Ro person who could qualify for a subsidized plan (or
be covered by the subsidized plan of a spouse, can
receive the deduction.

FUNDAMENTAL FAIRNESS AND SIMPLICITY

The legislators who first drafted the health insurance
deduction for the self-employed had the right idea, both from the
public policy standpoint and also from a fundamental fairness
standpoint. I ask you to consider the following:

congress made the decision long ago that the cost to the
government of the deduction by corporations of health care
insurance for their employees was far outweighed by the
public benefit of having those employees covered by
insurance. Congress should do not less for the sole
proprietorships, partnerships and subchapter "S"
corporations.

Corporations have a 100% deduction, unincorporated self-
employed business owners have none.

Corporations, generally because of their size, can negotiate
favorable rates for their health plans. Small businesses
have a difficult time finding any affordable health plan.
Without a deduction, their costs are even greater.

Finally, self-employed individuals, left without a
deduction for tax year 1994 will see their tax bill go up!

In conclusion, I urge this subcommittee to act favorably on this
proposal and restore the 25% deduction for the 1994 tax year.

Further, I ask that the self-employed, partnerships and
subchapter "S" corporations be given the same tax treatment as is
given to corporations, namely, 100% deductibility of health
insurance premiums.

Finally, for ease of compliance with the tax code, I believe any
qualifiers should be as simple as possible so that small
businesses will have no confusion about what is deductible. 1
believe Congress was on the right track back in 1986 when it
threw out the non-discrimination requirements as they applied to
these very smail privately owned businesses because they were too
cumbersome and complex under the circumstances.

Thank you ir. chairman. I sincerely hope that this subconnittes
will reconmend that the playing field be leveled so that the tax
code treats all business entities the same as far as health
insurance premiums are concerned.



100

‘The ABC awards practitioner accreditation in three categories, Certified Orthotist (C.O.),
Certified Prosthetist (C.P.), and Certified Prosthetist/Orthotist (C.P.O.). The minimum entry level
requirements for practitioner education and certification are:

(a) _abachelor of science degree in orthotics and prosthetics or a bachelor of science
degree in a related allied health or engineering field along with successful
completion of specific undergraduate courses in orthotics and prosthetics at
accredited schools,

(b) one year of clinical residency in each discipline, and

(©) successful completion of a comprehensive written, oral, and clinical examination
for practitioners administered by the American Board for Certification in Orthotics
and Prosthetics.

These stringent standards help ensure that ABC-certified orthotic and prosthetic
practitioners are competent to provide the full range of comprehensive O&P care to patients with
a multitude of varying disabilities. This high level of education and training helps assure quality in
the clinical service element inherent in the delivery of these highly technical customized devices.

The Service Element of Orthotic and Prosthetic Care

Quality orthotic and prosthetic care is as much a professional service as itis a device that
results from this service, While there is a service component in the delivery of some types of
durable medical equipment, such as the design of customized wheelchairs and the delivery of
certain home health services, orthotic and prosthetic care is generally far more service-oriented
and specialized to the needs of each patient. Yet, when Congress and the Health Care Financing
Administration (HCFA) have regulated durable medical equipment in the past, through fraud and
abuse and reimbursement reforms for instance, they have tended to blindly cast the same net over
the very different fields of orthotics and prosthetics,

The lack of separate treatment between DME and O&P has resulted in widespread
confusion and limited understanding of this small but critical component of rehabilitation in our
health care delivery system. This failure 1o separately address DME and O&P often creates
unintended consequences and unfairly punishes the orthotic and prosthetic fields for problems in
other areas of the health care delivery system. Two recent examples of this is the inappropriate
reclassification by HCFA of custom orthotic seating systems as "inexpensive/routinely purchased”
DME and the fraud and abuse orthotic body jacket investigation conducted by the Office of
Inspector General

HCFA'S RECLASSIFICATIO! IN STEMS

Custom orthotic seating systems are designed and fabricated to meet the unique needs of
people with severe physical disabilities requiring seating support usually associated with long term
‘wheelchair use, Custom orthotic seating systems are needed in this instance to avoid serious
health complications--such as decubitus ulcers and spinal collapse--and to maintain functional
activities of daily living. Depending upon the severity of the patient, these customized orthoses
range in cost from a few hundred to several thousand dollars Until recently, HCFA reimbursed
these orthoses using an orthotic L-code and individually considered each device to determine a
reasonable fee

With the creation of Medicare's Durable Medical Equipment Regional Carriers, these
custom seating orthoses were inappropriately reclassified as “inexpensive/routinely purchased"
durable medical equipment and assigned three different "K-cades," obviously not part of the
orthotic and prosthetic L-code system. Instead of individually considering the fee for each custom
seating orthosis claim, HCFA and the DMERCs now reimburse claims for these devices at a fixed
allowable fee, regardless of the level of complexity involved in designing and developing the
individual orthosis. Despite the fact that the descriptions for these three new K-codes include the



4l

will be targeted more specifically to the truly self-employed. So in
setting the floor, I think the goal of this tax policy has to be clearly
delineated.

Is the goal to use this effective instrument to redress coverage
differences between the self-employed and employed? If so, I would
suggest that a reasonably high floor be set. However, is the goal
to introduce a tax policy which might more broadly address inequi-
ties between those that have access to health insurance and those
that don’t? If that is the goal, then a lower floor might be more sen-
sible.

Thank you very much.

[The prepared statement follows:]