EXECUTIVE OFFICE OF THE PRESIDENT

COUNCIL OF ECONOMIC ADVISERS

THE ECONOMIC EFFECTS OF HEALTH CARE REFORM ON

SMALL BUSINESSES AND THEIR EMPLOYEES

JULY 25, 2009
THE ECONOMIC EFFECTS OF HEALTH CARE REFORM ON 

SMALL BUSINESSES AND THEIR EMPLOYEES

EXECUTIVE SUMMARY

Small businesses play an important role in the U.S. economy and are a strong driver of job 

growth and innovation. But small businesses are severely disadvantaged by the current U.S. 

health care system relative to their larger counterparts. A new report by the Council of Economic 

Advisers (CEA) examines the challenges faced by smaller firms under the current health care 

system, and the likely impacts of health care reform on small businesses and the workers they 

employ. Key findings of the report include the following: 

Small businesses are crucial to the economy. 

 Small businesses are an important source of job growth in the United States. Firms with 

fewer than 20 employees accounted for approximately 18 percent of private sector jobs in 

2006, but nearly 25 percent of net employment growth from 1992 to 2005. 

 Small businesses account for a large majority of jobs in start-ups, a key source of innovation 

and economic growth. 

The current health care system is not working well for small businesses and their workers. 

 The U.S. health care system imposes a heavy “tax” on small businesses and their employees. 

Due to high broker fees, fixed administrative costs, and adverse selection, small businesses 

pay up to 18 percent more per worker than large firms for the same health insurance policy. 

Some of these higher costs are passed on to small firm employees in the form of lower 

wages, and some eat into the profits of small businesses that could otherwise be used for 

research and development and for much-needed investments. This implicit tax disadvantages 

small firms in both the market for the best workers and the market for their products. 

 Because of their higher health care costs, small businesses are far less likely to provide health 

insurance for their workers than larger businesses. Only 49 percent of firms with 3 to 9 

workers and 78 percent of firms with 10 to 24 workers offered any type of health insurance 

to their employees in 2008. In contrast, 99 percent of firms with more than 200 workers 

offered health insurance. Consistent with this pattern, 29 percent of non-elderly adult workers 

at firms with fewer than 25 employees were uninsured in 2007. In that same year, just 10 

percent of workers in firms with 500 or more employees were uninsured. Workers at small 

firms that do offer health insurance also tend to have less generous plans than workers at 

large firms. 
 The fraction of small firms offering health insurance has been declining in recent years. From 

2002 to 2008, the fraction of firms with 3 to 9 employees offering health insurance to their 

workers declined from 58 to 49 percent. 

Health care reform as envisioned in current draft legislation would reduce the current 

burdens on small firms and their workers. 

 Small businesses that meet certain criteria would be able to purchase health insurance 

through an “insurance exchange” – allowing them to choose among a multitude of plans that 

would provide better coverage at lower costs than they could find in the current small group 

market. 

 Many small businesses that provide health insurance for their employees would receive a 

small business tax credit to alleviate their disproportionately higher costs and encourage 

coverage. The tax credit would be targeted to those firms with employees whose average 

wages fall below a certain threshold. 

 The current reform options include financial incentives for medium- and large-sized firms to 

provide health insurance coverage through so-called “pay-or-play” provisions. Firms with 

payrolls or employment levels below a certain threshold, which would include the vast 

majority of small businesses, would be exempt from the pay-or-play provisions. 

 The creation of an insurance exchange would also provide better and lower-cost options for 

workers in small businesses that do not offer health insurance. Low-income individuals and 

families would receive sliding scale subsidies to help them purchase insurance. Additionally, 

health insurers would not be allowed to screen potential enrollees for pre-existing conditions. 

 The proposed reforms could help spur entrepreneurial activity by increasing the incentives 

for talented Americans to launch their own companies, and could increase the pool of 

workers willing to work at small firms. Further, successful reform would reduce the 

phenomenon of “job lock,” in which workers are reluctant to leave a job with employersponsored health insurance out of fear that they will not be able to find affordable coverage. 

Small firms that are unable to provide health insurance for their employees bear the greatest 

cost of this phenomenon. 

 Reductions in absenteeism and improvements in worker productivity resulting from better 

health outcomes because of expanded coverage would particularly benefit small businesses. 
I. INTRODUCTION

Small businesses are an important driver of job growth and innovation in the United States. 

Unfortunately, the current U.S. health care system does not work well for these firms or their 

employees. Small businesses pay significantly higher insurance premiums and, as a result, are far 

less likely to offer health insurance to their workers. Properly designed health care reform has the 

potential to improve the competitiveness of small businesses and the economic condition of 

workers in this crucial sector of the economy. 

In this report, the Council of Economic Advisers (CEA) examines the likely impact of health 

care reform on small businesses and their employees. We begin by documenting the key role that 

small businesses play in job creation and the difficulties they face in the current health insurance 

system. We conclude that small firms are seriously disadvantaged relative to their larger 

competitors because of the higher premiums that they must pay to provide health insurance for 

their workers. Workers in small firms are more likely to be uninsured or, if their employers do 

provide insurance, to have less generous policies. 

One way that small businesses and their workers will benefit from health care reform is that it 

will improve the overall performance of the economy. For this reason, we review the evidence 

that health care reform that slows the growth rate of costs and expands health insurance coverage 

will improve living standards and take-home pay for families, prevent unsustainable increases in 

the budget deficit, and improve the efficiency of the labor market. 

We then examine the effects of health care reform on small firms in particular. We find that the 

proposed legislation currently under consideration in the House and Senate is likely to help small 

businesses be more competitive in the American marketplace and improve the standard of living 

of workers in small firms. 

II. THE IMPORTANCE OF SMALL BUSINESSES TO THE U.S. ECONOMY

Small businesses play an important role in the U.S. economy. Two common measures of the size 

of a firm are its number of employees and its annual payroll. By either measure, the vast majority 

of firms in the United States are small, and these firms account for a substantial share of private 

sector employment. Figure 1a shows that, measured by employment, 89 percent of firms had 

fewer than 20 employees in 2006, and these same firms accounted for 18 percent of private 

sector employment. Similarly, those with fewer than 50 employees accounted for 96 percent of 

all firms and 28 percent of private sector employment. Even firms with fewer than 10 employees 

accounted for more than 3 out of every 4 firms in the United States.1

                                                           

1

 U.S. Small Business Administration (2009a). 

1
79%

89%

11%

18%

28%

96%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Fewer than 10 Fewer than 20 Fewer than 50

Share of total firms

Share of total employment

Percent

Figure 1a: Share of Total Firms and Total Employment by Number

of Employees, 2006

Source: U.S. Small Business Administration. “Employer Firms, Establishments, Employment, and Annual 

Payroll Small Firm Size Classes.” 

A similar pattern emerges if one defines firms by total payroll rather than by number of 

employees. As shown in Figure 1b, 87 percent of firms had an annual payroll of less than 

$500,000 in 2006, and these firms accounted for 19 percent of private sector employment. The 

figure also lists the corresponding shares for firms with payrolls of less than $250,000 and less 

than $1 million.2

77%

87%

93%

13%

19%

25%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Less than $250,000 Less than $500,000 Less than $1 million

Share of total firms

Share of total employment

Percent

Figure 1b: Share of Total Firms and Total Employment by Size 

of Payroll, 2006

Source: U.S. Census Bureau. 2006 County Business Patterns.

                                                           

2

 U.S. Census Bureau (2008). 

2
In addition to being a substantial source of existing jobs, small businesses account for a 

disproportionate share of employment growth. Firms with fewer than 20 employees accounted 

for 25 percent of net employment growth from 1992 to 2005.3

 Comparing this with their average 

share of all private sector employment during this same period (which was 19 percent), the rate 

of net job creation per worker in firms with fewer than 20 employees was 40 percent greater than 

the corresponding rate for all other firms.4

Furthermore, the vast majority of new firms, which are a critical source of innovation and growth 

in our economy, begin as small businesses. Indeed, despite their size, these small businesses 

account for a substantial majority of jobs in start-ups.5

Table 1: Firms’ Employment Share By Industry in 2006 

Industry Firm Size 

Fewer than 20 

employees 

More than 20 

employees 

Construction 12% 5% 

Manufacturing 5% 13% 

Wholesale Trade 6% 5% 

Retail Trade 13% 13% 

Finance and Insurance 4% 6% 

Professional, Scientific, and Technical 

Services 11% 6% 

Administrative and Support and Waste 

Management and Remediation Services 5% 9% 

Health Care and Social Assistance 12% 14% 

Accommodation and Food Services 10% 9% 

Other Services 12% 3% 

All Other Industries 11% 17% 

Source: U.S. Census Bureau. 2006 County Business Patterns. 

Note: Employment share by industry is the percent of total employees for a given firm size 

in each industry. These data exclude government employment. Due to rounding, 

employment shares may not add to 100 percent. 

                                                           

3

 U.S. Department of Labor (2005b). 

4

 Small firms accounted for 24.6 percent of net employment growth from 1992 to 2005 (U.S. Department of Labor, 

2005a) and an average of 18.9 percent of employment during that same period (U.S. Small Business Administration, 

2009b). Taking the ratio of these to calculate net employment growth per worker and dividing it by the 

corresponding ratio for firms with 20 or more employees yields a value of 1.40. 

5

 Haltiwanger, Jarmin, and Miranda (2008). 

3
Table 1 compares the industrial composition of businesses by size, and illustrates that small 

businesses have a significant presence in a wide variety of industries. Not surprisingly, small 

businesses are somewhat disproportionately located in service industries. They are, however, 

widely distributed within the service sector – ranging from accommodations and food services to 

professional, scientific, and technical services. Small businesses also tend to be 

disproportionately located in construction: 12 percent of small firm employment is in 

construction, compared with only 5 percent of firms with 20 or more workers. The strong 

presence of small firms throughout all industries reinforces the importance of crafting health care 

reform that supports the unique needs of the small business community. 

III. THE EFFECTS OF THE CURRENT HEALTH INSURANCE SYSTEM ON SMALL BUSINESSES

The current U.S. health care system is not working well for small businesses. Most obviously, 

small businesses pay substantially more to provide insurance for their workers. On average, 

small businesses pay up to 18 percent more than large firms for the same health insurance 

policy.6

 There are three primary reasons for this difference. First, small businesses generally pay 

high broker fees for their policies; these fees typically range from 2 to 8 percent of premiums, 

and in some cases may be up to 10 percent. Such commissions are on average greater than those 

paid by larger employers.7

 Second, the fixed costs to a private insurer of setting up and 

administering a firm’s health insurance policy can be spread over many more employees in large 

firms, and thus administrative costs per covered individual are up to three times higher for small 

firms.8 Finally, small firms pay an additional amount per covered individual because of the 

phenomenon of “adverse selection.” Private insurers know that, among small firms, those with 

workers who have high health care needs are more likely to seek insurance, which raises rates for 

other small businesses and prices many firms out of the market.9 

Largely due to the higher costs they face, small businesses are far less likely than large 

businesses to provide health insurance for their workers. Figure 2 shows the fraction of firms 

providing health insurance by firm size. Just 49 percent of firms with 3 to 9 workers and 78 

percent of firms with 10 to 24 workers offered health insurance to their employees in 2008, 

compared with 99 percent of firms with 200 or more employees in the same year. Approximately 

half of firms with fewer than 200 employees not offering health insurance cite high premiums as 

the most important reason for not doing so.10 

The fraction of small firms offering health insurance to their employees has also been declining 

in recent years. From 2002 to 2008, the fraction of firms with 3 to 9 workers offering health 

insurance declined from 58 percent to 49 percent.11

                                                           

6

 Gabel et al. (2006). 

7

 Conwell (2002). 

8

 Congressional Budget Office (2007). 

9

 See Congressional Budget Office (2009a) and Simon (2005). 

10 Kaiser Family Foundation and Health Research and Educational Trust (2008). 

11 Kaiser Family Foundation and Health Research and Educational Trust (2008). 

4
0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

3 to 9 

workers

10 to 24 

workers

25 to 49 

workers

50 to 199 

workers

200 or more

workers

Percent of firms offering health insurance

Figure 2: Employer Health Insurance Offer Rates by Size of Firm, 2008

Source: Kaiser Family Foundation and Health Research and Educational Trust. "Employer Health Benefits: 

2008 Annual Survey." 

Health insurance offer rates also vary substantially with the average wages of employees. For 

example, among establishments with 10 to 24 employees in 2006, 76 percent of those paying an 

average hourly wage over $10.50 offered health insurance, versus just 34 percent of those paying 

an average hourly wage below $10.50.12

Because offer rates are so much lower at small firms, workers in small firms are significantly 

more likely to be uninsured than their counterparts at larger firms. Specifically, 29 percent of 

non-elderly adult workers in firms with fewer than 25 employees were uninsured in 2007, versus 

just 10 percent of non-elderly adult workers in firms with 500 or more employees.13

For those small firms that do offer coverage, the generosity of coverage is much lower than in 

large firms. As Figure 3 shows, workers in small firms have higher deductibles than workers at 

large firms, and the difference has been growing over time. Workers in small firms are also less 

likely to have a choice of plan and tend to have less generous coverage for numerous services.14

This difference in plan generosity is the predictable response to the higher price that small firms 

must pay for any given level of coverage.15

                                                           

12 U.S. Department of Health and Human Services (2009a). It is worth noting that these data use the establishment 

rather than the firm as the unit of analysis. According to the Bureau of Labor Statistics, more than 95 percent of 

firms have just one establishment. However, multi-establishment firms account for a much larger share of 

employment (55 percent), as they have more employees on average. See U.S. Department of Labor (2005a). 

13 The calculation is based on the March 2008 Current Population Survey, U.S. Department of Commerce (2008). 

Further, many small business employees receive health insurance as spouses or dependents of individuals in their 

households who work at large firms. This suggests that the fraction of small-firm employees receiving insurance 

would be much lower if it were not for this practice of “implicit pooling.” See Monheit and Vistnes (1994). 

14 Kaiser Family Foundation and Health Research and Educational Trust (2008). 

15 For more on the burden health insurance imposes on small firms, see Eibner (2008). 

5
1999

1999

2006

2006

$0

$500

$1,000

$1,500

$2,000

$2,500

Firms with <50 employees Firms with 50 or more employees

Real 2008 dollars

Figure 3: Average Employer-Sponsored Health Insurance Family 

Deductibles by Firm Size, 1999 and 2006

Source: Agency for Healthcare Research and Quality. Medical Expenditure Panel Survey Insurance 

Component (MEPS IC): 1999 & 2006. 

Note: Estimates are restricted to plans that have a deductible provision.

Put simply, the current U.S. health care system imposes a heavy tax on small businesses and 

their employees. Those small firms that do offer coverage have to pay a higher cost than their 

larger competitors. To the degree that higher costs are passed on to workers, small firms pay 

lower take-home wages to their employees. Those small firms that do not offer coverage have 

employees who do not receive the substantial tax benefits of employer-provided health insurance 

that their counterparts at large firms enjoy. These employees are more likely to purchase policies 

in the individual market, where they pay much higher rates. In either case, small firms are likely 

to be at a competitive disadvantage in the market for hiring workers. Small firms are likely to 

have a more difficult time than larger firms recruiting potential employees who do not have 

health insurance from another source. Even if a small firm provides the best fit for a worker’s 

skills and interests, the individual may choose not to work there given the implicit tax. 

To the degree that small firms providing health insurance cannot pass on the costs to workers, 

the firms will earn lower profits and be at a competitive disadvantage relative to large firms in 

the markets for their products. A recent study by the Small Business Majority concludes that 

small business profits will shrink over time because of rising health care costs that firms cannot 

fully pass on to workers. Figure 4 reproduces the study’s estimates of small business profits lost 

per year due to rising health care costs without reform.16 In light of these findings, it is perhaps 

not surprising that recent surveys of small business owners have found widespread support for 

health care reform that reduces health care costs.17

                                                           

16 Small Business Majority (2009a). 

17 Robert Wood Johnson Foundation (2008). 

6
$1

$1

$2

$3

$4

$5

$6

$8

$10

$12

$0

$2

$4

$6

$8

$10

$12

$14

2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Billions of dollars

Figure 4: Annual Small Business Profits Lost Due to Healthcare Costs

Source: Small Business Majority. "The Economic Impact of Healthcare Reform on Small Business." June 

2009. 

IV. THE OVERALL ECONOMIC BENEFITS OF HEALTH CARE REFORM

At the most fundamental level, health care reform will benefit small businesses and their 

employees in the same way that it helps all American firms and households. By slowing the 

growth rate of costs and expanding coverage, it will raise living standards, spur economic 

growth, help tame the budget deficit, and improve the efficiency of the labor market. These 

effects will be felt throughout the economy and will help all businesses thrive. Therefore, before 

detailing the ways that reform will particularly ease the burden on small businesses, it is useful to 

summarize the overall economic benefits of reform. 

In a report issued in June 2009, the CEA provided projections of health care expenditures, 

insurance premiums, and other key variables if current trends in the health care sector continue.18

In the absence of reform, we found that health care expenditures would likely rise from their 

current level of 18 percent of GDP to 28 percent in 2030 and 34 percent in 2040. For families, 

this trend would show up in steeply rising insurance premiums and stagnating take-home wages. 

Figure 5 shows our projections of total compensation and compensation net of health insurance. 

Without reform, essentially all of the rise in average compensation due to increasing productivity 

over time would go to health insurance, and essentially none would go to take-home wages. For 

the government, rising health care costs would show up in steeply rising Medicare and Medicaid 

spending and unsustainable increases in the budget deficit. Finally, we projected that the number 

of uninsured people in the United States would rise from 46 million in 2007 to 72 million in 

2040. 

                                                           

18 Council of Economic Advisers (2009). 

7
$0

$10,000

$20,000

$30,000

$40,000

$50,000

$60,000

$70,000

$80,000

1996 2000 2004 2008 2012 2016 2020 2024 2028 2032 2036 2040

Figure 5: Projected Annual Total Compensation and Compensation Net of 

Health Insurance

Real 2008 dollars

Projected

Estimated average total 

compensation

Estimated average total compensation net of 

health insurance

Source: CEA calculations.

The CEA report showed that successful reform that genuinely slows the growth rate of health 

care costs would have tremendous benefits for American workers, businesses, and the 

government. Figure 6 shows our estimates of the impact of slowing the annual growth rate of 

health care costs by different amounts on median income for a typical family of four over time. 

$50,000

$75,000

$100,000

$125,000

$150,000

$175,000

$200,000

2009 2011 2013 2015 2017 2019 2021 2023 2025 2027 2029 2031 2033 2035 2037 2039

Figure 6: Estimated Family Income with and without 

Health Care Reform

Real 2008 dollars

Source: CEA calculations.

Slowing cost growth 

by 1.0 p.p.

Slowing cost growth 

by 1.5 p.p.

Slowing cost growth 

by 0.5 p.p.

Without 

reform

8
We found that reducing the growth rate of health care costs by 1.5 percentage points per year 

would raise family income relative to what it otherwise would have been by nearly $2,600 in 

2020 and by almost $10,000 in 2030. 

Figure 7 shows our estimates of the effects of slowing the growth rate of health care costs on the 

budget deficit. Reducing the growth rate of costs by 1.5 percentage points per year would reduce 

the government budget deficit relative to what it otherwise would have been by roughly 3 

percent of GDP in 2030 and 6 percent of GDP in 2040. Lower budget deficits are obviously 

important for the long-run health and stability of the economy. They are also important for 

keeping interest rates low for American families and businesses. 

0%

1%

2%

3%

4%

5%

6%

7%

2020 2030 2040

Figure 7: Reduction in the Federal Budget Deficit Due to 

Health Care Reform

Percent of GDP

Slowing cost 

growth by 0.5 

p.p.

Slowing cost 

growth by 1.0 

p.p.

Slowing cost 

growth by 1.5 p.p.

Source: CEA calculations.

Draft legislation has been released both by the three House Committees with jurisdiction over 

health care and by the Senate Health, Education, Labor, and Pensions (HELP) Committee.19 The 

Senate Finance Committee is also expected to release a draft proposal shortly. The available 

House and Senate drafts contain several features designed to slow the growth rate of costs. For 

example, the House legislation contains provisions encouraging the use of innovative payment 

structures, such as bundling payments for episodes of care and incentives to reduce preventable 

hospital readmissions. Both the House and the Senate also include increased emphasis on 

research into what procedures genuinely work for patients. President Obama has recommended a 

number of other delivery system reforms that would affect the growth of health care spending 

over time, which are included in reform proposals emerging in Congress. He has also strongly 

supported proposals to provide greater certainty around implementation of the recommendations 

of the Medicare Payment Advisory Commission.20 

                                                           

19 See U.S. Congress, House of Representatives (2009) and U.S. Congress, Senate (2009). 20 Obama (2009). 

9
The CEA report detailed the ways in which coverage expansion is likely to have important 

economic benefits.21 We showed that expanding coverage to the millions of uninsured 

Americans would have dramatic effects on economic well-being. Our estimates suggest that the 

benefits from improved health and the reduced risk of financial disaster would be at least $180 

billion per year. Even after accounting for the costs of such coverage, the net benefits are very 

large. The report also found that improved access to health care would likely have positive 

effects on labor supply by reducing the prevalence of disability and improving workplace 

productivity. 

Reform proposals under review in Congress would substantially increase health insurance 

coverage by setting up an insurance exchange through which uninsured people could purchase 

coverage, without limitations based on pre-existing conditions. The proposals include substantial 

subsidies for low-income families and expanded eligibility for Medicaid for very low-income 

individuals. Coverage expansions would also reduce the “hidden tax” that results from 

uncompensated care of uninsured individuals by hospitals and other health care providers, a cost 

that is currently passed on to the insured population in the form of higher premiums.22

V. THE BENEFITS OF HEALTH CARE REFORM FOR SMALL BUSINESSES AND THEIR EMPLOYEES

In addition to these and many other important benefits of health care reform to individuals, firms, 

and the government, the House and Senate legislation contain a number of features that are 

designed to reduce the burdens that the current system places on small businesses and their 

employees. 

A. Lower Premiums and Higher Quality Health Insurance Coverage in the Exchange 

As discussed above, small businesses typically pay more than large firms for their workers’ 

health insurance coverage. In the current draft versions of the House and Senate legislation, 

certain small businesses would be able to purchase health insurance through an insurance 

exchange. This exchange would allow these businesses to choose from qualified insurance plans 

offered in their geographic area and would provide transparent data on premiums and services 

covered by each plan. 

The insurance exchange will give small businesses that opt to participate a choice among 

multiple health insurance plans at lower prices than they can currently find in the small group 

market.23 The competition created by the exchange is especially important given recent increases 

in the concentration of the small group health insurance market.24 Health insurers in the 

exchange would not be allowed to exclude individuals on the basis of pre-existing conditions or 

to vary premiums without limit based on age. Premiums would be lower because of the increase 

in plan volume and because of reductions in broker fees and underwriting costs. Lower 

premiums should result in greater competitiveness for small firms. 

                                                           

21 Council of Economic Advisers (2009). 

22 Families USA (2009). 

23 Small Business Majority (2009b). 

24 U.S. Government Accountability Office (2009). 

10
B. Tax Credits for Small Businesses that Provide Health Insurance 

Each of the current draft bills provides significant tax credits to small firms that either continue 

to provide health insurance to their employees or begin doing so for the first time. For example, 

the House Tri-Committee bill would allow firms with fewer than 25 employees and with an 

average annual wage of less than $40,000 to receive a credit. The magnitude of the credit would 

be greatest for firms with fewer than 10 employees whose average annual wage is less than 

$20,000, with the credit equal to half of the firm’s contribution for health insurance in this case. 

Thus a firm with 8 employees that paid $20,000 per worker in wages and $8,000 per worker in 

health insurance premiums would receive a tax credit of $32,000. Firms with 10 to 19 employees 

with average annual wages between $20,000 and $40,000 would also receive a tax credit. The 

Senate HELP Committee bill would provide a comparable credit to an even larger number of 

small businesses, with firms employing fewer than 50 workers and with an average annual wage 

of less than $50,000 eligible for a credit. 

To gauge the potential importance of the small business tax credit, it is useful to consider the 

amount that the Congressional Budget Office (CBO) estimates will be spent on it during the 

2010 to 2019 period. According to CBO’s estimates on July 17, 2009 of the House TriCommittee draft, small businesses will receive $53 billion in tax credits during this period.25

These additional funds will allow small business owners, who typically pay higher interest rates 

for loans than their larger competitors, to invest in their businesses and eventually create more 

jobs.26 This credit, like lower insurance premiums, should result in lower costs and thus in both 

higher wages for workers and larger profits for firms. 

C. Exemption from Employer Responsibility Requirements 

Both the House and the Senate bills would give medium and large firms a financial incentive to 

provide health insurance coverage to their employees through pay-or-play provisions. These 

would serve to reduce the financial incentive that some firms have to stop providing employersponsored health insurance. However, firms with payrolls or employment levels below a certain 

threshold would be exempt from these employer responsibility requirements. The proposed 

thresholds would exempt the vast majority of small firms. 

D. Subsidies for Employees in Small Businesses that Do Not Provide Health Insurance

The exchange will also provide better options for workers in small businesses that do not offer 

insurance. The current individual private insurance market is characterized by high prices and 

restrictive rules that hurt workers with pre-existing conditions.27 Under the legislation currently 

being considered, individuals or families could take advantage of improved health choices 

through the exchange. Furthermore, individuals and families with incomes of less than 400 

percent of the poverty line would receive sliding-scale subsidies to purchase insurance. For 

example, under the House bill, a worker with a spouse and two children whose family income is 

$40,000 per year would pay approximately $1,700 for a policy that in the non-group market 

would cost $12,000 or more. That family would also be shielded from very high co-pays or 

deductibles, with an out-of-pocket maximum of $850 or less. 

                                                           

25 Congressional Budget Office (2009b). 

26 See Degryse and Van Cayseele (2000) for discussion of small firm and large firm interest rates. 

27 Kaiser Family Foundation (2008). 

11
The health insurance subsidy that a family of four would receive as a function of income is 

displayed in Figure 8. This figure assumes that in the absence of the policy, the premium for the 

family would be $12,000 per year, and uses the 2009 value of $22,050 for the poverty line for a 

family of four.28 Individuals in families with incomes of less than 133 percent of the poverty line 

would be eligible for health insurance through Medicaid. 

$0

$2,000

$4,000

$6,000

$8,000

$10,000

$12,000

$29,300 $39,300 $49,300 $59,300 $69,300 $79,300

Figure 8: Premium Subsidy for $12,000 Family Health Insurance Policy by

Income 

133% of 

poverty 

400% of 

poverty

Amount of subsidy

Source: CEA calculations, based on draft House legislation.

This figure shows that subsidies for health insurance premiums would be substantial for low- and 

middle-income workers. The subsidy declines as income rises, though it does not completely 

phase out until workers reach a family income of $88,200.29 The subsidies under the Senate bill 

are structured somewhat differently from those in the House bill, but are similar in size and 

scope. To the extent that workers in small businesses will be more likely than their counterparts 

at large firms to purchase insurance through the exchange, they will differentially benefit from 

these subsidies. 

An examination of data from the March 2008 Current Population Survey indicates that 52 

percent of non-elderly adult workers in firms with fewer than 25 workers who are without health 

insurance would be eligible for subsidies for purchasing health insurance in the exchange as 

specified in both the House and Senate legislation. An additional 26 percent (with incomes 

below 133 percent of the poverty line) would be eligible for health insurance through the 

Medicaid program.30 More generally, because workers at small firms are significantly more 

                                                           

28 U.S. Department of Health and Human Services (2009b). 

29 The House bill covers individuals and families with incomes up to 400 percent of the poverty line. (The poverty 

line is indexed to grow with inflation.) 

30 Based on data from the March 2008 Current Population Survey. The survey breaks income as a percent of the 

poverty level into groups; for example, income from 125 percent to 149 percent of the poverty level is one group. 

The numbers in the text assume that one-third of the families in this group have incomes below 133 percent of the 

poverty level, and the remaining two-thirds have incomes above 133 percent of the poverty level.

12
likely to be without health insurance than other workers, health care reform that expands health 

insurance coverage, increases the number of plan options, and reduces premiums will be 

particularly important for employees of small firms. 

E. Increasing Entrepreneurship, Expanding the Pool of Workers Available to Small 

 Businesses, and Eliminating “Job Lock” 

The high prices of health insurance in the non-group and small group markets and the possibility 

that a pre-existing condition will prevent a worker from obtaining coverage at any price distort 

individuals’ career choices. Both factors discourage individuals from launching their own 

companies, and make many individuals unwilling to work for small businesses. Limitations on 

pre-existing conditions create the phenomenon of “job lock,” causing many workers to remain in 

their jobs at large firms even if they would be more productive and better paid at a small 

business.31 

Consistent with this, individuals who are above the age of 65, and thus can obtain health 

insurance through Medicare, are substantially more likely to work for small firms than are their 

counterparts who are just below the age of 65. Table 2 lists the share of workers in the 60 to 64 

and 65 to 69 age ranges working for firms in one of three different size ranges. 

Table 2: Share of Workers in Different Age Groups by Firm Size 

Size of Firm Ages 60-64 Ages 65-69 

1-24 workers 33% 41% 

25-499 workers 25% 23% 

500+ workers 42% 36% 

Source: Current Population Survey, March 2008. 

Among workers between the ages of 60 and 64, 33 percent work in firms with fewer than 25 

employees. At 41 percent, the corresponding share among workers between the ages of 65 and 

69 is substantially greater. This difference strongly suggests that the greater availability of health 

insurance from Medicare encourages more elderly workers to join small firms, and thus that 

reform-induced expansions in health insurance coverage will increase the pool of available 

workers for small businesses. 

By reducing the prices of health insurance for individuals and small groups, and preventing 

insurers from excluding those with pre-existing conditions, health care reform as described both 

in the House and in the Senate bills would remedy these distortions. As a result, entrepreneurial 

activity would likely increase, individuals who would not otherwise work for small firms will 

have increased incentives to do so, and individuals will be more likely to move to jobs that 

provide better matches to their skills and needs. 

                                                           

31 The CEA estimated that the economic costs of job lock were approximately 0.2 percent of GDP per year (Council 

of Economic Advisers, 2009). See also Gruber (2000), Monheit and Cooper (1994), and Madrian (2007). 

13
F. Improvements in Workplace Productivity and Reduced Absenteeism 

Expanding health insurance coverage, both by encouraging firms to provide insurance and by 

creating a well functioning insurance exchange, is likely to improve the health of newly covered 

workers. This improvement has obvious benefits for the workers. But, it may also be beneficial 

to firms because it will reduce absenteeism and perhaps increase productivity. These effects are 

likely to be particularly large for small firms for two reasons. First, because they have a smaller 

pool of workers from which to draw when an employee is out of the office or not working at full 

capacity for health reasons, small firms are more vulnerable than large firms to health-induced 

changes in worker absenteeism and productivity.32 Second, as described above, workers at small 

firms are particularly likely to gain coverage because of health care reform. 

VI. CONCLUSION

Health care reform as envisioned by the President and in the current draft legislation in both 

chambers of Congress will greatly reduce the burdens that the current system places on small 

businesses. This is especially important given the key role that small firms play in job creation 

and innovation. 

Rising costs of health care and high levels of uninsurance have had – and if they are not 

addressed will continue to have – a severe impact on our overall economy, standards of living, 

and the government budget deficit. Moreover, the current system places a disproportionate 

burden on small businesses and their workers. Small firms face higher costs of employersponsored insurance and, as a result, are at a competitive disadvantage relative to large firms in 

both their product markets and in the market for hiring the best workers. 

Successful health care reform that genuinely slows the growth rate of costs will greatly aid the 

overall economy in general and small businesses in particular. Controlling costs will cause living 

standards and take-home wages to rise more quickly for American workers. Reform will lead to 

increases in entrepreneurial activity and to a more efficient allocation of workers throughout the 

economy. And by reducing future federal budget deficits relative to what they otherwise would 

have been, health care reform will serve to lower the cost of capital and reduce future tax 

increases for small businesses, which will lead to more investment and job creation in this key 

component of the economy. 

Perhaps most important of all, health care reform will improve both the health and the economic 

well-being of small business employees through the expansions in health insurance coverage and 

reductions in health care costs. Employees of small businesses and their families are significantly 

more likely to be without health insurance than their counterparts at larger firms. The reforminduced expansions in health insurance coverage will lead to improvements in the health of these 

workers and their families and will reduce their exposure to the risk of medical bankruptcy. It 

will also allow them to enjoy the fruits of their productivity growth in the form of higher wages 

rather than spending those funds on ever-increasing health insurance premiums. 

                                                           

32 Pauly et al. (2002).

14
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