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Medical IRAs-weighing the risks

GOP proponents raise profile of controversial savings accounts

From the April 1995 ACP Observer, copyright 1995 by the American College of Physicians.

By Elaine Zablocki

The notion of tax-deferred medical savings accounts (MSAs), or medical IRAs, as a health reform option was barely considered last year. But this year's Republican-controlled Congress could push the idea into a high-profile debate before the end of summer.

At the center of that debate is the question of whether medical IRAs would lower health care costs by getting patients more involved in health care choices or would instead discourage early, preventive care, and run contrary to the market trend of managed care, actually raising costs.

Under medical IRAs as proposed by Sen. Phil Gramm (R-Texas) last session and reintroduced this year, an employer would take the money now used to buy a standard low-deductible health insurance policy for an employee, buy a high-deductible policy instead, and deposit the money saved in the employee's medical IRA. The employee could use medical IRA funds to cover any health care costs below the deductible. Federal taxes would be deferred on the money placed in the account and on the accrued interest. Any money not spent would be the employee's to keep, with some restrictions.

For example, health insurance for a family of four typically costs an employer $4,500, with the family paying an additional $500 for its share of the policy, including deductibles, according to Sen. Gramm. A comparable policy with a $3,000 deductible would cost about $2,000, so the employer would have $2,500 to put into the medical IRA, while the family would put in $500. The same principles would apply to individual policies for unmarried employees. The self-employed and unemployed would be free to open medical IRAs, under Sen. Gramm's proposal, but would have to supply all the money themselves.

"Most families in the United States already spend less than $3,000 on health care in a single year," Sen. Gramm wrote last year in the New England Journal of Medicine. "And if they knew that whatever was unspent in their medical saving account at year's end would be theirs to keep, I believe they would spend even less."

Notably, medical IRAs fit with the philosophy of high-deductible fee-for-service insurance policies, not with managed care. "Some advocates of medical IRAs ... intend to use them to roll back managed care," says Richard Smith, director for health care policy of the Association of Private Pension and Welfare Plans (APPWP).

At present, employers pay no tax on money spent on employees' health insurance; few individuals can deduct what they spend on health care and health insurance. But employers and employees could put before-tax dollars into a medical IRA or medical savings account. "The medical savings account's main advantage is that it can offset the worst distortions of the current narrow tax loopholes by broadening the loopholes," writes Mark V. Pauly, PhD, professor of health care systems at the University of Penn- sylvania's Wharton School. But in his closely reasoned booklet on medical IRAs, published by the American Enterprise Institute, Dr. Pauly adds that while medical IRAs would remove employers' incentives to spend more on low-deductible policies, they could also encourage employees to spend more on health care because the expenses would reduce taxable income.

Several variants of the medical IRA proposal are on the congressional table. Sen. Gramm's would permit withdrawals of excess funds from medical IRAs at any time, as long as income and payroll taxes are paid, while other bills impose penalties if funds are withdrawn before retirement. Medical IRA money could be rolled into a retirement fund, tax-free, under the 1992 proposal reintroduced last year by former Rep. (now Sen.) Rick Santorum (R-Pa.). Rep. Andy Jacobs (D-Ind.) proposed a version that would permit employers to provide medical IRAs for their employees, but would not extend the option to private individuals. These specifics would have a significant effect on cost (to the federal treasury) and attractiveness (to consumers) of medical IRA proposals.

In addition to the debate at the federal level, quite a few state legislatures have considered state medical IRAs, which would be deferred from state income taxes. Missouri enacted medical IRA legislation in 1993; six additional states followed suit in 1994, while eight passed memorials urging Congress to enact federal medical IRAs.

Will it work?

Critics of the proposal include the Group Health Association of America (GHAA), the trade association of HMOs. "Part of the HMO philosophy is that members sign up for coordinated care, so they have access to early diagnosis," says Debra Oberman, the GHAA's policy associate for government affairs. "One of our key concerns is, with this very high deductible, would people have incentives to seek out the kind of care they need to keep them healthy?"

Some patients might, in fact, buy more preventive services under medical IRAs, says Jack Ginsburg, Senior Associate for Policy Development in ACP's Washington office. Why? "They would have the freedom to spend money for services that might not be allowed by their insurer," Mr. Ginsburg explained.

However, the lure of saving money might lead to different results, notes Howard B. Shapiro, PhD, the College's Director of Public Policy. "Under medical IRA proposals, patients have an incentive to put off preventive care and use the money in their account only when illness becomes severe. Physicians ought to be concerned about medical IRAs if they encourage acute or catastrophic care instead of preventive care."

Proponents say giving consumers more discretionary control over their own health care spending is good--in terms of cutting national spending on health care by making consumers more aware of costs.

Dr. Pauly believes medical IRAs can go even further and actually change the way patients relate to physicians. "To the extent that medical IRAs encourage people to switch away from first-dollar indemnity coverage towards more catastrophic coverage, I think that will make them more resistant to doctors who either want to charge a lot of money or recommend a lot of services. If I had a $3,000 deductible, even if it was covered by an MSA, I'd be more frugal," he said. "So, I think medical IRAs will make patients more rational and skeptical consumers--that is what we hope, actually. Doctors will have to give me a better explanation of why they want to do a PSA test or colonoscopy if I'm spending my own money."

The AMA board in 1994 took a position supporting medical IRAs, calling them "the best approach to strengthen the market for medical care by giving patients the opportunity to be directly involved in their medical care choices and decisions ... medical IRAs have the potential for substantially improving the physician-patient relationship, which has been significantly eroded by the increasing intrusion of third parties."

However, patients should be wary of the proposal, says Clifton R. Cleaveland, MACP, the College's Immediate Past President. "One of my personal concerns is that medical IRAs could create a barrier to patients seeking timely care. Someone with bronchitis may be less inclined to seek early outpatient care, and develop pneumonia. Someone with cystitis might decide to treat themselves symptomatically, and end up hospitalized for septicemia, or severe urinary tract infection," he says. "Medical IRAs shift the burden of discretionary decisions to the patient."

If patients do, in fact, wait until illnesses are severe to get medical treatment, costs will actually rise, says Carmella Bocchino, GHAA's associate director of legislation. "Entering the health care system at a later stage tends to lead to less favorable outcomes as well as increased health care costs overall," she says.

Costs may also increase because of what Ms. Bocchino describes as the "adverse selection" issue: Medical IRAs are likely to attract young, healthy people without family risk factors for disease. "What is left for the remaining insured population is the sicker, less-healthy population with higher health care costs. This will drive up health care premiums in all insurance markets, not just the HMO market," she warns.

In addition, Uwe Reinhardt, PhD, professor of political economy at Princeton University, points out that most health care dollars are spent on major illnesses, not routine care. "Seventy percent of all health spending is done by 10% of the people," he says. "And once you're over the $3,000 threshold the patient has 100% coverage and the incentive to cut costs is limited--you have an open checkbook again."

Who really benefits

Dr. Shapiro is also concerned about equity issues. Under medical IRAs, people in the higher tax brackets would receive the greatest benefit from the tax-deductible accounts. Those at the lowest income levels, who are more likely to lack employer-provided health insurance and be unable to afford to buy insurance, would receive no benefit.

Employers would receive no apparent advantage from the medical IRA concept--they would spend the same amount for an employee's medical IRA and high-deductible policy as they would on a low-deductible policy.

Some employers may wish to offer medical IRAs as an additional option to their employees, but this should be a matter of employer choice, emphasizes Mr. Smith of APPWP, which represents Fortune 500 companies. "We would certainly object if employers were required to offer medical IRAs."

Dennis Gabos, MD, a Pittsburgh internist and cardiologist and a strong supporter of medical IRAs, scoffs at these concerns. "Medical IRAs will create the same incentives we encounter every day in our common free-market lives," says Dr. Gabos, a self-described opponent of HMOs. "Actually, with medical IRAs patients have an incentive to purchase preventive care, since they now have funds in their medical IRAs, which they control, available for preventive care."

Dr. Gabos argues that medical IRAs would help low-income people buy health insurance, because high-deductible policies are available at relatively low cost. In addition, medical IRAs would cut administrative costs for health insurance, he believes, because insurers would no longer need to deal with the mass of paperwork for low-dollar claims. "Insurers would have less income and less fat in their own system," he says. "We would see a downsized, more honest insurance industry, more likely to act as patient advocates and negotiate lower charges for high-ticket medical costs."

However, Princeton's Dr. Reinhardt points out that in order for a patient to prove he has met the deductible, he must save every bill, and someone at the insurance company has to review every bill. "You don't really save that much bureaucracy in this proposal," he says.

Paying for the proposal

In addition, since medical IRAs would expand current health insurance deductions, they come with a substantial price tag in terms of diminished tax revenues. There will undoubtedly be some preliminary skirmishing in Congress as participants in the debate define the cost of medical IRAs, which would depend on details of the proposal, and discuss ways to offset the cost. All of this means that medical IRAs are not likely to pass Congress immediately, but there is a good chance some form of medical IRA will pass within the next two years.

ACP's Dr. Shapiro notes the potential social cost of medical IRAs. "If they're paid for by cutting spending for public health programs or Medicare or Medicaid, again you are negatively affecting lower income people in order to benefit higher income people-it's almost double jeopardy," he says.

In his booklet, Dr. Pauly argues that while "the MSA device has merit compared with current tax policy, it is unlikely to produce the significant improvements in the efficiency of medical care foreseen by its proponents.... It may even be worse than the current policy."

In a conference held under American Enterprise Institute auspices last month, Dr. Pauly and John C. Goodman, PhD, president of the National Center for Policy Analysis in Dallas, presented a proposal that combines fixed-dollar tax credits, catastrophic coverage and medical savings accounts. "Government policy should be one of neutral incentives," they said. "All third-party insurance contains an inherent distortion. We cannot avoid this distortion, but we can contain it."

Drs. Pauly and Goodman would offer a tax credit to any individual or family who buys at least basic catastrophic insurance coverage. The tax credit would cover part but not all of the premium cost. Unlike other proposals, this version of the medical IRA would do something to help low-income people obtain health insurance. It would eliminate distortions in tax incentives by allowing people to deposit after-tax dollars in the medical IRA.

Elaine Zablocki is a freelance writer in Arlington, Va., who specializes in health care issues.

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